tsi market watch, coking coal

© Copyright The Steel Index 2014 /1

TSI Market Watch August 29, 2014

Transformational times in coking coal markets

Executive Summary

2014 has been a transformational year for Australian FOB sales of coking coal. Metallurgical coal bought on a spot basis from Australia increased significantly over 2014, both in numbers of transactions recorded and the overall volumes being purchased.

Liquidity of FOB Australia spot sales is closing the gap on those in the CFR China market. Rise spurred on by increased availability of tonnage to traders, with follow-on sales to end-users, as well as by a rise in producer-consumer direct sales by spot.

CFR China sales show continued divergence between realized prices for low-vol and mid-vol coking coal.

FOB/CFR market price disconnect continues through 2014, with well-supplied domestic Chinese mid-vol coal competing successfully with imports. As a result same-brand coals achieving different pricing in FOB and CFR markets.

Miners take a portfolio approach to product placement, cutting exposure to the Chinese spot market for mid-vols where possible.

Price risk management activity continues to increase for coking coal, with swaps and futures contracts seeing trading grow.

TSI publishes value-in-use (VIU) normalization coefficients and an example of the price relationship of coal brands to index.

2014 a pivotal year for Australian FOB coking coal sales

Headline-grabbing price weakness has been affecting coking coal markets for some time, but other trends are underway.

Among these is a discernable surge in spot sales being conducted on an FOB basis, rather than on a CFR basis.

The “JKT” (Japan/S.Korea/Taiwan) bloc, European and Indian markets historically prioritized guaranteeing supply - a function of limited domestic supply/availability of hard coking coal assets and production – which led to FOB buying behaviour.

Locking in supply was attempted through vertical integration/semi-ownership of production assets by some Japanese firms but, around the world, it was achieved primarily by annually contracting guaranteed volumes at fixed term prices.


0

10

20

30

40

50

60

70

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013

Chinese Coking Coal ImportsApprox. World Total 300 million tonnes

Becomes net importer3% import tax removed

Costs at Chinese mines rise

Chinese mine transportation costs falling

0

200000

21

-Ju

l

23

-Ju

l

25

-Ju

l

27

-Ju

l

29

-Ju

l

31

-Ju

l

2-A

ug

4-A

ug

6-A

ug

8-A

ug

10

-Au

g

12

-Au

g

14

-Au

g

16

-Au

g

18

-Au

g

FOB CFR

In that context, the appearance of China as a customer purchasing on a CFR (rather than FOB) basis and primarily on spot (rather than term) generated huge attention and disruption to the old model. The vast 2008 Chinese government economic stimulus saw domestic crude steel production surge, along with coking coal import levels.

A market that can afford price-sensitivity

Until 2004/5, China was able to sustain around 280-360mt of crude steel production (three times Japan’s output) with minimal levels of coking coal imports.

It is that factor (huge levels of domestic supply) which lies behind China’s appetite to buy coking coal on a spot, rather than term basis. Importers are necessarily looking at the price differential between domestic coking coal and imported coking coal when booking cargoes. Purchasing is done on an opportunistic basis, rather than on the ‘compulsion’ basis most net-short import markets operate under. If the import/domestic spread is unfavourable, the CFR China market grinds to a halt.

For a market accustomed to moving annually, frequent spot price information marked a significant departure from the long-run norm. As with iron ore, increased spot visibility triggered a movement to shorter-term contracts, from annual, to quarterly, to monthly.

But over 2014 even ‘monthly’ sales became increasingly rare, as the FOB market moved increasingly to a spot focus. This has resulted in spot purchasing activity now prevalent in the FOB Australia and CFR China markets, with FOB buyers joining the CFR players by procuring on a non-term basis.

Transactions Submitted to TSI 21.7-20.8.2014 (tonnes)


The graph above shows a fifteen day trading period between the 21 July and 20 August 2014 and spot volumes submitted to TSI by its data providers. What is immediately apparent is the strong showing from FOB Australia trades, relative to CFR China.

Importantly, this increase in FOB Australia spot buying activity is not limited to this period in July-August, but is broadly representative of the year-to-date.

This trend appears unlikely to go away. It gathered pace after a ‘buyer revolt’ against monthly pricing in Q2 led to greater levels of spot sales to China. This in turn dragged CFR spot prices lower and ultimately made these too attractive to ignore, since they had been lower than quarterly term prices for a sustained period.

What this means for the Australian FOB market is that there is now solid trading liquidity behind pure FOB indices – an important consideration as more market participants look to move a greater proportion of trades onto index-linked contracts/pricing arrangements.

And not only are volumes of FOB Australia spot sales up – so are the numbers of transactions, providing even greater pricing clarity. The reasons behind this surge in FOB Australia spot-buying activity include an increase in intermediation, with tonnes increasingly being made available to traders, instead of just producer-consumer direct trade. This second channel has increased the number of trades per cargo before it reaches a coke oven. A miner can make an FOB Australia sale to a trader, who re-sells on an FOB basis, or on a CFR basis. Also, more tonnes are being allocated to spot sales and spot purchasing. As a result, ‘term contracts’ are increasingly becoming more spot-market linked (rather than based on monthly or quarterly negotiated prices).

