GLOBAL IRON ORE TRADES: CHINA SEEKS TO REDUCE DEPENDENCE ON EXPORTS FROM AUSTRALIA

China seeks to reduce dependence on exports from Australia Global iron ore trades

An unresolved riddle for commodity analysts is whether prices of raw materials used in steelmaking, iron ore, metallurgical coal and ferro-alloys are moved by how steel behaves in the market — or it is the other way round? writes Kunal Bose. Going back into recent times, it will be found that prices of iron ore, constituting the largest raw materials cost element in steelmaking and of steel have moved in the same direction since 2010. However, prices of iron ore and steel were disjointed in 2018. But why did this happen? According to S&P Platts Analytics, in fairly long-time ore prices, then moderately range bound were not moved by rising steel prices. Considering that China moves its mammoth steelmaking machine by using imported iron ore — mainly from Australia and Brazil and to a lesser extent from producers such as India, Russia and African countries — the volume of its buying should automatically have an important bearing on the mineral price.

Political frictions between Beijing and Canberra are rising, more recently because of Australia deepening its involvement with the Quad grouping with the US, Japan and India forming an anti-China tag team in the Indo-Pacific. But even then China will find it difficult to wrestle itself away from over 62% dependence on supplies of iron ore from Australia. The very distant Brazil has a share of more than 21% of Chinese ore imports. China gets supplies of close to 17% of the steelmaking ingredient from other sources. Considering that China raised ore imports from Australia by 7% to 713mt (million tonnes) in 2020 (source: China’s General Administration of Customs), it will not be easy for Beijing to reduce its dependence on the world’s by far the biggest supplier of ore, whatever it may say about diversifying its import sources. Brazilian supplies last year was up 3.5% at 235.7mt. Imports from India rose sharply to 44mt from 23.8mt in 2019 and these constituted the most in nine years.

Almost two-thirds of Indian exports to China had less than 58% iron content. Interestingly, Indian steelmakers have no appetite for ore with less than 62% iron (Fe) content and their marked preference is to use lump ore. According to Indian Bureau of Mines, the country is endowed with iron ore resources of 31.32bn tonnes, including 20.576bn tonnes of haematite and magnetite at 10.747bn tonnes, that should be good to fulfil requirements of the domestic steel industry. It should also leave enough surplus for exports. Despite this, though, Indian iron ore export policy has been marked by uncertainty and globally unpopular export duty, which also was subject to changes from time to time much to the dislike of importers. Now secondary steelmakers with a share of 40% of India’s steel production have launched a major campaign based on what they claim the prevailing “abnormal prices of iron ore and pellets” for “restrictions” on export of raw materials. The easy supply of both iron ore and pellets, however, puts paid to their demand. Moreover, Indian miners have traditionally taken price cues from their global peers.

China will be putting a few bets on India because of its export policy zigzags. Then where does Beijing look to wherefrom it could secure large volumes of ores on a long-term basis for reducing its dependence on Australia and also imparting price discipline on big miners? West Africa’s Guinea where at Simandou lie the world’s largest reserves of unexplored high quality iron ore. At the 110km range of Simandou hills, blocks No1 and No2 are holding approximately 3.6bn tonnes of high quality ore with ferrous content of 65.5% and above. But the principal challenge of opening mines at Simandou will be to build an approximately 650km railroad and also a modern deep sea port for ore shipments in bulk carriers. The project has been in discussion since 2010 but the enormity of the task of developing time-consuming infrastructure of the kind that Simandou demands and raising funds proved to be too much for

Rio Tinto, the original promoter.

Through all the ups and downs that the ambitious Simandou project had gone through, the Chinese interest has remained intact. Lauren Johnston, a research associate at SOAS China Institute of the University of London told Nikkei that “extraction of Simandou’s iron ore reserves would transform the global market and catapult Guinea into an iron ore export powerhouse alongside Australia and Brazil.”

He further said in case China unlocks the prized resources at Simandou hills and drives a fall in international iron ore prices then “it could see selective commodity markets increasingly driven by intradeveloping country dynamics.” The Simandou project as it is now is split into four blocks with China holding either a direct or indirect stake in each. The experience that China has gained in building infrastructure in a cost-effective way in different countries under the Belt and Road initiative will come to its advantage while executing the railway and the port in Guinea.

