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China is turning the screws on iron ore prices. The country has changed its earlier benign approach towards rising metal prices and while its focus remains on iron ore for now, there's no saying when it shifts attention to others.
On Monday, the FT reported that China’s National Development and Reform Commission, the economic planning agency, would crack down on monopolies in commodity markets to curb the ‘spread of false information and hoarding’. The immediate effect was on Dalian iron ore futures that fell by 7 percent to $163 a tonne. Prices are now down by a fourth from a record high earlier this month. Iron ore prices have soared in recent months, continuing a rally seen in 2020, with prices now over twice of that a year ago. China’s ability to crack down on the iron ore market could go beyond warnings, with measures such as discouraging financial investors and storage of the metal by traders. If metals are seen as a riskier bet then investors could unwind positions sending prices lower.
It’s difficult to explain why China has had a sudden change of heart on metal prices. Perhaps, it sees higher commodity prices becoming a hurdle for economic growth, since rising prices of everything from steel, aluminium, copper and other metals mean everything turns expensive. But this was known even six months ago, as prices did not start going up last month. As many things China, the reasons may remain unexplained. But what matters is that China wants iron ore prices to fall and it will take progressive steps till that happens.
Remember, the rally in metal prices in 2020 was mainly attributable to China, to begin with, as the country became a net buyer when the rest of the world economy turned weak due to the pandemic. The country not only imported raw materials and encouraged its factories to churn out metals but also created a market for it by spurring consumption and investments through a fiscal and monetary stimulus. How much of these metals have been hoarded by speculators is also not clear but is estimated to be sizeable. Of course, later, as the world economy came back to life, the metals rally acquired stronger legs.
But when China changes its stance, it is bound to affect metal prices and that’s playing out in iron ore prices. Even now, prices are still substantially higher compared to a year ago but the dampening of ore prices may, at some point, dull the rally in steel prices too. Apart from demand-supply, iron ore prices are a key signal for steel prices. While steel companies are price-takers because the seaborne iron ore market is controlled by large mining companies, steel-buyers such as automobile companies are more organized. Therefore, a cut in ore prices will feed into long term steel price negotiations. Lower steel prices may curb China's steel output, which could help it reach its goal of cutting carbon emissions.
For now, a sustained fall in iron ore prices and the possibility of China turning its attention to more commodities are key risks to monitor. The sharp rally in domestic metal stocks, on the back of rising commodity prices and expectations that it will continue, have made valuations vulnerable to a correction in commodity prices.Investing insights from our research team:
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