Pure FOB Australia indices, such as TSI’s, do not take into account CFR China prices with freight netbacks applied to reach a hypothetical FOB price. Instead they rely only on prices agreed on an FOB basis (excluding shipment costs). Whilst a relationship exists between FOB and CFR prices, this is not as simple as the freight differential between the origin and destination. Different dynamics are at play in the FOB Australia and CFR China markets, with increased price sensitivity to mid-vol coals a notable feature of the latter.

Reported TransactionsVolume

Just shy of 1mtJust shy of 900kt 11

9

Transactions Submitted to TSI 21.7.2014-20.8.2014


Premium Δ %

-0.955%

-0.775%

>23.5 -0.500%

<20 -1.185%

TM From Standard

Rvmax 0.500%

Fluidity 1.300%

FSI 0.600%

CSR 0.850%

Total Dilatation 0.010%

Vitrinite 0.080%

Ash

VM

Price Quality Adjustment

Base FOB price per 1 unit

change

-0.900%

-0.775%

>23.5 -0.500%

<20 -1.385%

From Standard

0.150%

Y-index 0.050%

CSR 0.500%

Price Quality Adjustment

Base CFR price per 1 unit

change Premium Δ %

Ash

TM

G-index

VM (20-23.5)

FOB CFR

Low-Vol and Mid-Vol market disconnect remains in place

Another trend that has occurred during 2014 has been the notable disconnect between prices for coals containing low and higher levels of volatile material (low-vol/mid-vol). This trend has been confined to the CFR China market, where ample seaborne availability of mid-vol coal has been competing for market share against the domestic suppliers’ offerings.

Where business is concluded, it is at the most price-sensitive levels globally. This has resulted in a pivot by producers to reduce Chinese spot exposure. Many ‘household name’ brands are not regularly offered to China anymore – with suppliers knowing that a ‘China price’ will be lower than they can achieve elsewhere.

Yet, liquidity-wise, miners know China cannot be beaten as a market of last resort in the event of production surprises.

The exception to this rule are the low-vol, high CSR (Coke Strength after Reaction) brands of which there is limited supply, yet are prized by buyers from all markets. These coals have experienced less pricing weakness vis-a-vis the broader ‘premium’ coking coal market.

Except for these coals, mid-vol brands and blends see varying CFR China prices achieved month to month – i.e. a sustained disconnect exists between the FOB and CFR ‘mass market’.

Indeed, many Chinese participants now feel that low-vol, high CSR coals are no longer reflective of their import market. There is some truth to this. Whilst achieved CFR China prices for low-vol coals fell over H1 2014, they fell far less than mid-vol coal CFR China prices and their price inelasticity became apparent. With costs reducing at Chinese mines, there is no reason to suspect this disconnect is likely to go away in the near future.

This poses a challenge to price reporting agencies. The Steel Index (TSI) has increased the frequency of analyzing the latest value-in-use price adjustments occurring in the spot market to ensure that the coefficients it applies to normalize the prices of different coals for its index calculation reflect the latest spot market practice. Going forward, these will be published in our coking coal price reports, alongside index prices.


Brand Normalisation Prediction Spread to Index

Peak Downs $115.1 101.0

Saraji $114.8 100.7

North Goonyella $114.2 100.2

TSI Index Premium FOB $114.0 100.0

German Creek $113.9 99.9

Wollombi $113.7 99.7

Illawara $113.7 99.7

Oaky North $113.6 99.6

Moranbah North $113.5 99.6

Goonyella $112.5 98.7

Oaky Creek $112.2 98.4

Hail Creek $112.1 98.3

Peak Downs North $108.9 95.5


Peak Downs $115.1 101.0

Saraji $114.8 100.7


TSI Index Premium FOB $114.0 100.0


Wollombi $113.7 99.7

Illawara $113.7 99.7

Oaky North $113.6 99.6

Moranbah North $113.5 99.6


Oaky Creek $112.2 98.4

Hail Creek $112.1 98.3


Volatile Matter 21 CSR 71 Sulphur 0.45% CSR 71

Ash 10 Total Dilatation 80% Phosphorous 0.05% G index 83

Total Moisture 10 Vitrinite 68% Volatile Matter 21 Y index 16

RV Max 1.35% Free Swelling 8 Ash 10 Total Moisture 10

Fluidity 600 Phosphorous 0.05%

CFR Index SpecificationsFOB Index Specifications

These coefficients normalize coals in the following manner with respect to TSI’s Premium Hard Coking Coal reference product specifications for its FOB Australia and CFR China indices. Note that the values for each coal brand represent the derived relative prices levels of these brands by applying TSI’s normalization coefficients (relative to the index levels set at 100), rather than an observation of the levels individual coals transact at.

