The World Coke & Coking Coal Markets

Andrew Jones Resource-Net Brussels, Belgium Global Steel Conference New Delhi, India January 2011

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Constrained Supply of Coke

Why have coke prices escalated over the past decade? One, stricter environmental regulations in western world especially, leading to higher costs of compliance and sometimes capacity closures. Two, lower integrated steel production in western world leading inevitably to a smaller coke capacity base. Three, controls on Chinese exports (before 2009 accounting for world trade ) e.g. annual limit of 14m tpy, export tax. Closures of bee-hive capacity in China; accounted for of its production in mid 1990s. Finally, higher coking coal prices due to investments to alleviate port and rail bottlenecks, as well as for new mine capacity.

Santa Catarina, Brazil, 2008: Example of so-called bee-hive coke plant.

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Reasons Why Coke Likely to Remain in Short Supply

It is most unlikely that China will reduce the 40% tax on coke exports, despite diplomatic pressure from the EU and the US (there will be discussions at WTO by end April 2011). Once demand for cross-border coke trade returns to historical level of around 30m tpy (by 2012?), it is impossible to see how other countries can compensate for the loss of Chinas 14m tpy export capacity. Permanent closures in 2008-10 of coke capacity totaling almost 14m tpy at 16 sites mainly in Europe, also in Japan, South Africa and USA, largely enforced by the ongoing economic crisis (total world capacity outside China = 265m tpy at end 2009). Start-up in 2009-13 of blast furnace capacity of 2m tpy in south-east Asia (Malaysia, Philippines, Thailand) with no associated coke capacity. Adds to large merchant coke demand in India for merchant pig iron, ferroalloys and soda ash production. Also, coking coal supply has remain constrained due in major part to Chinas rising demand for imports. Development of new reserves in Mongolia and Mozambique will need an era of high prices, as infrastructure in these countries is at low level. Just as era of cheap oil is over, same could be said for coking coal.

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World Iron Output & Commodity Markets

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Global Annualized Pig Iron Output Data

World Iron Output - Actual & Seasonally Adjusted
1100 1080 1060 1040 1020 1000 980 960 940 920 900

Dec-09

Feb-10

Mar-10

Jan-10

Apr-10

Jun-10

Oct-10

Jul-10

Sep-10

Actual De-Seasonalized 1-Year Trend = -0.2% Per Month

May-10

Aug-10

Nov-10

Chart shows world pig iron output on an annualized and seasonally adjusted basis over the 12 months to November 2010. After the strength of the first half of 2010, a decline started from June due to the economic uncertainty. Tendency in the 12 months to November was marginally negative: average decrease of 0.2% per month.

Million tpy

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Pricing for Coke Indexed vs Steel & Other Raw Materials 2009-10
1.5 1.4 1.3 1.2 1.1 1.0 0.9 0.8

Coke Coking Coal Steel

Thermal Coal Oil

Following weakness in Q3 2010, there was a small recovery in commodity prices in the last quarter despite worsening economies in Europe and North America. This shows how commodities are linked into the healthier Asian economies. Limited supplies of good-quality coking coal and export tax on Chinese coke means that carbon reductants are a choke point for the steel industry. Note that coke generally outperformed steel over past year.

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Coke Markets

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Blast Furnace Coke Pricing

$800 $700 $600 $500 $400 $300 $200 $100 $0 Q4 10 Q3 10 Q2 10 Q1 10 Q4 09 Q3 09 Q2 09 Q1 09 Q4 08 Q3 08 Q2 08 Q1 08 Each month, Resource-Net reports blast furnace coke prices, obtained via dialogue with industry participants (traders, end-users etc). For many years, the Chinese export price was the only worldwide benchmark. However, due to 40% export tax applied from August 2008, Chinese pricing is not as meaningful for the world markets as it once was. Therefore, we now report prices for Indian imports and Europe as alternative indicators for the market. In 2009, there was large price gap between Chinese exports and world markets, meaning exports from China were only 0.5m tonnes. With blast furnaces idled in Q4 due to slow economic activity, it was expected that coke prices would enter a downturn in 2011 but with Queensland floods hitting coal supplies, that scenario has changed

China Export India C&F

Europe C&F

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Chinese Coke Price vs Exports

16,000 14,000 12,000
Data for 2010 are estimated. Some recovery in Chinese coke exports in 2010 from massive collapse last year.