Being such a big buyer of iron ore in the world market — China’s imports of 1.17bn tonnes in 2020 were ahead of the earlier record of 1.075bn tonnes in 2017 — the country serious about acquiring mining assets in Africa and Latin America and seeking to secure increasingly bigger supply from a host of countries other than Australia would naturally want to keep the ore prices low to protect margins of steelmakers. Beijing knows it too very well that the country’s steel production rise of 30% in the last five years to 1.170bn tonnes in 2020 in an environment when iron ore supplies remained virtually stagnant is bringing rich rewards to miners. According to US Geological Survey, the world iron ore production at 2.4bn tonnes in 2020 showed a small decline over 2019. The five leading producers of the mineral during 2020 were Australia (900mt), Brazil (400mt), China (340mt), India (230mt) and Russia (95mt).

Unquestionably, in the fertile environment of high iron ore prices capacity expansion by big and small miners should be a given. But global commodity specialist Argus says: “The larger Western Australian iron ore mining firms — BHP, Rio Tinto and Fortescue — are more reluctant to invest in major growth projects for their key direct shipping of ores, as they eye short-term competition from increased Brazilian production and longer-term competition from the development of large African deposits. But the smaller firms are prepared to fill the gap, particularly for lower-grade iron ores, whose stocks were sold in early 2019 when prices were strong and have not been rebuilt.” Argus further says while the big miners stay cautious in opening new mines, smaller producers will commission around 10mt new capacity by 2021 end with another 110mt capacity waiting to be developed.

China, in order to become a sobering influence on iron ore prices and cut its dependence on its biggest supplier of the mineral for growing political tensions, is planning big ticket investments in Guinea and other places. However, the question being asked is why, apart from China, are big miners including BHP Billiton, Rio Tinto, Brazilian Vale — which encountered a major accident at Brumadinho when a dam collapsed in February 2019, releasing torrents of dark orange mine-waste sludge and killing as many as 270 people — and Fortescue are mostly engaged in creating new capacity compensating for production shutdowns in some ageing mines. No doubt the new mantra for the industry is to exercise capital discipline after the bitter experience of a good portion of investment of $1 trillion in new mines projects over a 15-year period since 2010 coinciding with China’s insatiable hunger for all kinds of minerals turned sour inviting wrath of shareholders. The Economist says: “After a round of firings, a new generation of mining bosses promised to do better. In the past few years, value not volume became the industry’s watchword.

“So far the miners have kept their promise. Although capital spending in the industry has grown since 2015, it is still 50% below its peak in 2012. Most of that has gone on sustaining current output, not adding new capacity.” High metal prices that have elevated prices of iron ore and many other minerals in their wake have not in any way changed the capital discipline now rigorously practised by mining bosses. For a long time to come, industry leaders will not forget the consequences of torching shareholder value, including sacking of CEOs. As The Economist points out: “In the past 18 months three of the big

five (mining groups) got new bosses. In January 2020, Mike Henry took the reins at BHP. A year later, Jakob Stausholm became boss of Rio Tinto.”

More recently, at the beginning of July, Gar Nagle took the reins at Glencore. Incidentally, iron ore and fossil fuels account for over half the revenues from mining for the big five and three-quarters of their gross operating profits. An interesting point that The Economist makes is that “much of the cash flowing in thanks to surging commodity prices is going back to shareholders in record dividends and buybacks.” No wonder then shareholders benefiting from generous dividends and share buyback at highly attractive prices have become averse to companies risking capital in long gestation projects, which invariably encounters local protests and come under intense scrutiny for impact on environment and communities living in areas surrounding project areas.

What about BHP Billiton opening a new giant South Flank mine in Central Pilbara in Western Australia at an investment of $3.6bn? The ore extraction at South Flank that began on 20 May 2021 will in the beginning produce at an annual rate of 40mt. But in three years, supply from the mine will rise to 80mt. Edgar Basto, BHP president of Minerals Australia says: “South Flank is Australia’s largest new iron ore mine in over 50 years and has been delivered safely on time and on budget. South Flank’s high quality ore will increase Western Australia’s average iron ore grade from 61% to 62%, and the overall proportion of lump from 25 to 30–33 per cent. South Flank’s ore will supply global steel markets for the next 25 years, helping to build electricity, transport and urban infrastructure across the globe. And its high-quality ore will have an important role in helping BHP customers lower greenhouse gas emissions.”

