Macquarie on the thermal coal squeeze

NEWCASTLE-exported spot thermal coal prices will fall again once Japanese financial year settlements are struck, according to Macquarie Wealth Management.

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The broker noted that the globalCOAL weekly Newcastle spot price had defied weak market fundamentals to be up by 17% from January 9 to the time of its report yesterday.

“It is our view that the Newcastle rebound has mainly been driven by a producer/trader squeeze heading into the Japanese Fiscal Year contract negotiations,” Macquarie said.

“The April–March JFY contract is estimated to back around 60 million tonnes per annum of Japanese imports and is thus an important earnings driver for (Australian) coal producers. The contract is usually settled by the end of March, and the price is determined referencing prevailing spot and derivatives market price levels.”

Looking at the past six years, Macquarie found that the JFY contract settled at an average premium of $US7/t to the spot price at the time.

“We think this is driving the current producer/trader squeeze,” the broker commented.

“In other words, buying prompt physical tonnes at elevated rates (short-term pain) to attempt to secure a better price settlement backing full year 2015 contract sales (longer-term gain).”

Macquarie also noticed some interesting patterns in Newcastle spot coal buying behaviour.

“In addition to the fact that large premiums have been paid for prompt physical coal, it should also be noted that the prompt transactions have been of small size, almost all 25,000 tonnes,” Macquarie said.

“This adds credence to the argument that the price spike is pre-JFY contract-related, in that the short-term pain we highlight above is minimised yet still results in a stronger spot price index.”

While the broker said distortions of the Newcastle spot price should reset following the JFY settlements, the forward curve was also expected to matter to annual price negotiations with Japanese utilities.

“Over the past six years, the average contract premium over the +1CAL (calendar year ahead) swaps contract has averaged around $1.20/t,” Macquarie said.

“The current +1CAL contract is just $58.75/t given the backwardation of the curve, suggesting that the contract settlement might be just $60/t versus the $78/t being implied by the spot price. The official Macquarie forecast is $64/t.”

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