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What Could the Supply Side Bring for Iron Ore Prices in 2017?

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Jan. 26 2017, Updated 10:36 a.m. ET

Rio Tinto’s production growth

As most market participants are calling for an iron ore price correction in 2017, it’s important to consider how the supply side of things could shape up this year. What we see could give us a clue about the future trend of iron ore prices.

Rio Tinto’s (RIO) 4Q16 production report showed that its shipments rose 8% sequentially to 87.7 million tons. The year-over-year rise in shipments was also impressive at 3%. RIO shipped 328 million tons of iron ore in 2016, within its guidance range of 325 million–330 million tons. The company has maintained its production target of 330 million–340 million tons of iron ore for 2017.

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BHP and Vale’s production outlooks

Analysts are expecting a robust production report from BHP Billiton (BHP) as well. Standard & Poor’s recently upgraded its outlook for BHP. Even UBS analysts believe that BHP will report high iron ore production for 4Q16.

Vale (VALE) inaugurated its biggest mining project, S11D, on December 17, 2016. It got the operating license for the project on December 9, 2016. Vale will start commercial operations in January 2017. The sheer volume of the S11D project is already worrying market participants. They’re even more concerned about the costs involved in churning out iron ore.

While iron ore prices saw support from Chinese demand in 2016, the gradual withdrawal of the Chinese government’s stimulus could hit that demand.

The iron ore supply from other sources has also been growing. Roy Hill, an iron ore mining project in Western Australia, started shipping iron ore in December 2015. At full capacity, it will produce 55.0 million tons per year. Apart from this, at current elevated iron ore prices, even nontraditional supply could come back into the picture. All of these factors will lead to more supply coming in, leading to the survival of the fittest.

BHP and Rio are among the lowest-cost iron ore producers with strong balance sheet positions. Following the completion of its capacity expansion, Vale is the lowest-cost producer. Fortescue Metals Group (FSUGY) may need to lower its cost structure further in order to survive in the long term, especially given its debt commitments.

BHP and RIO form 7.2% of the holdings of the SPDR S&P Global Natural Resources ETF (GNR).

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