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UPDATE 1-Iron ore futures retreat as lofty spot prices prompt caution

* Dalian iron ore snaps five-day rally

* Singapore iron ore erases early gains

* Spot iron ore hits 6-1/2-year highs (Recasts, updates prices, adds graphic)

MANILA, Aug 20 (Reuters) - Iron ore futures slumped on Thursday on signs of a steady improvement in supply of the steelmaking ingredient to China and as a surge in spot prices to a more than six-year high prompted a sell-off.

The most-traded iron ore for January 2021 delivery on China’s Dalian Commodity Exchange ended the session down 1.4% at 848 yuan ($122.51) a tonne, snapping a five-day rally.

Iron ore’s front-month September contract on the Singapore Exchange dropped 0.2% to $124.05 in afternoon trade, after extending gains early in the session.

“Traders are becoming increasingly cautious with risk of rising supply starting to weigh on sentiment,” said ANZ senior commodity strategist Daniel Hynes in Sydney.

Portside and seaborne iron ore prices in China headed towards $130 a tonne this week, pushed higher by strong demand to levels that may begin to hurt steel margins in the world’s top metals producer and consumer.

“Prices of iron ore have met our short-term target of $120/mt and we now revise this higher again to $130/mt,” said Howie Lee, economist at OCBC Bank in Singapore.

China’s steel mills continued to ramp up output, hopeful that domestic demand particularly for construction material rebar would remain strong driven by increased government spending on infrastructure.

FUNDAMENTALS

* Benchmark 62% iron ore's spot price soared to $126.50 a tonne on Wednesday, based on data tracked by SteelHome consultancy. SH-CCN-IRNOR62

* Vessels carrying 14.81 million tonnes of iron ore arrived at major Chinese ports last week, based on data provider SMM’s estimates, up 2.16 million tonnes from the prior week. Cargoes that left Australia and Brazil in the same week also increased.

* Construction steel rebar on the Shanghai Futures Exchange dipped 1.5%, while hot-rolled coil slipped 0.2%. Stainless steel edged up 0.1%

* Dalian coking coal jumped 2.9% but coke fell 1%.

Reporting by Enrico dela Cruz; Editing by Rashmi Aich and Shailesh Kuber

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