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How Vale’s Dam Collapse Could Impact CLF’s Pellet Premiums

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Vale’s production disruption and pellet premiums

On January 30, Cleveland-Cliffs (CLF) stock soared more than 17% on Vale’s (VALE) announcement that it would cut ~10% of its output (or 40 million tons), as it plans to decommission all dams built by the upstream method. Vale is the largest iron ore miner in the world, and a cut of 40 million tons, if not replaced, could result in a tightening supply of high-grade iron ore. Since Cleveland-Cliffs (CLF) is an iron ore pellet producer, the supply tightness in pellet production is more relevant to it. Among the 40 million tons planned to be taken out by Vale, 11 million tons will be pellets.

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Pellet premium negotiations

This decline could lead to higher pellet premiums, improving CLF’s realized prices going forward. Along with the US (SPY) (DIA) hot-rolled coil (or HRC) prices and seaborne iron ore prices (XME), Atlantic pellet premiums are the most important considerations for CLF’s realized prices. As reported by S&P Global Platts, “Vale’s dam collapse in southern Brazil last week is likely to have repercussions for global iron ore pellet negotiations, with tightened safety measures set to reduce pellet and concentrate feed volumes over several years, at a time of record premiums.”

Upside to CLF’s realized prices

Cliffs was using $58 per ton of Atlantic pellet premium (the year-to-date average as of third quarter of 2018) to guide its realized price of $105 to $110 per ton for 2018. Given that Vale is the most dominant player in the iron ore pellets market in the world, BMO Capital Markets upped their estimates for Atlantic pellet premium from $59 per ton to $75 per ton for 2019. The potential for higher prices could be a significant development for Cliffs in 2019, and investors will be looking forward to hearing Cliffs’ take on this at the fourth quarter conference call on February 8.

In the next part, we’ll look at expectations for CLF’s US volumes.

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