Volatility in the Iron Ore Market


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As a global commodity, iron ore prices typically fluctuate in keeping with worldwide industrial demand. But volatility also provides impetus for commercial interests to mitigate their risk by hedging and trading. This white paper offers insights into recent iron ore price and volatility trends.

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Volatility in the Iron Ore Market

  1. 1. METALSVolatility in theIron Ore MarketJanuary 2013Bob biolsiSenior DirectorResearch and Product DevelopmentCME Group
  2. 2. Volatility in the Iron Ore MarketAs a basic ingredient in the changes in worldwide industrial in many ways the impetus forproduction of steel, iron ore is demand. While the trading commercial interests to mitigategenerally viewed as a cyclical community focuses on prices, their risk by hedging and trading.commodity, sensitive to changes it is also instructive to analyze In Graph I the historical volatilityin global economic conditions. As volatility. Volatility can be thought and price movements for iron orea global commodity, the prices of of as a summary measure for are illustrated.iron ore typically fluctuate with risk in any industry. Volatility isgraph iRecent Iron Ore Price and Volatility Trends 8/2/11 8/9/11 8/16/11 8/23/11 8/30/11 9/7/11 9/14/11 9/21/11 9/28/11 10/5/11 10/12/11 10/19/11 10/26/11 11/2/11 11/9/11 11/16/11 11/23/11 12/1/11 12/8/11 12/15/11 12/22/11 12/30/11 1/9/12 1/17/12 1/24/12 1/31/12 2/7/12 2/14/12 2/22/12 2/29/12 3/7/12 3/14/12 3/21/12 3/28/12 4/4/12 4/12/12 4/19/12 4/26/12 5/3/12 5/10/12 5/17/12 5/24/12 6/1/12 6/8/12 6/15/12 6/22/12 6/29/12 7/9/12 7/16/12 7/23/12 7/30/12 8/6/12 Front Month Iron Ore Futures Price 30 Day Annualized VolatilitySource: BloombergIt is obvious from the graph that iron ore prices tend to exhibit rather stable periods(December 2011 to May 2012) that are preceded by market turbulence and uncertainty(August 2011 to March 2011 and June 2012 through September 2012).2 | Volatility in the Iron Ore Market | January 2013 | CME GROUP
  3. 3. graph iIPrice Volatility of Various NYMEX and COMEX Metal Contracts20-Day Realized Metals Volatility 2 1 12 11 11 2 2 2 2 2 2 12 1 1 2 2 /1 /1 /1 /1 /1 /1 /1 /1 /1 /1 /1 /1 5/ 5/ 5/ 5/ 25 25 25 25 25 25 25 25 25 25 25 25 /2 /2 /2 2 /8/ 9/ / 6/ 9/ 4/ 8/ 3/ 2/ 7/ 5/ 1/ 10 12 11 10 11 Gold Copper Hot-Rolled Coil Steel Iron OreSource: BloombergIt can be seen in Graph II that taking offsetting positions in the by buying (“going long”) ironthe overall volatility of metals futures market from the firm’s ore futures, while the iron oregoes through periods of relative commercial operation exposure. producer would hedge by sellingstability followed by a high degree For example, a steel producer (“going short”) the same futures.of fluctuations. It should be needs to purchase iron ore as The extent to which commercialfurther noted that at times iron a production input. The steel hedgers need futures dependsore volatility moves in the same producer has commercial risk on the magnitude of the pricedirection as the other metals, but from a rise in iron ore prices. fluctuations, or the volatility.at other times (late summer of An iron ore producer has the2012), moves independently. opposite exposure, i.e. falling prices. It follows then that theThis leads to the notion of steel producer would hedgehedging. Hedging involves3 | Volatility in the Iron Ore Market | January 2013 | CME GROUP
  4. 4. graph iIIPrice Volatility of Various NYMEX and COMEX Metal ContractsIron Ore Volatility vs. Ferrous Volume 1 1 1 11 12 /1 11 /1 11 11 12 12 11 11 11 /1 12 11 11 3/ 3/ 3/ 3/ /3 3/ 3/ 3/ /3 3/ 3/ 3/ 3/ 3/ /3 3/ 6/ 2/ 8/ 9/ 12 2/ 1/ 7/ 10 4/ 1/ 4/ 5/ 3/ 11 Iron Ore 20-Day Realized Volatility Ferrous Volume 3/Source: BloombergIn Graph III, ferrous volumes are lag by taking on price protection an understanding of the benefitstracked against iron ore 30-day in the case of the futures of futures contracts in managingfutures volatility. The volume complex. their commercial risk. As thefigures are the sum of the Hot- industry has migrated away from This clearly brings out a commonRolled Coil Steel and Iron Ore long-term