Brazilian iron ore producer Vale SA (VALE) jumped 3% today after China reported better-than-expected June flash manufacturing PMI data.
Last week, the price of high-quality 62% iron ore dipped below $90 a tonne but closed higher on Friday. While the price of iron ore may incrementally firm up from the China demand, “we do not expect any real strength to be forthcoming, absent the kind of broad based stimulus package the current Chinese administration has disavowed,” commented Credit Suisse analyst Marcus Garvey and team in a research report published today. Credit Suisse now forecasts iron ore to average only $90/t in the second half this year, and expects prices to average $89/t next year and $87/t in 2016.
The higher-cost Chinese iron ore producers are closing shop slower than expected. Credit Suisse tries to explain why:
Not all production is at the top of the cost curve.
Some mines are captive to mills and, more broadly, mills gain a security of supply benefit from domestic production.
SOE miners have an incentive structure that rests on more than short-term commercial conditions.
Costs are flexible, Steelease has already reported that local governments have reduced taxes for some miners.
Some domestic expansions are still proceeding – FAI in domestic iron ore mining is up 15% ytd.
And the Big Three Australian miners – Rio Tinto (RIO), BHP Billiton (BHP), Fortescue Metals (FSUMF) – are racing to expand production this year before Vale begins to contribute more meaningfully in 2015. As a result, we will see plenty of supplies from overseas:
Rio’s completion of its ramp to 290 Mt/y in May should see its volumes grow by 39 Mt this year.
The ramp-up of BHP’s Jimlebar project and subsequent infrastructure debottlenecking should enable the miner to deliver output growth of 18 Mt in 2014.
FMG’s completion of its build-out to 155 Mt/y delivers an additional 51 Mt in 2014.
Vale’s 4 Mt increase this year is more a function of recovery from poor H1 2013 output than any real growth.
For the market to reach a new equilibrium where supply clears demand, Credit Suisse believes the price of iron ore has to be under $90 for an extended period of time:
We are of the firm view that prices will need to go below real long-run levels of $90/t (2013 US$) for a sustained period. For exactly how long, being largely determined by how far below they go.
Source:blogs.barrons.com
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