Iron Ore Gluts Seen Through 2017 on Record Supply

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August 12, 2013

iron ore port hedland bhp billiton
Image courtesy BHP Billiton
Aug. 13 (Bloomberg) — The seaborne iron ore market is poised for at least four years of expanding gluts as producers from Rio Tinto Group to Vale SA increase supply to a record just as growth in China drops to the slowest pace in a generation.

The surplus will reach 82 million metric tons in 2014, the most since at least 2008, and the glut will keep growing through 2017, according to Goldman Sachs Group Inc. Australia will account for about 66 percent of the supply gains next year, Morgan Stanley says. Iron ore will average $115 a ton in 2014, 17 percent less than now and the least since 2009, according to the median of 10 analyst estimates compiled by Bloomberg.

Prices rose as much as eightfold in the past decade as China added $6.8 trillion to its gross domestic product. The nation now makes almost one in every two tons of steel produced globally. Ore supply failed to keep pace, with shortages in seven of the past eight years, spurring Rio, BHP Billiton Ltd. and Fortescue Metals Group Ltd. to boost output. The looming glut will drive prices down to $80 in 2015, Goldman Sachs says.

“China is slowing down and steel production is going to be at a lower rate than what we’ve been used to,” said Christian Lelong, an analyst at Goldman Sachs in Sydney. “It’s a long-term trend that’s starting next year. On the demand side, it’s hard to see a return to the strong rates in the past.”

Ore at the Chinese port of Tianjin, a global benchmark, fell 4.3 percent to $138.70 a dry ton this year, according to The Steel Index Ltd., owned by McGraw-Hill Cos. Prices reached a seven-month low of $110.40 in May. The Standard & Poor’s GSCI gauge of 24 commodities declined 1.2 percent and the MSCI All- Country World Index of equities rose 11 percent. The Bloomberg U.S. Treasury Bond Index lost 2.6 percent.

Commodity Cargo

Seaborne supply of the biggest commodity cargo after oil will rise 9.7 percent to 1.27 billion tons next year, exceeding the 3.7 percent gain in demand to 1.19 billion tons, Goldman says. Imports by China, accounting for 67 percent of the global total, may expand 4 percent to 800 million tons, the bank estimates. Worldwide growth in imports will slow to 2.5 percent this year, the lowest since at least 2008.

China’s economic expansion lifted more than 600 million people out of poverty from 1981 to 2004, the World Bank estimates. The second-biggest economy will expand 7.5 percent this year and next, the weakest growth since 1990, according to the median of economist forecasts compiled by Bloomberg.

Factory Production

There are signs that Chinese growth may exceed expectations after factory production rose a greater-than-expected 9.7 percent in July and gauges of manufacturing and service industries also strengthened. The nation imported a record 73.14 million tons of iron ore last month, 17 percent more than in June, customs data show. Rates for Capesizes, the largest iron ore carriers, more than doubled this year, according to data from the Baltic Exchange in London.

Ore rallied from the low in May on expectations that China would have to expand port stockpiles that fell to a four-year low in March. Inventories rose to 68.92 million tons as of Aug. 9 from 66.26 million tons in March, according to Beijing Antaike Information Development Co., a state-backed research company. Stockpiles are still 28 percent lower than a year ago.

“The sentiment around China should start to warm around the start of 2014 and that should be reflected in a reasonably buoyant price,” said Mark Pervan, head of commodity research for Australia & New Zealand Banking Group Ltd. in Melbourne. “The market will underestimate Chinese demand, and I think the supply response won’t be as great as people expect.”

Project Delays

Gains in supply may take longer than expected because of project delays, bottlenecks and less funding, Morgan Stanley says. The 82 million-ton surplus anticipated by Goldman for next year compares with projections of 27 million tons by Deutsche Bank AG and 8.8 million tons by Morgan Stanley. UBS AG is predicting a 150.7 million ton surplus.

Declining prices may force higher-cost producers to shut down, with Goldman estimating that about 15 percent of output in China’s coastal provinces will close over the next two years. Supply in China can cost more than $100 a ton to produce, according to an Aug. 5 presentation from Perth-based Fortescue, which mines ore for about $60.

India may become a net importer for the first time. Overseas purchases will surge to 24 million tons in the year to March 31 from 3 million as shipments drop to 10 million tons from 18 million, according the Federation of Indian Mineral Industries. Mining remains banned in the state of Goa and producers face delays restarting after curbs in Karnataka.

December Contracts

The swaps market anticipates prices will reverse the rally over the past two months, with December contracts at $131 and $111 for a year later, according to data from GFI Group Inc. Trading volumes reached a record above 28 million tons in July, The Steel Index said on Aug. 5.

Australian mines will remain profitable even as prices drop, according to Goldman. Rio had all-in costs of A$37 ($34) a ton last year, the bank estimates. Iron ore accounted for 42 percent of the London-based company’s sales last year, data compiled by Bloomberg show. Shares of the biggest shipper behind Rio de Janeiro-based Vale fell 6.3 percent this year.

Steel use in China will grow 2.5 percent to 686 million tons next year, slowing from 3.5 percent in 2013, according to the Brussels-based World Steel Association. Chinese hot-rolled- coil steel prices dropped 8.6 percent from this year’s high in February to 3,633 yuan ($593) on ton, data from Antaike show, signaling surplus supply.

Weaker Currencies

Vale can produce as much as 350 million tons next year, 40 million tons more than 2013, Jose Carlos Martins, the executive director for ferrous and strategy, said in June. The company is better able to withstand lower prices than producers that began operations during the boom, Martins said in an interview. Shares of the company dropped 24 percent this year.

Mining companies in Australia and Brazil may also benefit from weakening currencies, which will help curb local costs. The Australian dollar is the second-worst performing major currency this year, while the real ranks fourth.

Australian shipments of iron ore and associated products were valued at $56.7 billion last year, more than twice as much as in 2009 and 22 percent of total goods exports, according to data from the Geneva-based International Trade Centre. Brazilian cargoes were valued at $31 billion, or 13 percent of the country’s total, the data show.

“This year, demand has been quite solid but it will probably taper off a bit next year and the supply growth is really ramping up,” said Ian Roper, a Shanghai-based commodities strategist at CLSA Ltd. “By this time next year, I’d expect to see iron ore prices below $100.”

– Phoebe Sedgman, Copyright 2013 Bloomberg.

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