INVESTORS may eventually look back on October 2011 as the month that marked the end of the iron ore boom. But for now at least, whether it be through conviction or optimism, the iron ore producers of the world – and many of the analysts who cover them – believe the messy past month for iron ore prices will prove an aberration.
Iron ore prices slumped during October, shedding more than 30 per cent from previous high levels.
Prices remain at levels that will still generate fat margins for Western Australian iron ore miners big and small, but the concern for investors is whether the events of October are the start of a longer-term slide in the value of iron ore.
The price falls of the past month were driven by a confluence of short-, medium- and long-term factors. Concerns about the ability of Chinese iron ore traders to access debt facilities under tougher lending policies from the Chinese government undermined sentiment, easing prices down.
When spot iron ore prices fell below the fixed quarterly price used by many major iron ore miners, traders who had been making a profit on the arbitrage between contract prices and spot market prices were forced to sell quickly in an attempt to minimise their losses.
Iron ore buyers, sniffing an opportunity, eased their buying so as to drive prices lower.
In Europe, meanwhile, the continent’s ongoing economic malaise prompted iron ore cargoes to be diverted towards increasingly well-supplied Asian markets.
Against that backdrop were macro concerns among investors about China’s long-term appetite for iron ore and the huge capacity expansions being pursued by the likes of BHP Billiton, Rio Tinto and Fortescue Metals Group. China is forecast to continue growing, but the economic growth will be driven less by investment in steel-intensive – and therefore iron-ore intensive – infrastructure such as buildings and bridges, and more so by the country’s transition into a more consumer-orientated economy.
At the same time, the massive expansions will ensure that iron ore supplies continue to grow strongly for years to come, potentially driving prices down even further.
Investors may be nervous, but iron ore miners – from market goliaths such as BHP and Rio Tinto down to newcomers such as BC Iron – are adamant that conditions will rebound.
China specifically and Asia generally accounts for the vast majority of global iron ore trade, leaving the market comparatively less exposed to the ongoing economic problems in Europe and North America.
Speaking to reporters in Europe late last month, BHP chief executive Marius Kloppers said demand from China, its biggest customer, was so far unaffected by the bleaker global conditions.
“In Europe, many steel companies have reduced, or are in the process of reducing, their steelmaking capacity and I think that that is what’s played through on the sentiment in the iron ore business,” Mr Kloppers said.
“In China overall, which will over the long run be the driver of prices, we have not seen anything really happening there yet.”
David Liu, the head of marketing at FMG, admitted to analysts after the group’s third quarter results last month that steel prices in China had been under pressure due in part to government restrictions on credit availability.
That said, his longer-term outlook for iron ore remains healthy.
“Despite the cautious environment, we are still confident that this price adjustment has been done from the historical high in the period and would not translate into a substantially low price for a considerable period of time,” Mr Liu said.
“We see the Chinese fundamental economic drivers still motoring along.”
Perth-based BC Iron has been able to tap record high prices since it started production at its Nullagine mine back in February. After the reality check of the past month, BC managing director Mike Young firmly believes a rebound is on the cards.
He points to the strong rebounds that have followed each price fall since the annual benchmark pricing system was replaced by shorter-term, spot-price indexed pricing mechanisms back in 2009.
“Whenever there’s been a down movement there’s always a really quick bounce, there’s always a correction. And there’ll be a correction here, and I think it’s going to come back up to around $150 to $160 [a tonne],” Mr Young told WA Business News.
Even if China’s growth rate eases, the economy will still be growing.
“Whether that growth slows or flattens, I don’t think it’s going to fall off a cliff because you’d have to have some significant, fundamental change in China for it to really do that,” he said.
“If you look at where China is compared to the rest of the world in terms of urbanisation, China still has a long way to go. You think about what are the strongest drivers for growth, and it’s people wanting more for their kids than they had.”
Longer term, there is nervousness about what the huge capacity expansions being pursued by Rio Tinto, BHP and FMG in Australia and Vale in Brazil will do for market dynamics.
If iron ore demand fails to grow in line with the supply increases, prices would almost certainly fall. But if prices fall too quickly, the highest-cost iron ore production – which currently comes mainly out of China and India – would become uneconomic. Those most expensive sources of supply could rapidly dry up, in theory putting a floor under iron ore prices.
Analysts are factoring in lower long-term prices in part due to those expectations of excess supply, but more immediately there is a belief that iron ore prices will rebound.
