China drag on thermal coal to contine

Chinese thermal coal prices have continued to weaken over the last month or so following the Q4 rally. This is weighing heavily on seaborne markets.

Weakness looks set to continue given strong supply from domestic and import sources, with demand looking sluggish.

Chinese coastal supply was incredibly strong heading into the end of 2013 as prices recovered and inventories were lean.  Some of the strength in shipments was aided by destocking at ports, although these were not particularly low by the end of the quarter.

January coastal shipments were about on par with levels seen over the past few years.  But when you add imports into the equation, the picture changes.

So while there has been perhaps a small adjustment to Chinese domestic supply as prices fell during January, very strong import growth ensured the market remained oversupplied.

To be sure, imports made up a huge proportion of total coastal supply in January. Compared to previous years.

Stronger demand is a necessary condition to halt price weakness, but if anything it looks like it is fading.  Consumption implied from inventory movements at 65% of coal capacity suggests for the balance of the year, coal burn has been slipping.

These data have been weaker than official data and weaker than apparent coal burn in coastal regions.  So total coal burn may be growing, but is unlikely to be growing much.

Using the apparent demand model for Chinese coastal consumption and stocks I wrote about here, it doesn't look like there is a compelling reason to expect recent price weakness to turn around.  Inventories are building while domestic and import supply still looks too strong.

If demand grows by ~3-5% over Q1, inventories will be back to where we were in the middle of 2012, when the market was languishing.

What will change this in the near term is either 1) a domestic or import supply disruption 2) a change in momentum in top down macro conditions or 3) a boost to coal demand from weak hydro availability.

At this stage it doesn't appear that any of these outcomes are likely enough to be confidently bullish, so its best to stay cautious on Chinese and Pacific coal prices.