Macquarie Bank still sees iron ore falling below $50 in the months ahead

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As we mused earlier this week, iron ore markets can be a bewildering beast at times.

Seemingly out of nowhere, entrenched pessimism can often turn on a dime to euphoria, and vice versus, leading many to wonder what exactly is driving the wild price action.

Given that reputation, it’s little wonder that analysts often differ on where prices are likely to head next.

Not only do the shifts in sentiment make it hard to forecast, many can’t agree as to what is the main factor behind the large ebbs and flows.

Take what we’ve seen this week as a prime example as to just how differing analyst forecasts can be.

According to Credit Suisse, prices are likely to push higher in the months ahead, supported by what is generally a seasonally strong period for steel production in China.

Throw in the prospect of steel production curbs in China later in the year on the back of environmental concerns, something that Credit Suisse says could lead to higher steel prices, production and hence iron ore demand, and it sees spot iron ore prices averaging $70 a tonne over the next three months.

However, while Credit Suisse is bullish on the medium-term price outlook, analysts at Macquarie Bank share a starkly different view, suggesting that the recent rally that has seen the benchmark spot price for 62% fines move back above $60 a tonne will likely reverse, and then some, over the next six months.

“With prices now back above $60 a tonne, we reiterate that we see structural downside to prices over the second half as steel output should decline from current record levels and iron ore supply remains more than plentiful with prices above these levels,” Macquarie wrote in a note.

“While demand conditions remain robust and steel mill profitability remains high, we do not believe that iron ore prices should see a sustained increase as supply clearly remains plentiful.”

This chart from Macquarie shows the recent increase in Chinese port inventories, something that has occurred despite record steel production.

Source: Macquarie Bank

Macquarie says that Chinese iron ore port inventory have risen by 31 million tonnes so far this year, adding that this “clearly represents some degree of excess supply”.

While the bank says that the combination of low iron ore mill inventories and high steel production margins may be supportive for iron ore prices in the very near term, it thinks that prices will have to move significantly lower in order to eliminate high-cost, low-grade producers from the market.

“We continue to look for iron ore prices to average only $50 a tonne over the second half, as much of this higher cost supply which has reappeared in the market in recent months will need to be displaced over the second half of the year, and prices will have to break below $50 a tonne for a period to cause these closures to happen,” it says.

So, in its opinion, prices will likely spend some time below the $50 a tonne level over the next six months to restore balance to the market.

However, while bearish compared to the view offered by Credit Suisse, Macquarie says that spot prices are unlikely to fall to the record lows of around $40 a tonne seen in December 2015 in this price cycle.

“Given that demand is clearly on a firmer footing, and we expect the iron ore supply curve to show continued high elasticity as before.”