Shifts in iron ore brand differentials are forcing China's Dalian Commodity Exchange (DCE) to referee physical settlements of its iron ore contract with its adjustments unable to keep up with the market.
DCE updated its fixed quality adjustments for physical settlement for its September 2018 contract. The changes were meant to keep the contract's premiums and discounts in line with spot market spreads between products, but these relationships were proving to be volatile.
DCE limited the use of mining firm Rio Tinto's RTX fines for physical settlement for its March 2019 contract. A Chinese steel mill applied to settle 80,000t of RTX against the March contract, but the DCE only allowed 20,000t RTX to be used to settle. This is despite the RTX brand being within the DCE's range of specifications permitted for physical settlement.
The DCE's target specification is 62pc Fe, 4pc silica (SiO2), 2.5pc alumina (Al2O3), 0.07pc phosphorus and 0.03pc sulphur. Its allowable percentage of gangue elements silica plus alumina is 8.5pc.
The RTX typical specification is 61pc Fe, 4.2pc silica, 3.1pc alumina, 0.13pc phosphorus and 0.05 sulphur. The closest comparison is with mining firm BHP Billiton's JMBF fines, with a higher quality of 61.15 Fe, 4.48pc silica, 2.92pc alumina, 0.11pc phosphorus and 0.02pc sulphur, a trader said. The difference between the two for physical settlement is around 18-20 yuan/dry metric tonnes (dmt), the trader calculated. The DCE contract and adjustments are in Yn/dmt.
Narrowed profit margins and an iron ore price spike has driven renewed cost cutting by mills in 2019, shifting iron ore buying to the lower end of prices. The increased demand has narrowed the discounts for lower-priced 62pc Fe mainstream fines and sub-60pc Fe fines. The shift was so significant that the old concern that DCE adjustments did not fully account for market discounts could flip to a new concern: the adjustments overstating market discounts.
The portside spot markets discount for RTX narrowed so much in April that it at times traded at a discount narrower than what DCE adjustments would apply.
At Rizhao port last week, RTX traded at Yn620/wet metric tonne (wmt), a Yn15/wmt discount to a JMBF trade at Yn635/wmt the same day. Portside spot sales are in Yn/wmt including moisture. Assuming 8pc moisture, a Yn15/wmt differential is equivalent to Yn13.80/dmt on a dry basis.
A narrowing of discounts has also discouraged physical settlement of the DCE contract, traders said.
JMBF had been favoured to physically settle the DCE contract, but this use had dropped off with its narrower discount to Rio Tinto's PB fines. Another hurdle for buyers are the DCE fees for storage and delivery that add up to around Yn20-30/dmt, market participants said.
| Dalian Commodity Exchange iron ore adjustments | ||||
| Adjustment | Min/Max | Change | Range | Yn/dmt adjustment |
| Fe | >60% | Per 0.1% | 60-62% | 1.5 |
| Fe | Per 0.1% | 62-65% | 1.0 | |
| Fe | Per 0.1% | 65%+ | no extra premium | |
| SiO2 | <=6.5% | Per 0.1% | 4-4.5% | 1.0 |
| SiO2 | 2.0 | 4.5-6.5% | 2.0 | |
| Al2O3 | <=3.5% | 3.0 | 2.5-3% | 1.5 |
| Al2O3 | 4.0 | 3-3.5% | 3.0 | |
| P | <=0.15% | 5.0 | 0.07-0.10% | 1.0 |
| P | 2.0 | 0.10-0.15% | 3.0 | |
| S | <=0.20% | 5.0 | <=0.20% | 1.0 |
| Source: DCE | ||||
