By Nick Ristic
Red-hot iron ore market
Iron ore made headlines last year as prices rocketed by 75% to nine-year highs. Disappointing output from Brazil, combined with strong demand and a stock rebuild in China helped to squeeze the seaborne market. December’s rally also appears to have been driven by heightened speculation on Chinese futures contracts, prompting authorities to place restrictions on trading volumes. With unit costs as low as $12/t, the largest Australian shippers have sought to ramp up output and maximise revenue, while smaller mothballed projects are reportedly being restarted. Australian shipments over 2020 totalled 936.5m tonnes, 5% higher YoY.
As we enter the new year, prices remain elevated - currently just under the $170/t mark - and the futures markets seem to be pricing in only modest falls in value over the next few months. The SGX June 2021 iron ore contract is trading above $150/t at the time of writing. As such, Australian producers are incentivised to sustain high levels of output, and their concerns about oversupplying the market appear remote at this time.
And, as always, Cape rates and iron ore prices will be heavily affected by weather conditions over the first half of this year. Cyclones in Western Australia and the rainy season in Brazil have done far more to restrict iron ore output over the last two years than so-called ‘black swan’ events, such as the Brumadinho dam collapse and Covid-19 related issues. With supply problems in Brazil persisting so far this year, Australia remains the driving force in the Cape market at the moment, evident in the near-$9,000/day premium a C5 TCE holds over that of a C3 voyage currently. Poor conditions in China are also contributing to congestion and supply tightness in the Pacific.
We expect the rainy season and scheduled maintenance in Brazil to continue to throttle shipments over the next few weeks and restrict cargo supply, but we will also be watching the ballaster list for signals of an upswing in this volatile market. Brazilian shippers will also be competing with those in West Africa, which could support rates in this basin.
China’s steel complex
While iron ore futures are pricing in expectations of tight supply, there are signs that China’s demand for iron ore will cool this year. We believe that China’s spending and economic growth will become less steel-intensive over the coming years, and that stimulus efforts will be restrained. But China’s carbon-neutrality ambitions have also put blast-furnace steel production, which is one of the largest sources of CO2 emissions in the country, in the crosshairs. Recently, authorities have reclassified certain scrap steel products, allowing them to be imported for recycling purposes. This could hint at a greater role of electric arc furnace steel production in 2021 and beyond, and lower demand for iron ore, though with scrap steel prices currently high, margins for recycling steel are not yet supportive of a significant increase of this form of production.
China - Australia tensions
Worsening relations between China and Australia spilled into the dry market towards the end of last year, in the form of an official ban on imports of Australian coking coal. 23 Capes and 52 Panamaxes remain outside Chinese ports, unable to discharge, with a median waiting duration of over 90 days so far. As a result, coking coal prices in China have surged, and the ban has already reshaped trade flows. We saw some of the cargoes waiting in China diverted to nearby countries such as Vietnam and South Korea, while India’s share of Australian exports grew over the last few months.
China’s total imports over Q4 2020 were the lowest in three years, standing at almost 51m tonnes. Shipments from Indonesia jumped as monthly import quotas were relaxed, but it is unlikely that China can supply its needs for coking coal from sources other than Australia.
Purchases from Russia and the USA have increased but even if these relatively small producers sell all of their product to China (leaving Australia to supply their markets), volumes will likely not be able to pick up the slack from Australia, adding more pressure to ease the restrictions.
The elephant in the room is of course iron ore trade. China relies extremely heavily on Australia as a supplier for the steel ingredient, and with the market already tight, we believe Beijing will be deterred from placing restrictions on this trade by the likely economic consequences. However, developments in Sino-Australian relations this year may provide some insight into longer-term trends for iron ore. For example, a persisting hard-line stance on Australian coal and other goods and may signal a greater share of iron ore trade from Brazil in the future, or more speedy development of iron ore projects elsewhere, such as Guinea.
China - US relations too...
Though it was overshadowed by the pandemic, the dry market enjoyed better trade relations between the US and China in 2020, which saw grain trade between the two countries more than double YoY to almost 36m tonnes. As US soybean exports appear to have recovered, weather-related crop destruction in China in 2020 also increased the country’s appetite for corn imports. US - China corn trade on bulkers hit a record 2.7m tonnes over Q4 last year and has remained strong so far this year, helping to push Supramax and Panamax rates to multi-year highs for January.
But with 2021 being a year of presidential transition in the US, there is a risk that this dynamic could again be disrupted by politics. It is still unclear how a Biden-led US will interact with China but if tensions around trade do flare up again, the grain trade may fall back into the crossfire. This is in addition to the risk of wider economic fallout, which weighed on the global economy, and thus global investment and raw material demand, in 2019.
Argentinian corn
We’re also seeing shake-ups elsewhere in the grain market. Argentina recently announced an export ban on corn, due to last until the end of February, to counter food price inflation. Seaborne corn prices have soared as a result, and the news comes weeks after a ports strike in December, which prevented bulkers from loading grains. January and February are the seasonally weak points for corn shipments from the world’s third largest supplier, but these volumes still amounted to 6.4m tonnes in Q1 2020 and around 30% of Argentina’s total agribulk shipments over this quarter. While the portion of Argentina's supply that is held back from the export market is likely to be limited (reportedly around 11% of the 2019/20 crop), it still represents a shortfall in seaborne trade with potential for long-lasting effects on buying patterns.
Scrapping
Removals of over-age ships last year took longer to get going than we had expected at the start of 2020, owing to a combination of shuttered demolition yards in the first half and a strong freight environment in the second. However towards the end of the year we saw a meaningful increase in removals of these vessels. Aside from the converted VLOC fleet, which was gradually demolished over the year, in Q4 we recorded 6 Panamax removals.
This figure is relatively small, but it does represent a significant uptick in demolitions and is greater than annual removals in 2018 and 2019. Similarly, the end of the year saw the highest level of Supramax and Handy removals since 2017. A still-sizeable scrap pool and strong demolition rates on the back of high steel prices will likely translate to more scrapping this year, helping to combat oversupply.