Shifting marketplace

TSI coking coal indices are now being referenced in both physical and financial markets. Both miners and traders reference TSI prices in spot negotiations and futures and swaps contracts listed on the Singapore Exchange (SGX) settle basis TSI’s FOB Australia and CFR China premium hard coking coal indices.

Rising FOB Australia spot buying, an increasing drift from term deals (stoked by abundant supply and reduced fear of supply constraints) and the rise of indexing, present a significant shift in behaviour in the sector.

Price risk management is now on the table for coking coal in a meaningful way.

For a long period, trading of coking coal contracts was sparse. Unsurprisingly, given the huge changes in the market, this is changing too.

An indication of the newly kindled interest in hedging can be seen in SGX’s recently launched swaps and futures contracts for both FOB Australia and CFR China markets. In recent history coking coal trading volumes were very thin. By contrast, the first 15 days of trading at SGX saw 66,000 tonnes traded, demonstrating clear market appetite for the products.

% FOB CFR


Peak Downs $125.02 102.2

Saraji $124.32 101.7

Elkview $123.01 100.6


Illawara $122.78 100.4

TSI Index Premium CFR $122.30 100.0

Hail Creek $121.44 99.3

wollombi $121.11 99.0

Riverside $121.00 98.9

Goonyella B $120.44 98.5



Oaky $119.85 98.0

Standard $119.79 98.0

Premium $118.72 97.1


%


Peak Downs $125.02 102.2

Saraji $124.32 101.7

Elkview $123.01 100.6


Illawara $122.78 100.4

TSI Index Premium CFR $122.30 100.0

Hail Creek $121.44 99.3

wollombi $121.11 99.0

Riverside $121.00 98.9

Goonyella B $120.44 98.5



Oaky $119.85 98.0

Standard $119.79 98.0

Premium $118.72 97.1



100

105

110

115

120

125

130

135

140

FOB Australia CFR China

SGX Forward Curve

US$

/t

Recent history makes for an uncertain coking coal outlook

Prices have been on a negative trend since 2013, with premium hard coking coal FOB Australia prices at one stage in late March threatening to reach for the US$100/t mark.

Whilst pessimism is in the air, the forward market is contrarian, with forward curve values rising steadily from the present, through 2015. Currently brokers bemoan a plethora of buy-side interest and yearn for greater sell-side participation.

Will miners simply keep their fingers crossed that prices will recover from today’s levels, or will they increasingly see value in using the futures and swap contracts available to guarantee prices from Q1 for FOB Australia in excess of S$120/tonne and for CFR China over US$125/tonne?

0

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15000

20000

25000

30000

35000

100

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150

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190

14

Jan

13

30

Jan

13

18

Feb

13

6 M

ar 1

3

22

Mar

13

10

Ap

r 1

3

26

Ap

r 1

3

15

May

13

3 J

un

13

19

Ju

n 1

3

5 J

ul 1

3

23

Ju

l 13

12

Au

g 1

3

28

Au

g 1

3

13

Sep

13

1 O

ct 1

3

18

Oct

13

5 N

ov

13

21

No

v 1

3

10

Dec

13

27

Dec

13

15

Jan

14

3 F

eb 1

4

19

Feb

14

7 M

ar 1

4

25

Mar

14

10

Ap

r 1

4

29

Ap

r 1

4

19

May

14

4 J

un

14

20

Ju

n 1

4

8 J

ul 1

4

24

Ju

l 14

12

Au

g 1

4

SGX - TSI trade (t) TSI FOB TSI CFR

US$

/tto

nn

es

http://www.hcwbenefits.com/wp-content/uploads/2014/04/shifting-sands.jpg


For further information

Please contact: Tim Hard (Singapore) +65 6530 6413 [email protected]

Serena Seng (Singapore) +65 6216 1059 [email protected]

The Steel Index (TSI) is a leading specialist source of impartial steel, scrap, iron ore and coking coal price

information based on spot market transactions.

Iron ore price indices are published daily at 19:00 Singapore/Shanghai time (11:00 GMT) and coking coal price

indices daily at 18:30 Singapore/Shanghai time (10:30 GMT). Steel prices for Northern Europe, Southern Europe and

US HRC are published daily at 14:00 UK time and for ASEAN HRC imports daily at 18:30 Singapore time. Scrap

prices for Turkish imports are published daily at 13:30 UK time. Weekly steel and scrap price indices are published

every Monday and Friday respectively, with each price representing the average transaction price for the previous

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Transaction price data is submitted confidentially to TSI on-line by companies buying and selling a range of relevant

steel, iron ore, scrap, coking coal products. TSI’s index reference prices are then calculated using transparent and

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TSI’s indices are widely used by steel mills, miners, traders, distributors and manufacturing companies worldwide as

the basis for their physical pricing arrangements. TSI’s indices are also used as the industry standard in the

settlement of ferrous financial contracts.

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