Iron ore fell to its weakest level in more than six months amid slow demand from top importer China and prices, which have already lost 8 percent this month, are at risk of sliding further.
Most Chinese steel producers are running down their stocks of raw material iron ore given the poor demand instead of replenishing them as they have done in past years ahead of a week-long Lunar New Year break that begins on Jan. 31.
It was a weak start for the year for iron ore after displaying resilience in the last months of 2013 and chances are prices could ease further as global miners such as Rio Tinto and BHP Billiton work to boost global supplies.
China's daily crude steel output dropped for a third straight month to just above 2 million tonnes in December as producers responded to weaker demand, prompting most to destock iron ore inventories rather than rebuild them.
"Production seems to be running at reasonably muted levels and mills are looking at their iron ore stockpiles and seeing that their steel orderbook isn't increasing, so there's no need to hold a lot of iron ore inventory," said Graeme Train, Shanghai-based commodity analyst for Macquarie Group.
Iron ore for immediate delivery to China's Tianjin port .IO62-CNI=SI fell 1.3 percent to $123.20 a tonne on Tuesday, its lowest since July 8, according to data provider Steel Index.
Iron ore, which mostly steadied at levels above $130 since August before breaching that support last week, has fallen 8.2 percent since the year began.
"The second quarter should look better if we do get a usual sequential increase versus the Chinese New Year period. If mills go into the second quarter understocked then that should be really bullish for the market," said Train.
"But the question is what if that sequential momentum doesn't materialise?"
Still, top iron ore miner Vale's chief executive Murilo Ferreira believes that the decline in prices is temporary, saying the fundamentals of the Chinese economy remain solid.
That is why the big miners continue to lift output. BHP Billiton said on Wednesday its iron ore production rose 16 percent year on year in the December quarter.
BAN ON STEEL PLANTS
But worries about a slower Chinese economy, with growth cooling to 7.7 percent in the fourth quarter, and tighter credit are dimming the outlook for steel demand in the world's top consumer of the alloy.
China is also addressing overcapacity in the steel sector as part of efforts to curb pollution. Beijing said it will ban the construction of new steel plants and the expansion of existing facilities, along with new oil refining, cement and thermal power plants.
The most-traded rebar contract for May delivery on the Shanghai Futures Exchange hit a fresh record low of 3,403 yuan ($560) a tonne on Wednesday, before closing little changed at 3,424 yuan.
High stockpiles of imported iron ore in China reflect slower domestic appetite for the commodity. Imported iron ore piled across the country's major ports stood at 91.55 million tonnes as of last week SH-TOT-IRONINV, the highest since November 2012, based on data from Chinese consultancy Steelhome.
"Mills are said to be holding above-average stocks of 36 days. While this is seasonally normal, the numbers have been further exaggerated by the recent falls in output rates due to tumbling margins," Standard Bank analyst Melinda Moore said in a note.
Iron ore for May delivery on the Dalian Commodity Exchange closed up 0.4 percent at 852 yuan a tonne, after touching a contract low of 843 yuan on Tuesday.