The successful execution of South Flank project will not, however, increase Australian iron ore exports as it is to replace BHP old mines earmarked for closure. The more a mine becomes old, the lower the quality of the extracted ore, especially the share of lump in total production, raising cost and seriously affecting operational margins. South Flank commissioning and progressive step-up in production will, therefore, be protective of BHP high profit margins. Luck plays an important role in the form of how ore prices behave when go-ahead is given for undertaking a highly capital intensive new mine project and at the time it starts actual production. Three years ago when work at site started on South Flank, iron ore was selling at less than $70 a tonne. When production started recently, the price was around $220 a tonne. No wonder BHP is expecting payback of capital cost of the mine in less than 12 months, which is rarely the case.

BHP depends on iron ore for most of its profits. Experts estimate that industry leaders benefiting from sizes of their operation and levels of mechanization have been able to keep their cash cost at approximately $20 a tonne. They also say even after allowing for all costs, miners such as BHP, Rio and Fortescue have all made enormous profits during the current boom. On 12 May, iron ore cargoes with ferrous content of 63.5%, delivery at Tianjin commanded a very high price of $237.57 a tonne, on declining stockpiles in China and concerns over supply. This ore variety, however, fell to $220 a tonne at July beginning. Since iron ore prices continued to rise from July 2020 with occasional blips, Macquarie Bank has forecast a 74% increase in BHP’s profits during the year ended June 2021.

One thing is there, the capacity available with the world iron ore miners should be enough to meet the demand of steel industry for a good number of years. China perhaps will maintain its steel capacity more or less at the current level. After shedding ageing capacity, the country did add 40mt new steelmaking capacity in 2019. Much of that is in effect net capacity as the newly commissioned facilities replaced the ones that had been offline for a good number of years, says Platts Analytics.

While not much happened last year on Chinese steel capacity front, the world’s largest steelmaker with share of 57% of global output in 2020 will be commissioning around 28mt in 2021. Under India’s 2017 steel policy, the country is chasing a target of 300mt to fulfil a finished steel demand for 230mt by 2030. To support production of that order, India’s iron ore requirements by 2030 is estimated at 437mt.

Meeting that kind of target domestically in the presently available policies relating to mines auctions and then many successful bidders having paid high premiums abandoning projects looks highly challenging, says RK Sharma, secretary general of Federation of Indian Mineral Industries (FIMI). This is not to be contested since in the last three years India’s iron ore production was 206.44mt in 2018/19, 246.08mt in 2019/20 and 203.92mt in 2020/21, says BK Bhatia, joint secretary general of FIMI. Sharma is distraught that India has remained a sloth in exploration, with foreign groups hardly showing any interest in it because of policy drawbacks and unsure of rewards, to convert resource into proven reserve. Unless there is strong revival in exploration and New Delhi makes an analysis of if auctions of mines has given any results and then goes back to the old system of first come first serve, the 437mt supply in 2030 from local sources will remain impossible to achieve.

BHP Billiton’s giant South Flank Mine.

Record ore prices this year, are bringing high profits to mining companies. But will such prices persist, or are they an anomaly?

Mining companies the world over are celebrating the record prices of iron ore. This is allowing companies such as Vale, Anglo American and Rio Tinto to reduce debt levels and increase investments and profits. The price of Brazil’s high quality ore, which contains about 65% of mineral per tonne of rock, which makes it extremely popular, passed the $225 per tonne mark in April. Two important questions now arise, however. What caused the ore price to surge and what happens next?

The reason for the record price rise, is by far the easier question to answer. On the one hand, supply has fallen — partly due to production restrictions in many countries, caused by the Covid pandemic — while unusually wet weather in Brazil delayed shipments to ports. The sharp increase in demand has been largely caused by the unexpectedly fast recovery of China’s economy, one of the countries in the world least-affected by the pandemic. This has seen demand for Chinese made goods, both on the domestic market and for export, recover much faster than anticipated. The amount of steel produced in China this year is on course to be at least 15% higher as in 2,020. Some analysts suggest that the current strong demand for ore in China is a repeat of what happened in the early 2000s, indicating that a ‘super cycle’ in demand for all commodities is under way once more, as China embarks on a new round of infrastructure investments. But Vale’s chief executive, Eduardo Bartolomeo, does not agree. Bartolomeo sees the present surge in demand as being because of the faster than expected recovery of the economies of most of the other industrial countries, not least the United States. US president Joe Biden seems to have decided that the best way to prevent a Republican victory at the next election, something which could involve the return to power of Donald Trump, is to make massive investments in infrastructure renewal, and by this means to attract support for his government.