$556

$600

$475 $500 $410

$400

$/tonne fob

000 tonnes

10,000 8,000 6,000 4,000 2,000 0 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003

$314 $260 $143 $64 $64 $70 $76 $68 $65 $51 $67 $66 $79
2004 2005 2006 2007 2008 2009 2010 $300 $200 $100 $0

$192 $152

Exports

Price

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World Coke Production

600 500 Increase in Chinese coke production as % of world total from 2000.

66% 59% 59%

70% 65%

58% 54% 49% 45% 41%

60% 55% 50% 45% 40% 35% 30%

Million tonnes

400 300 200

37%
100 0 1995

38% 38% 37%

37% 35%

38%

1996

1997

1998

1999

2000

2001

2002

2003

2004

2005

2006

2007

2008

China

Rest of World

% World Production Accounted for by China

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2009

Metallurgical Coal Markets

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Coking Coal Pricing

$400 $350 $300 $250 $200 $150 2. $100 $50 $0 Q4 10 Q3 10 Q2 10 Q1 10 Q4 09 Q3 09 Q2 09 Q1 09 Q4 08 Q3 08 Q2 08 Q1 08 Hard Coking - Contract Hard Coking - Spot Weak - Contract 1. Shown are quarterly averages for hard and weak coking coal $/tonne fob Australia. Contract pricing switched to quarterly from annual system in 2010, the main justifications being: The market price will be more likely to reflect prevailing supply and demand conditions, leading to less risk of nonperformance on contracts due to a high spot / contract differential. The emergence of China as an import market for coking coal. Buyers in this market prefer shorter period pricing. Negative side is that more management time is being tied up in price discussions. For this reason, quarterly pricing could be halfway solution; and published coking coal indices may play an important role in future supply agreements.

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Coking Coal Price Indices

From 2010, energy-publishing groups launched coking coal indices, based on bids and offers submitted on an electronic exchange. Various delivery points are specified, both cfr at the major markets and fob producer countries. Since there are currently few actual transactions made on these exchanges, our understanding is that the published indices are assessments by journalists via discussions with market participants using the bids and offers as a starting point. Long term, cfr pricing looks the best option as it will reflect all the major supply sources and provide true market transparency. If one takes Australian coal as the current benchmark, it makes more sense for other suppliers to match the cfr than the fob price for Australian coal. The often quoted problem with coking coal indices is the lack of standardization of coal types in the market. Whereas other commodities have broadly homogeneous specifications, this is not the case with coking coal. Pricing-adjustment mechanisms to take into account variations between coal types are unlikely to be successful unless they are frequently adapted to take into account market evolution. Even then, the value of a particular coal type depends to a large degree on the specific requirements of the end-user. Derivitives based on the coking coal indices are a likely long-term development. From history, such instruments are most likely to be used by those operating those on the margins of the business (e.g. investors in mining or steel equities) than those directly involved in the trade.

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Rise of Chinas Coking Coal Imports

Chinese Coking Coal Imports
50 45 40 Million tonnes 35 30 25 20 15 10 5 0

China emerged as major import market for coking coal in 2009. Its imports of 34m tonnes are significant when you consider total world trade in met coal has been at the level of 200250m tonnes in past few years. We estimate that imports of coking coal were equivalent to 7% of total coking demand in China in 2009 (12% in previous years). In 2010, we project that imports increased to >45m tonnes, of which 35m tonnes would be by sea. Imports of good-quality coking coal are being encouraged by the government to enhance efficiency of the coking industry. If this policy continues, the impact on the coking coal market will be profound.

