Credit Suisse upgrades iron ore
One of the more noted iron ore bears in investment bank land, Credit Suisse has upgraded its price forecasts. But there’s still sting in the tail:
It is not our base case for rising supply to trigger an immediate and dramatic fall in prices. Rather, we believe they will ease back as mills maintain or, taking advantage of such ample supply, slightly increase raw material stocks in preparation for their next output increase in Q1 2014.
In terms of risks to this view, we see few potential catalysts for an immediate acceleration in run rates but, given the demonstrated resilience of mills’ output, we have to consider the possibility that it could hold up close to current levels for the next three months. If this occurs, we believe that domestic steel markets would push into greater surpluses, furthering the sell down of rebar, in which instance mills’ margins would come under further pressure and there would be a real likelihood that they ran another destocking cycle; this they have already done twice in the past 18 months. This would then push iron ore prices lower on reduced apparent, if not actual, demand. Furthermore, were coking coal to continue its recent relative gains, this could provide the catalyst for iron ore to catch down to rebar prices.
As with supply, we do not therefore see why demand would contribute to a tighter near term market, even if good volumes are still being both purchased and consumed. Our base case is for prices to ease back but it would be short sighted to dismiss the risk of an, albeit temporary, more dramatic downswing. Iron ore’s volatility has been well demonstrated in recent years, with moves in either direction tending to overshoot.
2014 and 2015: The key years to come;
Once into Q1 next year, we expect the market to tighten temporarily on reduced availability of domestically produced Chinese tonnage, as well as the usual weather disruptions to both Australian and Brazilian shipments. Thereafter, we believe the market will face its first true test of a period in surplus.
2015 should then follow a similar pattern, with firmer pricing in Q1 before the remainder of the year provides iron ore with its second period of significant surplus. Again, the Australian majors should play a key role as BHPB de bottlenecks its existing operation and Rio begins to take the initial steps on the path to 360 MT per year capacity. Brazil will also need to play a larger role here as Vale adds a further 28 Mt, Anglo finally starts the Minas Rio project, shipping 6 MT and Usiminas expands exports toward 6 MT.
Price falls required to balance the market;
Were producers’ aggregate behaviour perfectly rational, on these base-case assumptions, prices would merely need to fall to the marginal cost of production, on which point it is worth noting that consensus price forecasts line up very well with the marginal cost of production on our proprietary cost curve.
However, as has been demonstrated time and again, prices tend to reset costs. In the shorter term, many producers have high fixed costs and may often stay operational longer than supply cost curves might suggest. Prices invariably undershoot for a period of time before supply and demand come back into balance. Further, market-clearing is dominated by cargoes entering the market on nearer term pricing, meaning sharper falls are likely as mills withdraw from purchasing volumes literally at sea.
Source - Macrobusiness.com