Iron ore freefall catches miners

Iron ore prices hit their lowest level since November 2009 on Tuesday as the commodity crashed 4.6% closing at $94.80. The dive proved a drag for producers of the commodity, particularly companies investing heavily to expand their production capacity.

Iron ore pure plays Fortescue Metals Group dropped 1%, Atlas Iron lost 5%, while major diversified players such as BHP Billiton and Rio Tinto shed 1.2% and 2.1% respectively.

FT writes (subscription required) the free-fall in the steelmaking ingredient prices is putting to the test a popular theory: “that the global price of iron ore has a natural floor around the marginal cost of Chinese domestic ore production – which most analysts put at roughly $120 per tonne.”

The general idea is that it would cost at least $120 for an average Chinese mine to produce one additional tonne of iron ore – because increasing production would tap lower grades of ore that are more expensive to mine – so at that price level it becomes cheaper for Chinese mills to buy iron ore from overseas.

This theory is being severely tested however, because the Chinese iron ore market has developed an unusual dichotomy: domestic iron ore is selling at prices a third higher than imported iron ore.

The commodity has been free falling consistently in recent weeks, from a 2012 peak of $149 a tonne in April, while hard coking coal prices are down about 31% since June.

High inventories of the steelmaking material at Chinese mills, say experts, are mainly to blame. In addition, higher exports from Australia, Brazil, other Latin American producers and Africa have weighted on the price outcome. An the recent lift of a ban on iron-ore production from Karnataka in India, which typically increases its ore exports after the monsoon season, has also played a role in pricing, Barclays Capital representatives told the Business Spectator.

Only bad news for Australia

Apart from the alarming drop in prices for iron ore and coal, Australia’s two major exports, local investors are also worried about the state of the residential property market.

Image: Free-falling body nose dives in desert (NASA)

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