April 19, 2010 / 7:47 AM / 10 years ago

ANALYSIS - Iron ore glut threatens as miners dig new lode

SYDNEY (Reuters) - Iron ore miners may end up regretting a hard-won fight to establish spot-market pricing as the industry benchmark if a barrage of new mine production turns today’s supply deficit into tomorrow’s glut.

A receptionist checks an express mail at the Rio Tinto Limited Beijing Representative Office in Beijing March 19, 2010. REUTERS/Jason Lee./Files

Conventional wisdom has miners on a fast track to riches for years to come as China, the world’s top producer and buyer of iron ore and maker of steel, continues to pursue rapid economic growth and a global economic recovery takes hold.

But even with spot ore prices rocketing above $175 a tonne , the highest on record, more than a few industry players are weighing whether dozens of new and expanding iron ore mine projects will outstrip steel demand and send prices into reverse as soon as 2012.

“We’ll take the higher prices when they come, but we must also be ready to accept a drop in a down market,” said Mike Young, managing director of Australia-based BC Iron, who plans to hedge output for the first time to protect against future price drops.

A turnaround in iron ore prices could hit BHP Billiton, Vale, Rio Tinto and other miners furiously digging for more supplies.

Current demand for 1.3 billion tonnes of iron ore produced annually suggests a deficit, according to official Australian government forecasts. But that deficit could vanish if iron ore output matches growth forecasts of 50 percent more ore by 2015.

At the same time steel output is widely forecast to grow by only a third, to about 1.7 billion tonnes.

For a graphic of iron ore production by country, click

here

The new iron ore pricing regime started on April 1, with reports BHP was paid $131 a tonne for its ore under April-June contracts based on the average January-March average spot price — more than twice last year’s fixed price.

Rio Tinto last week became the last of the world’s top three producers of iron ore, who control two-thirds of total seaborne iron ore trade worth about $88 billion in 2008, to dump benchmark pricing, despite bitter opposition from steelmills.

The price over the following three months will be determined by the indexed, or averaged, spot price between April and June.

NEW SUPPLIES SPAN THE GLOBE

Australia, the world’s largest exporter of iron ore, expects to ramp up its annual shipments by 40 percent to 552 million tonnes over the next five years.

More than two dozen mines are proposed or under development in Australia, some of which could contribute hundreds of millions more tonnes to worldwide supply.

Gindalbie Metals, which holds a $65 billion life-of-mine sales contract with China’s Ansteel, has the potential to produce 30 million tonnes of ore annually for three

decades from the Mid-West region of Western Australia.

Unlike the rich Pilbara iron belt to the north that has sustained BHP and Rio for decades, the Mid-West is only now starting to yield the first of an estimated 1.5 billion tonnes of ore.

“Gindalbie and the others in the Mid-West haven’t even begun to tap the potential there,” said Gindalbie Managing Director Garett Dixon. “That means a lot more ore going out the door.”

China has also taken higher iron ore prices as a cue to dig at home and hopefully find richer supplies in the face of declining grades to lessen its reliance on imports.

Globally there are projects from West Africa to Brazil such as the Caraja Serra Sul project which alone will yield 10 million tonnes more ore than is needed to meet 50 million-tonne-per-year growth in global steel production forecast by Hatch Corporate

Finance Chief Executive Rod Bellows.

A GLUT?

The cumulative effect of the production boom has some analysts predicting a glut.

“Iron ore markets are set to remain tight for the next two to three years, but could be heading into protracted oversupply,” said Citi commodities analyst Alan Heap.

Iron ore prices fell for the first time in more than a decade in 2009, when the global financial crisis left the world with more ore than steelmakers could use. That ended when China began a massive economic stimulus programme that same year.

But Eric Li, vice president of business lobby group CBI China, predicts steel demand growth “will significantly drop and domestic iron ore supply will dramatically rise” in 2010.

China has repeatedly tightened monetary policy this year to cool inflation, stirring concern demand could wane and quickly reverse the direction of ore prices.

“Mess with Chinese demand and every iron ore producer will feel the effect,” said DJ Carmichael & Co analyst James Wilson.

It is not just China. Globally, steel prices are levelling off after sharp hikes in the second half of 2009, said Trent Allen, iron ore analyst at Resource Capital Research.

“In spite of the recovery, there are some short to mid-term downside risks for iron ore,” Allen said.

“These include oversupply in the steel sector as the result of cheap credit, especially in China, and a decrease of stimulus-driven stockpiling and investment in new mines, which

could lead to an oversupply of iron ore.”

Editing by Ed Lane

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