Mongolia

Sea borne

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Focus on India

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Indian Coke Production

20 18 16 80% Million tonnes 14 12 10 8 6 60% 4 2 0 55% 50% 75% 70% 65% 90% 85%

2005

2006

2007

2008

Merchant Producers + MPI Owned Plants Integrated Steel Mills As % of Capacity

2009

Integrated steel producers has accounted for 76-77% of coke production in India in last four years, declining from 80% in 2005. The rest is smaller scale plants supplying the non-steel market, mainly merchant pig iron (including some owned by MPI producers for captive use). Most of the growth since 2005 has come from the merchant sector supplying merchant pig iron, soda ash and ferroalloys industries. Capacity utilization has declined from 78% in 2005 to 68% in 2009. This reflects extensive capacity additions in last few years, though precise status of some projects is unknown to us.

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Coke Capacity Additions in India Since 2009

Location Capacity Increase M tpy Timeframe

Ennore Coke Haldia, WB Bhushan Steel Dhenkanal, Orissa Global Coke Sindhudurg, Maharashtra Gujarat NRE Dharwad, Karnataka Gujarat NRE Nellore, AP JSL Stainless Duburi, Orissa

In addition to this plant, Ennore Coke also has conversion agreements with plants in Gujarat and Jamshedpur and has acquired a previously closed plant in Orissa. Two batteries with by-product recovery were due to be commissioned by the end of 2010. Coke will meet demand from Bhushan's blast furnace started in early 2010. Plant previously operated some years ago as Hari Om Metcoke. Global Coke acquired plant from the liquidator and restarted in 2010. Global Coke has also acquired plant of bankrupt Navanagar Coke in Gujarat (0.30m tpy) in 2009. Set up in 2005 as JV between Kalyani Steel and Gujarat NRE Coke, but now fully owned by latter company. The company's third coke plant is to be sited in Andhra Pradesh. Construction began in 2010 and will take two-three years to complete. It will supply steelmakers in the state. Before the end of 2010, JSL Stainless was due to have commissioned coke production in Orissa for its own use.

0.13

2008-09

0.75

2010-11

0.14

2010

0.25

2009-10

1.00

2012-13

0.40

2010

Indian Coke Demand

25 30% 20 Million tonnes 25%

20% 15 15% 10 10% 5

5%

0%

Domestically Produced Imports Imports As % of Demand

Coke imports by India peaked at 4.7m tonnes in 2007, declining to 2.2-2.3m tonnes in subsequent years. In 2007, imports accounted for around 20% of demand, but in most years the figure has been 10-15%. India lacks locally available coke displacement options that exist in other countries, e.g. gas coke in South Africa, anthracite in Europe, charcoal in Brazil. It is likely to remain the worlds single largest import market for coke. Indian coke demand on apparent basis (production + imports exports) hit peak of 23.2m tonnes in 2006. In 2009 demand was 20.8m tonnes. Some of the larger Indian merchant coke plants have exported in recent years. Brazil imported 150,000 tonnes from India in 2010.

2000

2001 2002

2003 2004 2005

2006 2007

2008 2009

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Closing Comments

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Comments on Coke & Coking Coal Markets

After showing some strength in the first five months of 2010, world iron output took a dip from May. From June to November, figures show a flat tendency, output remaining at just over 1bn tonnes annualized. Coke and coking coal prices have outperformed other commodity markets over the past year, indicating fundamental tightness in supply. Due to catastrophic events in Queensland, prices look certain to remain extremely for 2011 and next year also. Coke prices fob China have lost their previous significance as the main benchmark for the world market. The 40% export tax levied since August 2008 makes transactions unworkable for most of the time. As such, exports from China will be intermittent. As Chinese coke pricing has had less relevance in last two years, Resource-Net adopted prices for Europe and Indian imports as alternative indicators for the market. Coke supply from other sources - e.g. Poland, Russia, Ukraine, Colombia, Japan - has little potential for increase in future. Note that most of these sources primarily supply the western hemisphere, whereas demand is growing faster in the eastern hemisphere. India to remain largest single coke exporter. If Chinese coke continues to be kept off the market in large volume, there is likely to be a market shortage from 2012. Impossible to conceive how supply from other sources could fill the gap. Coking coal producers have adopted quarterly pricing from this year, partly in response to rise in imports by China and its need for shorter term pricing. Indices are likely to gain growing acceptance in the market, with a shift to cfr pricing we believe.

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