This policy for growth is likely to be copied by several other Western nations. Many of these have also decided that a return to traditional fiscal policy, involving balancing the books, is not the answer when the economies of so many countries have had to be bailed out by a increase in government borrowing. So for many reasons, ore prices can be expected to fall only slowly, at least in the short term. Will both exporters and importers be affected to the same extent? Or will other factors, notably the growing concern about the impact of climate change also play a part. Evidence for this is now growing fast, and could impact the production and export of ore, fundamentally changing the market in the future.

One important sign of the times is the growth in the use of electric arc furnaces, which use scrap metal as their raw material, rather than ore and coal. Although scrap is now only responsible for an average of about 30% of the steel made worldwide, the percentage of scrap used varies greatly. It ranges from a low of only 12% in the case of China, to a massive 85% in countries in the Middle East, where electricity can be produced cheaply. Italy too is fairly near the top of the scale, with 82% of the steel produced there made from scrap. In the USA, 68% of all the steel made there also uses scrap.

Cheap electricity is not the only reason for the increased use of scrap in steel making. The other is the greater availability of scrap itself. So it is not surprising that in mature economies such as that of the United States, as well as most countries in Western Europe, a significant proportion of their massive fleets of automobiles and trucks, as well as domestic appliances, are being scrapped each year. Even many elderly buildings are now being demolished, to be replaced by more modern ones, all of which is guaranteeing a steadily increasing supply of scrap.

Although China is now the world’s largest market for motor vehicles, the fleet there is still relatively young. So it will be many years before the scrap supply in China is abundant, and much of what is used, now has to be imported. But as consumer durables in China begin to age, more scrap will eventually be available there as well, and less ore will soon be needed.

China is also one of the countries most severely affected by pollution and the government there is worried about it. Officials have been pressing for many of the elderly mills, where blast furnaces are DCi

now used, to replace these by less polluting ones using scrap. At the same time as the demand for scrap is rising, many the remaining older generation of mills, seeking to pollute less, are switching to using higher-quality ores, such as those produced in Brazil and Australia. The best of these ores can demand premiums of up to 35% higher than the average price.

High-quality ores are easier to process, and are less polluting than lower-grade ores. As pressures increase for all countries to take climate change issues more seriously, so does demand for higher quality ores. This should ensure that countries such as Brazil, as well as Australia, will see demand for their ore remaining at current levels for much longer than producers and exporters of low quality ores such as India will do.

Countries whose reserves of higherquality ores are shrinking fast, notably in China itself, which now imports more than 60% of all the iron ore traded each year world wide. Although Vale’s ore exports have fallen well behind expectations in the past couple of years, and an output hoped to reach 400mt (million tonnes) by now, has not happened, it seems likely that demand for Brazil’s ore will remain strong for some time, notably because of continued demand from China, at least for a few more years.

Whether the company will expand production at its new Carajas mine to the planned 450mt, remains to be seen. It seems inevitable that total demand for iron ore will start falling soon, as the impact of global warming intensifies, and more mills switch to using scrap. The supply situation is further complicated by the fact that mining companies themselves are coming under increasing pressure regarding their contribution to global warming and climate change. While a decade ago, companies such as Vale faced muted criticism for allowing dams such as that at its Sobradinho mine to deteriorate, and collapse, these days such failures, which cost more than 100 lives, are attracting much more attention. Vale is also lagging behind the Australian mining companies such as Rio Tinto, Anglo-American and Fortescue, on Dow Jones’s ‘Sustainability Index’. The Brumadinho incident has already cost Vale several billion US dollars in compensation.

Another growing problem is the increased amount of criticism of mining by indigenous people. Several places where Vale operates in Amazonia, are in areas where Indians have prior claims. These includes stretches of the railway which takes ore from the Carajas mines to the port of Itaqui. In the past, protests by Indians have halted trains, and this can be expected to increase, as worldwide concern about the rights of indigenous people rises, so Vale can be expected to likely to attract further unwelcome attention from this source.

Whatever the long-term prospects for iron ore are, for the time being Vale is not the only company in Brazil planning to push up its production. Anglo American, whose 157km-long slurry pipeline was damaged by an explosion a couple of years ago, now has plans to increase exports it its mine from the present 24mt a year, to 30mt in a couple of years’ time.

Brazil’s leading steel maker, the CSN company, also plans to increase the amount of ore it exports each year, to 40mt, at a time when it is selling various assets to pay off debts. The production and export of Brazil’s pig iron, most of which comes from Minas Gerais state, continues to do well. Mills there have been working at 85% of capacity, while 67% of the production of its 46 smelters is now being exported to China. Pig iron prices rose to $500 per tonne in 2020, compared with $300 a tonne a year earlier.

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