Brave New Ore: The End Of Benchmark Pricing

April 06, 2010

 

BHP is up 8 percent year-to-date, while Vale and Rio Tinto are up 13 percent and 14 percent, respectively. Of course, how much of this is due to a positive sentiment in the market toward the new pricing system versus the current economic recovery is hard to tease out. But some of the big steel manufacturers aren't seeing the same type of increase as the miners are seeing:

 

Steel Makers

 

ArcelorMittal (NYSE: MT), the largest steel manufacturer in the world, is only up about 1 percent since the beginning of the year. And Japan's largest steel company, Nippon Steel, is down almost 1 percent.

Steel-makers around the world warn that increased iron ore prices will be passed along the value chain, resulting in higher prices for consumers; in fact, some are calling for regulators to investigate the big three ore companies' market behavior. But realistically, not all of the costs can or will flow through to consumers, as there's too much risk involved in slowing the economic recovery or the nascent increases in demand. B. Muthuraman, vice chairman of Tata Steel Ltd., is quoted by the Wall Street Journal with regard to passing on costs, and he's not optimistic, stating, "Twenty-five percent could be passed on, but nothing more than that."

Of course, high spot prices may not be here to stay. Pedro Galdi, a mining analyst with SLW Corretora in Sao Paulo, told FT.com, "The spot market price is determined by Chinese demand. If China stops buying, the spot price will fall and miners will have to accept lower prices. What about next year? Everybody is investing to increase capacity, so later on supply could overtake demand."

What China does, of course, has huge ripple effects on the entire industry, as the country is the recipient of approximately 70 percent of seaborne iron ore shipments (which hit 900 million tons last year). And it looks like it will try to use some of that clout: The China Iron and Steel Association has reportedly called for Chinese steel companies to boycott Vale, Rio Tinto and BHP Billiton and stop buying ore from the companies in the next two months.

Domestic steel companies have built up their stockpiles in the past few months, so theoretically a boycott wouldn't slow steel production. Eventually, however, China would need to resume importing steel. The question now is, will the steel-makers comply? Or is this just posturing? We'll just have to wait and see.

For the moment, you can track steel prices with the Market Vectors Steel ETF (NYSE Arca: SLX), which tracks the largest, most liquid companies engaged in steel manufacturing. Year-to-date, SLX is up 16.56 percent.

 

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