Iron Ore Won't Rebound Any Time Soon

Why Iron Ore Won't Rebound Any Time Soon

Economists may teach that low prices and declining demand encourage producers to decrease supply, but the iron ore industry appears to have skipped class that day.

"The combination of a further increase in global iron ore supply this year and only subdued demand growth suggests iron ore prices will continue to drift lower," said Caroline Bain, an analyst at Capital Economics, in a note Monday. She forecasts iron ore prices at $60 a tonne by year-end, with risks to the downside. Iron ore touched a more than five-year low Monday of around $63.30 a tonne, although some forward contracts are already pricing it under $60.

Output has picked up over the past few years, encouraged by expectations China demand would continue to post strong growth and by low production costs in Australia and Brazil, she said. She noted Rio Tinto and BHP Billiton put their average production cost in Pilbara, where most of Australia's iron-ore production is located, at around $25 a tonne, compared with 2010-13 average market prices at $145 a tonne. Even at current prices, these producers are still profitable, Bain noted. Australia is the world's second-largest iron-ore producer after China.

Despite 2014's around 50 percent decline in iron ore prices, the big four producers -- Vale (Sao Paulo Stock Exchange: VALE'A-BR), Rio Tinto, BHP Billiton and Fortescue (ASX:FMG-AU) - continue to expand production and other companies are also bringing projects on line this year, she said, forecasting Australian production will rise 6 percent this year, although that's down from 2014's 20 percent rise.

Don't count on China

At the same time, despite China producers' higher costs and lower ore grades, production there isn't likely to see much slowdown, especially as many steel plants have "vertically integrated" operations, owning mines nearby, Bain said. Closures on the mainland are likely to focus on less efficient operations, leading to a leaner and meaner industry there, she said.

"The multinational producers will be only partially successful in their bid to oust higher-cost producers globally and oversupply will continue to weigh on prices," she said. At the same time, China's iron ore usage will stagnate at best, hit by a combination of high inventories and lower demand to use the metal as part of financing deals, she said.

Goldman Sachs also expects iron ore producers won't be able to count on China for growth, noting it's become a mature market.

"The decade-long love affair between China and iron ore is cooling. Chinese steel consumption has increased to unsustainable levels and is bound to decline," it said in a note Friday. "Significant overinvestment to date will ensure that the market is well supplied."

It expects a "long war of attrition" will be needed to balance the market, cutting its long-term price forecast by 25 percent to $60 a tonne.

The Oil Effect

Falling oil prices are also set to weigh on iron ore prices, as they result in "substantial cost reductions", and commodity prices are likely to fall to meet these new lower levels, Citigroup said in a note Monday.

It's also concerned about oil-fueled deflationary pressures affecting commodity demand. 

"Falling prices increase the real cost of debt repayments and could see increased defaults. This not only affects direct commodity demand, but also drives lower inventories and threatens commodity financing trade," it said, noting that falling commodity prices also leave companies with little incentive to build up inventories.

In a note earlier this month, the bank cut its 2015 iron ore price forecast to $58 a tonne from $65

BHP Ramps Up Iron Ore, Petroleum Production Despite Price Slumps

BHP Ramps Up Iron Ore, Petroleum Production Despite Price Slumps

BHP Billiton says it has raised group production by 9 per cent in the December half year, despite slumping prices for its key commodities.

For the 2014 December quarter BHP Billiton lifted iron ore output by 16 per cent compared with the same period a year earlier to 56.4 million tonnes.

That compares with a 12 per cent rise in Rio Tinto's output over the same period, announced yesterday, although Rio remains the bigger producer.

Both companies have lifted output over the past year despite a dramatic slump in benchmark iron ore spot prices in China from around $US135 a tonne in early 2014 to less than $US70 a tonne at the end of last year.

The benchmark Tianjin spot price was at $US67.40 yesterday.

BHP Billiton says cost cuts, some of which are related to the scale associated with extra capacity, are offsetting some of the price declines.

"We are reducing costs and improving both operating and capital productivity across the group faster than originally planned," said the company's chief executive Andrew Mackenzie.

"These improvements will help mitigate some of the impact of lower commodity prices and we remain alert to opportunities to further increase free cash flow."

While iron ore prices have fallen fast, crude oil prices have fallen faster still.

Despite this, BHP Billiton's December quarter petroleum production was 10 per cent higher than the same period a year earlier, although it was 6 per cent down on the September quarter of 2014.

Mr Mackenzie said that BHP Billiton is already cutting back its planned US petroleum investments in response to oil prices which have more than halved from their 2014 peaks.

"We have moved quickly in response to lower prices and will reduce the number of rigs we operate in our onshore US business by approximately 40 per cent by the end of this financial year," he noted in the report.

"Our ongoing shale investment program will remain focused on our liquids-rich Black Hawk acreage. However, we will keep this activity under review and make further changes if we believe defer ring development will create more value than near-term production."

Elsewhere in its portfolio of mines, BHP revealed that metallurgical coal production was up 17 per cent compared to the December quarter a year before.

Energy coal used in power stations saw a 5 per cent rise in output.

Copper production fell 4 per cent in the December quarter compared with a year earlier, alumina was 3 per cent higher, aluminium 15 per cent down and nickel 10 per cent lower.

Despite weak prospects for any price recovery in the short term, BHP Billiton said it is on track to increase petroleum and copper output by 5 per cent this financial year, iron ore by 11 per cent and steel making metallurgical coal by 4 per cent.