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Must-know: An overview of the iron ore industry

Part 8
Must-know: An overview of the iron ore industry (Part 8 of 13)

Overview: Understanding the supply side

The supply side

In the previous section, we discussed about steel and iron ore demand. There are many moving parts as far as the demand side is concerned. However, the supply side of the equation isn’t as complex. There are three major players including Rio Tinto (RIO), BHP Billiton (BHP), and Vale (VALE), that control about two-thirds of the global seaborne market between them. It depends more or less on their current and expected production—future capital expenditure plans. In response to explosive Chinese demand growth of 10–12%  per annum, they stepped up their mine capex. Now, much of that capacity has come online and some in still in the pipeline. In response to excess supply, prices are already down 30% year-to-date (or YTD).

Capacity additionsEnlarge Graph

Planned expansion

The previous chart shows the current and planned capacity additions by the major four players. Cliffs Natural Resources (CLF) doesn’t have many plans for expansion right now. These companies form close to 18% of the iShares S&P Global Materials Sector Index Fund (MXI). All of these expansions, coupled with weaker than expected steel demand of about 3–4% from China, will put a downward pressure on price.

Chinese domestic iron ore supply situation

About 80% of China’s mines have operating costs at around $80–$90 a ton, according to Mysteel.com. That compares with $48 for Rio, $51 for BHP, and $65 for the Vale. Iron content for Chinese mines is also typically less than half of that found in ore from Australia and Brazil. Out of 350 million tons of iron ore, which China produces each year, high cost supply is around 100–150 million tons. Some of this high-cost supply has now started shutting down, providing short-term relief to iron ore prices. The iron ore capacity in China is very sticky because some steel players have captive mines. State owned enterprises (or SOEs) miners have incentive based structure which doesn’t get impacted by short-term commercial considerations. Also, it’s strategically imperative for China to have a domestic source of iron ore.

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