Iron ore prices are firmly in correction territory, as Vale, a producer forced to cut over 90Mt of iron ore production capacity earlier this year after a mine disaster, is showing signs of recovery. The producer recently upgraded production guidance to a run rate of 340-345Mt/ year, up from prior 2019 guidance of 307-332Mt. Despite Vale producing 400Mt of iron ore last year, the production upgrade still promises to reduce a chronic shortage in the industrial commodity.
Why has the Iron Ore Price dropped?
This has occurred against an intensifying trade battle between the US and China, backed by falling steel inventories. China’s growth recently slowed to 6.2% in the June quarter, the worst number in the past 27 years, as the trade war hurt the second-largest economy. The slowdown has been particularly concentrated in manufacturing, where the PMI of 49.7 in July highlighted that the sector was still in contraction. The PMI (Purchasing Managers’ Index) is a measure of business activity, where a result of 50 separates expansion from contraction. To make matters worse, the debt-plagued construction sector has also provided lacklustre demand for iron ore. With China accounting for 70% of the world’s seaborne iron ore, any threat to the nation’s rapid industrialisation will be met with panic in iron ore markets.
Market sentiment has been strong towards the sector, which resulted in most companies meeting but not exceeding estimates. Rio Tinto (ASX: RIO) shares recently dipped, following the release of satisfactory half-year results. Fortescue has sold off the most heavily of all the iron ore players, declining 6.6% following Vale’s announcement. This underscores the continued vulnerability that the iron ore producer faces, despite rapidly paying down its debt and reducing its cost base. The company produces iron ore at the 58% grade, which is inferior to the 62% grade produced by the other major players and typically sells off far more in iron ore price corrections. Our research team took profits on Fortescue (ASX: FMG) earlier this year, after the company’s share price traded above our valuation.
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