Iron ore prices are booming now, but may be about to fall back, analysts say
Iron ore prices hit new five-year highs of nearly $US130 a tonne this week, and they could rise further in the wake of shortages caused by the dam disaster in Brazil and production outages from cyclones here.
Key points:
- Iron ore prices traded well above $US120 a tonne this week — a five-year high
- In Australian dollars, iron ore spot prices are very close to record highs
- Miners are also saving a lot on freight costs due to the global trade downturn and cheaper oil prices
However, Australia's top resources analysts are predicting that the good times are unlikely to last, with the near doubling in prices so far this year tempting higher cost producers like China, Indonesia and Malaysia to come back into the market.
They also warn that the headwinds from the trade war between the US and China are also weighing on the Chinese manufacturing industry.
The latest deadly dam disaster in Brazil in January left more than 240 people dead.
The tragedy saw several mines belonging to the world's biggest iron ore producer, Vale, closed down as Brazilian authorities launched multiple investigations.
Just this week, homicide charges have been recommended against Vale executives.
In March, Cyclone Veronica smashed the Pilbara coast forcing major miners to shut up shop, with the reduced supply driving prices well above $US100 a tonne.
UBS global head of mining Glyn Lawcock said acts of God had shaken up the iron ore market this year.
"I think there's a couple of factors at the moment," he told The Business.
"There's the one that we are all fully aware of, which was the unfortunate dam failure in Brazil back on the 25th of January.
"Subsequent to that we've had many supply disruptions this year — it's been one of many incidents, whether it's been acts of God, weather."
Further shortages are on the cards after big miner Rio Tinto last month once again cut its annual production forecast because of problems at its mines.
Reports of a truce in the trade war at the G20 on the weekend lit a new fire under prices on hopes that it would boost economic activity and steel demand, with benchmark iron ore prices jumping above $US120 a tonne this week including at Qingdao port where prices climbed to nearly $US127 a tonne.
"I would call that in my mind a scarcity price," Mr Lawcock said.
"What you are seeing now is a little bit of panic coming in.
"Inventories continuing to draw down in China, which tells you that the market is still in deficit and there is more demand than there is supply."
However, iron ore futures prices in China dipped back towards the end of the week to $US124.54.
The Federal Government is rubbing its hands with glee as the surge in export income improves the budget bottom line, with Australia's trade surplus reaching a record $5.7 billion thanks to the iron ore boom.
More upside possible before likely downturn
There could be more upside, with Mr Lawcock predicting prices could reach as high as $US140 a tonne.
That is closing in on the $US190 a tonne record reached in 2011 and, given the Australian dollar was around parity with the greenback then and is at 70 US cents now, it would be a record in local currency terms.
Mr Lawcock said miners are making even more hay while the sun shone because of cheaper shipping rates.
"Back then freight rates were very high, sort of $US40-50 a tonne. Today they are sub $US10.
"So the netback to the producer — because he sells on a landed basis, but gets it net of freight — he's almost getting the same price as he was."
But Commonwealth Bank commodity strategist Vivek Dhar warned that prices are expected to come back down to earth as higher cost operators return to the market and as China's economy slows down.
"We expect prices after July, so in August, to come off and that is going to happen as margins come off in China, and as we see more supply come back online," Mr Dhar said.
Vale, however, is not expected to return to full production until around 2022.
In the short term, the US-China trade war continues to weigh on the Chinese economy, with Beijing expected to keep ramping up the spending.
Mr Dhar said the key question is whether or not more Chinese stimulus will be enough.
"Right now, what's driving the market in China has been stimulus announced earlier this year and as we've seen it play out during the year, it's come out under expectations," he observed.
"So will China need to actually do more and will it be effective?"
Mr Dhar also warned that more Chinese spending to help the economy means even higher government debt.
The boost to the federal budget from higher iron ore prices is not set to last for too much longer, with UBS predicting the steel making material will fall back to its long term price of around $US55 tonne after 2023.
That is when the later rounds of the Federal Government's tax cuts kick in meaning less revenue from both income taxes and red gold to balance the books.