Iron ore to remain rough, but stability is ahead

Iron ore has reached its trough and will continue its current growth pattern, but slowing demand out of China means it will not reach its earlier highs, the head of China’s iron and steel institute said.

Speaking today at the Stockbrokers Association of Australia Conference, China Metallurgical Industry Planning & Research Institute’s president Xinchuang Li explained the current stressed steel manufacturing sector in China, and that this internal competition combined with inefficiencies in the sector is having flow-on effects into Australia’s mining landscape.

He also forecast the likely plateau for the iron ore price in the coming years.

The economic slowdown in the country “is the new normal,” Li stated, and this will affect Australian iron ore miners as the nation shifts from its heavy industrial phase into a more services focused era.

“China is moving from its rapid growth development phase into a new phase,” he said.

Li gave a breakdown of the market, citing a number of major issues, predominately low production and consumption fluctuations; low profitability combined with a high level of market competition in steel production; and increased downwards pressures relating to both financial and environmental concerns.

He predicted a consistent fall in Chinese steel consumption, from a country that currently accounts for 60 per cent of global consumption, dropping to 689 million tonnes in 2020, 650 million tonnes in 2025, and 610 million tonnes in 2030, at odds with Rio Tinto’s predictions for consumption rates.

Li did give one positive forecast on the current market situation, stating that the April price low of US$45 per tonne is likely to be the bottom of the slide, and iron ore has already begun its stabilisation process.

“We’re likely to see a price of between US$55 to US$65 per tonne as an average for the next two years,” he said.

Earlier this week the price saw a consistent rally to reach just over US$62 per tonne.

Part of this return has been pegged to dents being made in the oversupply of iron ore at Chinese steel mills, and what Li believes will soon be a huge consolidation of the Chinese steel manufacturing sector.

“There are too many [steel companies]; there are currently about 600 now, so we need to encourage consolidation [to between 200 to 300] to improve performance.”

He stated this will increase efficiencies as China moves on from its peak recorded steel consumption and output levels.

However not all analysts are as bullish on iron ore and Chinese steel as Li.

Citi says the rally in iron ore prices has peaked and forecast sub $US40 prices of the second half of 2015.

Ratings agency Fitch also cuts its iron ore price predictions to $US50 per tonne.

Even the Federal Government is bearish, forecasting an iron ore price of $US48 a tonne for 2015-16.

Westpac’s chief economist says the price of iron ore won’t see a recovery until at least 2016.

Westpac economist Justin Smirk said with demand out of China unclear, and high volumes of iron ore being exported to the country, price volatility would continue.

The country recently downgraded its annual growth forecast to 7 per cent and flagged it will be producing 256 million less tonnes of steel by 2030.

"The demand pulse is not as strong as it was and we've got a strong supply pulse, so we are in a readjustment point right here," Smirk said.

Despite this slowdown in the market, Australia is still slated to play a major part in the nation’s iron ore imports, in spite of growing tonnages from Brazil and Africa.

“Australia accounts for 58.8 per cent of iron ore imported from overseas,” Li said, “with more than 87 per cent of all iron ore imported”.

This is due to the current high costs, with Li pegging a typical cost per tonne price of between US$60 to $100 for Chinese iron ore mines.

China has also looked to support its embattled iron ore industry through a series of tax cuts that reduced tax rates in some instances from 80% down to 40%.

According to Ernst & Young the country has reduced its tax levels by 40 per cent “to support the domestic industry against cheap and high quality imports”

New data from Goldman Sachs stated that Chinese output fell 20 per cent to 311 million tonnes in 2014, and forecast it to continue this downwards trajectory to 271 million tonnes in 2015, and move south again next year.

E&Y data points to around three quarters of Chinese iron ore miners currently running on negative margins at existing price levels.

The tax, which was implemented at the start of the month, equates to only about US$1 per tonne for local operators.

However, Li rejected the notion this was a protectionist move by the country.

“We have had very high taxes in China, particularly those imposed at the local levels, so this reduction is making the existing taxes more reasonable,” he told Australian Mining.

“It improves their situation and ensures survival, but it still leaves them in a tough position,” Li said.

This view was supported by Paul Gait, an analyst at Bernstein in London.

“For the majority of private mines it is simply not enough to make much of a difference,” Gait told Bloomberg.

For Australian operators, Li believes that the current turmoil affecting the market is likely to resolve itself soon, with many junior and second tier players expected to drop off the market as the price stabilises and the smaller higher cost operations are no longer viable.

However these second tier miners can survive, but in the longer term they will need to have more than just a customer, they will also need a partner, Li explained.

He also tied this into the current market rumours on Chinese approaches to Fortescue.

“With the low iron ore price FMG is in difficult straits financially, so as most of its market is in China it makes long term sense to partner with a Chinese company to increase capacity and help fight high costs.”

 

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