HSBC: An iron ore price reversal is coming

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After several years of price-sapping, capital destructive declines, the iron ore price enjoyed a stellar run in 2016.

The benchmark spot price jumped more than 80%, according to data from Metal Bulletin, and that form has continued in early 2017, even forgiving a slide in recent days.

It’s looking resilient, but beyond the short-term, that form is unlikely to last.

That’s the view of David Pleming, head of Europe, the Middle East and Africa metals and mining at HSBC, who says that after some seasonal strength in the first quarter of this year, the rally “will give up its gains as we progress through the year”.

“We believe the iron ore price will gradually correct itself through the course of 2017,” he wrote on Monday. “However, Q1 being the seasonally strong period for iron ore, due to weather-related supply disruptions from the two major exporters (Australia and Brazil), the price momentum might be maintained in Q1.”

Beyond the current quarter, Pleming says the bank’s long term price forecast is for spot prices to decline to $US52 a tonne, representing a decline of 35% from it’s current level of $US80.60 a tonne.

Part of the reason behind the call is an expected ramping up of supply from seaborne markets, he says.

“Significant iron ore supply growth is expected to come on stream over the next two years, driven primarily by the majors: Vale’s S11D project, Hancock’s Roy Hill project, Rio Tinto’s Pilbara 360Mtpa [million tonnes per annum] projects, BHP Billiton’s 290Mtpa projects and Anglo’s Minas Rio project.”

At the same time, he expects demand growth will remain tepid, rising by just 1% and 2.1% this year and next based off the bank’s latest forecasts before falling fractionally in 2019.

This will have implications for marginal supply, says Pleming, inclusing from Chinese producers.

“Several marginal producers have found support from the current elevated price levels and their sustainability will be questioned when prices eventually retreat,” he says, noting that Chinese domestic iron ore production “will need to contract”.

“We expect declines of 33 million tonnes in FY17 and 44 million tonnes in FY18.”

China, the largest consumer of iron ore globally, imported 1.0247 billion tonnes in 2016, the highest annual total on record.

That equated to a mind-boggling average of 32.4 tonnes of iron ore that was imported every second during the year.

That demand was fueled by not only domestic production cutbacks but also a rebound in construction activity following a lift in fiscal stimulus from the Chinese government.

Speculative trading activity in Chinese commodity futures, including iron ore, has also been cited as a factor that has helped to underpin the price rally, particularly in the second half of lat year.

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