Iron Ore’s Trumped Up Gains Are Seen at Risk After Doubling

  • Capital Economics highlights rising supply, sees drop to $45
  • ‘The rally has been overdone,’ says Sucden’s Kash Kamal

Iron ore, a pacesetter of 2016’s rally in commodities, may be headed for a drop. Prices that have doubled since bottoming will face growing pressure on rising supply from Australia and Brazil as well as headwinds to demand in China, according to Capital Economics Ltd.

“We think it is overdone,” Caroline Bain, a London-based commodities economist at the group, said in an e-mail, referring to the surge that’s taken the raw material to the highest level in two years above $75 a metric ton. “The Chinese authorities are taking steps to take the heat out of the property market and the impact of earlier stimulus will start to fade.”

Iron ore has climbed as China buttressed growth in the top user, aiding the property market so much that authorities are now seeking to prevent excessive gains. The upswing has been supported by a rise in speculative bets in China, as well as investors’ bullish take this week on the likely implications for metals from a Donald Trump presidency. Amid the post-election clamor, risk assets have staged a massive rally, according to Sucden Financial Ltd.

“Funds have been holding pretty substantial cash reserves and by the looks of the recent market rally, particularly in the base metals and iron ore, we’re now seeing a lot of that capital being deployed,” Sucden analyst Kash Kamal said. “The rally has been overdone, the fundamentals suggest we’re still oversupplied,” he said, referring to iron ore.

Two-Year High

Ore with 62 percent content in Qingdao jumped to $79.81 a dry ton Friday, the highest since October 30, 2014, after rising 108 percent from December’s low, according to Metal Bulletin Ltd. For the week, prices rose 23 percent, the biggest increase since records began in 2008.

In 2016, prices are up 83 percent, far ahead of the 5.5 percent advance in the Bloomberg Commodity Index. Iron ore’s increase was preceded by gains in futures, with the contract in Dalian climbing for a third day.

The upsurge has helped to revive miners’ shares. In Australia, Fortescue Metals Group Ltd. has more than tripled this year, while Rio Tinto Group rallied 33 percent and BHP Billiton Ltd. gained 40 percent. The trio are the country’s largest exporters. Brazil’s Vale SA has more than doubled in 2016.

Iron ore prices may also have benefited this quarter as mainland investors reacted to a squeeze in coal supply in China by pouring funds into that commodity and others. As authorities and exchanges have moved to clamp down on coal and steel, that may have prompted investors to switch funds into iron ore, according to Australia & New Zealand Banking Group Ltd.

“Looking at steel-making costs, metallurgical coal prices have risen substantially,” and combined with higher iron ore prices, it’s likely there’ll be a near-term correction, according to Sucden’s Kamal. “The market is still in backwardation, so even with the current market exuberance, the consensus expectation is for prices to head lower on a mid-term basis,” he said.

More supply is on the way and port stockpiles in China have been rising too, with holdings at a two-year high. In Brazil, Vale is bringing online the giant S11D project, which will add low-cost production, while in Australia’s Pilbara, billionaire Gina Rinehart’s Roy Hill venture is ramping up toward annual capacity of 55 million tons a year.

“We expect prices to fall back over the next few months and to fall further in 2017 as Australian and Brazilian producers continue to ramp up output,” said Bain at Capital Economics. The two countries are the world’s largest seaborne suppliers. “Our end-2017 forecast is just $45 per ton.”

— With assistance by Thomas Biesheuvel

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