Cliffs Natural Resources’ Woes Continued in the Fourth Quarter

The benchmark seaborne iron ore prices, which represent 62% iron ore content, cost, and freight, have fallen by 21%. Prices have fallen below the $40-per-ton mark to touch decade-low prices.

Waning Chinese steel demand, coupled with continued capacity expansions, led to the negative market sentiment for iron ore.

The fourth quarter of 2015 wasn’t been good for iron ore equities, either. Most of them lost significant value during the quarter. While supply addition plans from major iron ore producers such as BHP Billiton (BHP), Rio Tinto (RIO), and Vale (VALE) were intact, the expectation of additional capacity hitting the markets from Australia’s Roy Hill project later in 2015 led to the expectation of deteriorating fundamentals on the supply side. The demand side, led by China, continued to remain weak throughout the quarter.

RIO and BHP were the best performers in the iron ore space in 2015, although they fell 23% and 34%, respectively, as compared to the 36% drop in iron ore prices. Vale fell 59%, while Fortescue Metals Group (FSUGY) and Cliffs Natural Resources (CLF) fell 35% and 78%, respectively.

BHP Billiton and Rio Tinto reduced their per-unit costs significantly over 2014 and the first nine months of 2015. This is helping them remain profitable even in the depressed iron ore price environment.

Vale still has a long way to go with the S11D iron ore project. This project will lower the company’s overall production costs. However, Vale needs funding to complete the project. Its cash flow requirement and the greater distance to Asia compared to BHP and RIO are the primary reasons for its relative underperformance.

For pure plays and smaller players like Fortescue Metals Group and Cliffs Natural Resources, the remaining margin cushion is too low at current levels, making them much more sensitive to iron ore prices. Cliffs Natural Resources’ high debt also isn’t helping its stock price.

ETFs such as the SPDR S&P Metals and Mining ETF (XME) are good ways to get exposure to this sector without picking individual stocks. Cliffs Natural Resources forms 3.6% of XME’s holdings.