Lower spot premiums threaten China iron ore contracts

A fall in floating spot premiums for mainstream iron ore grades is forcing some Chinese mills and trading firms to sell contracted supplies at a loss, raising the possibility that some may book fewer contracts with mining companies in the second half of this year.

Contract buyers are making losses reselling long-term contract cargoes of Fortescue SSF and blended fines, Jimblebar fines, Mac fines, PB fines and PB lump.

The most affected are trading firms that typically pay higher premiums than mills in contracts, and particularly traders that have signed contracts with less flexibility to change the delivery port.

A sharp slide in the spot floating premium for PB fines, among the most liquid iron ore grades in the Chinese market, has alarmed contract buyers. Sellers are making losses on resales of long-term contract cargoes in seaborne and portside markets.

Buyers could rethink renewals of long-term contracts in the second half of the year if floating premiums for mainstream brands remain low over the next few months, said the manager of a Shandong-based mill.

But mills are unlikely to make any hasty moves to cut purchases of long-term contract cargoes, as they are booking strong profits of 600-1,000 yuan/t ($95-158/t) on steel sales, making them keen to avoid being caught short of high-grade ores.

Most long-term contracts between mills and mining companies likely include restrictions on further sales. But the persistent premium of spot cargoes to long-term contract cargoes creates an arbitrage that many steelmakers have sought to profit from through resales.

Even mills that do not resell their ore watch the arbitrage closely, in case they can secure material at a lower price in the spot market.

"Ample supply, especially of producers' seaborne cargo sales, has made reselling our long-term contract cargoes more difficult and halted improvement in floating premiums in the near term," a Chinese mill trader said. "I am not optimistic that our resale will break even soon, as our contracts are mostly combined cargoes of PB fines and PB lump that have lower floating premiums than pure PB fines cargoes."

PB fines was trading at floating premiums of $1.20-1.30/dry metric tonne (dmt) in early March, but fell below $1/dmt by the end of March. Premiums fell to 50-70¢/dmt in early April then to 10-30¢/dmt by the end of April in platform deals. The premium has fluctuated in a wider range in May, between a discount of 30¢/dmt and a premium of 20¢/dmt on platforms. Flat premiums for PB fines are more common when the grade is paired with a PB lump parcel.

Mills and trading firms rarely make losses on resales of long-term contract cargoes, especially PB fines, which attract a reasonably strong premium. But the sharp fall in iron ore prices in early March left sellers unable to resell long-term seaborne and portside cargoes at a reasonable margin. The Argus ICX 62pc seaborne fines price has fallen by 16pc since 28 February, stagnating around $63-69/dmt since late March.

Buyers are pushing for discounts, which sellers have so far mostly resisted.

Floating basis PB fines cargoes have traded on screen this week at premiums of 20-25¢/dmt to the June 62pc index, while off screen a mid-June laycan unconfirmed trade was done at a 10¢/t premium to July 62pc index.

A 170,000t cargo of PB fines was bid at a 50¢/t discount to June 62pc index for a 3-12 June laycan on the Globalore platform today, while a similar cargo with a 12-21 June laycan was offered at a 45¢/t premium to June 62pc index.

Spot supply of BRBF fines, PB lump, Newman Blended lump and Fortescue fines has been robust in seaborne and portside markets over the past month.

Additional port delivery restrictions in contracts are further deterring mills and trading firms from doing floating basis spot trades. Some mills can only choose two nearby ports for delivery and must pay extra to deliver to other ports, limiting resale. Contracts have other conditions, such as designating the shipping agent by the mining firm, which add costs to resales, a Singapore-based trader said.

Floating discounts could also shift trade to portside markets, rather than lead to fewer contract renewals. Widening floating discounts for SSF fines led its seaborne trade to mostly disappear from the market in the second half of 2017, but portside trade in SSF fines remains active by trading firms holding contracts with Australian producer Fortescue Metals.