contracts to short-term misconception of futures trading.Futures contracts, while iron ore spot deals, they are increasingly Often in the popular media,volatility is used as a proxy for finding that volatility exposes futures are blamed for inducingthe entire ferrous complex. In the their commercial operations to a volatility in the market. TheGraph, a lead/lag relationship great deal of stress and instability. graph clearly shows the oppositeis demonstrated. For example, They are now in the process causation. Volatility spikes occuras volatility increases, futures of understanding how futures when futures volume is low.positions spike after a lag of two contracts can be used to hedge It is only subsequent to theor three months. No doubt this price volatility. By doing so, they spike in volatility that futuresis due to the nascent nature of are then in a position to smooth trading spikes.the ferrous futures markets. out earnings, increase their debtCommercial hedgers, when faced Commercial participants in the capacity, and build long-termwith price risk, react after a short ferrous industry are developing customer relations.4 | Volatility in the Iron Ore Market | January 2013 | CME GROUP
  5. 5. Robert A. BiolsiSenior DirectorResearch and Product DevelopmentCME GroupRobert A. Biolsi has served as Senior Director of Research Exchange and Metropolitan Life Insurance Company. Heand Product Development at CME Group since August also taught a wide variety of courses in economics and2008. He is primarily responsible for developing new finance at numerous universities.energy and metals options products for trading andclearing. He is also responsible for options product Biolsi received a bachelor’s degree in economics frommaintenance. St. John’s University, an MBA in finance at St. John’s University and a Ph. D. in financial economics andPrior to joining CME Group, Biolsi worked at NYMEX, econometrics from The Graduate Center of the CityShearson-Lehman Brothers, The American Stock University of New York.5 | Volatility in the Iron Ore Market | January 2013 | CME GROUP
  6. 6. CME Group headquarters CME Group REGIONAL offices20 South Wacker Drive info@cmegroup.com New York London SingaporeChicago, Illinois 60606 +1 800 331 3332 +1 212 299 2000 +44 20 3379 3700 +65 6593 5555cmegroup.com +1 312 930 1000 Calgary Hong Kong Houston +1 403 444 6876 +852 3101 7696 +1 713 658 9292 São Paulo Seoul Tokyo +55 11 2565 5999 +82 2 6336 6722 +81 3242 6232 Washington D.C. +1 202 638 3838CME Group is a trademark of CME Group Inc. The Globe Logo, CME, Chicago Mercantile Exchange, and Globex are trademarks of Chicago Mercantile Exchange Inc. ClearPort, New York MercantileExchange and NYMEX are registered trademarks of New York Mercantile Exchange, Inc. COMEX is a trademark of Commodity Exchange, Inc.The information within this fact card has been compiledby CME Group for general purposes only. Although every attempt has been made to ensure the accuracy of the information within this brochure, CME Group assumes no responsibility for any errorsor omissions. Additionally, all examples in this brochure are hypothetical situations, used for explanation purposes only, and should not be considered investment advice or the results of actualmarket experience.All matters pertaining to rules and specifications herein are made subject to and are superseded by official CME, CBOT and NYMEX rules. Current rules should be consulted in all cases concerningcontract specifications.Futures trading is not suitable for all investors, and involves the risk of loss. Futures are a leveraged investment, and because only a percentage of a contract’s value is required to trade, it is possible tolose more than the amount of money deposited for a futures position. Therefore, traders should only use funds that they can afford to lose without affecting their lifestyles. And only a portion of thosefunds should be devoted to any one trade because they cannot expect to profit on every trade. All examples in this brochure are hypothetical situations, used for explanation purposes only, and shouldnot be considered investment advice or the results of actual market experience.Copyright © 2013 CME Group. All rights reserved.