Commodity Price Forecast - Iron Ore: Downward Revision On Cooling Chinese Demand - 22 MAY 2017


BMI View :We haverevised downwardsour iron ore price forecast toan average ofUSD65/tonne in 2017 compared to USD70/tonne previously as Chinesedemand for the ore is showingsigns of coolingearlier than we expected. Nevertheless,governmentfiscal support to the infrastructure and construction sectors, despite being weaker than Q117, will ensure steel production holds upin 2017, sustaining demand for iron ore and ensuring prices do not collapse to the lows of 2016.
BMI Iron Ore Price Forecast
Current 2017f 2018f 2019f 2020f 2021f
Note: China Qingdao Iron Ore Import Price, 62% Grade CFR (USD/tonne). Correct as of May 9 2017. Source: BMI, Bloomberg
USD/tonne, average 60.2 65.0 50.0 48.0 46.0 44.0
Bloomberg Consensus - 67.5 55.0 55.0 58.1 59.5
No Rebound To February Highs
China - Qingdao Iron Ore Import Price, 62% Grade CFR (usd/tonne)
Source: Bloomberg

Short-Term Outlook (three-to-six months)

Iron ore prices will remain on a modest downtrend in the next three-to-six months as Chinese demand for the ore shows signs of cooling. Iron ore inventories are elevated at the moment (all time high of 132.45 million tonnes in March 2017), with an easing of stockpiling demand from steel producers resulting in the price fall of iron ore from a peak of USD94.9/tonne in February 2017 to USD60.8/tonne as of May 9 2017. China's steel production growth averaged 1.9% y-o-y in March 2017 compared to 8.0% and 4.6% in January and February, respectively. While Chinese fiscal support to the infrastructure and construction industries is not holding up until the party congress in Q417 as we had expected, steel production growth will not decline on a y-o-y basis as infrastructure projects initiated in Q117 are long-term projects that will ensure steel demand remains resilient. This will sustain demand for iron ore in 2017. Steel stockpiles dwindled from 11.2mnt in February 2017 to 9.7mnt in March 2017. As steel stockpiles are used up and fresh iron ore is needed for steelmaking due to strong steel end-use in 2017, we do not expect a capitulation in iron ore prices down to 2016 lows.

Inventory Re-stocking To Prevent Price Collapse To 2016 Lows
China - Steel Inventories As Share Of Domestic Steel Production (%)
Note: Steel inventories = combined total of rebars & hot rolled coil. Source: Steelhome, Bloomberg, BMI

Long-Term Outlook

We have revised downwards our iron ore forecast to an average of USD65/tonne in 2017 and USD50/tonne in 2018, down from our previous forecasts of USD70/tonne and USD55/tonne, respectively. Our downwards revision is based on our current expectation that the Chinese government's fiscal support to the infrastructure and construction sectors will cool off earlier in 2017 than we previously expected. Having fallen from a peak in February 2017, iron ore prices are not set to rebound to their Q117 highs in the coming years. On the contrary, we expect prices to remain on a broad downtrend over our forecast period to 2021. Although the drop in iron ore prices happened earlier than we anticipated, it is in line with our long-held view that the rally in prices had gone ahead of weakening fundamentals and would face a correction in 2017.

Lower Than Consensus
Iron Ore (62% fe content) Prices At Qingdao Port (USD/tonne, average)
Note: Current Price is correct as of May 9 2017. Source: Bloomberg, BMI

China's Q117 real GDP growth picked up to 6.9% y-o-y, from 6.8% in the previous quarter, as growth was boosted by a front-loading of fiscal spending (which supported infrastructure investment) and an increase in real estate investment growth. However, BMI's Country Risk team believes that such economic strength is unsustainable, and maintains a real GDP growth forecast of 6.3% for 2017 as a whole. In other words, growth will slow over the coming quarters as fiscal spending declines towards existing fiscal spending targets. From 2018 onwards, consistent and large margins of major global producers including those in Australia and Brazil with cash costs of below USD20/tonne will incentivise additional output and mining projects, leading to further weakening of iron ore prices over the years to 2021. This will be exacerbated by the further winding down of China's fiscal spending and the capping of residential house prices from 2018 onwards.

Production Growth Ramping Up Globally
Select Countries - Share Of Global Iron Ore Mine Production (%)
Note: Figures reported for China are for raw iron ore of various grades, of which not all content is useable. Figures for rest of the countries are for ore with 62% iron ore content or equivalent. Source: USGS, BMI

Supply: Australia & Brazil To Defy Regional Slowdown

Global iron ore production will grow from 3,091mn tonnes (mnt) in 2017 to 3,299mnt by 2021. This represents average annual growth of 1.0% during 2017-2021, which is identical to the average growth during 2012-2016. On the one hand, supply growth will be primarily driven by India where mine restarts in the state of Goa will boost production, and Brazil where major miner Vale is set to expand output with its new mine. On the other hand, miners in China, which operate at the higher end of the iron ore cost curve, will be forced to cut output due to falling ore grades.

Imports To Slow To 2021
China - Domestic Crude Steel Production Average Growth y-o-y (%)
Source: WSA, Bloomberg, BMI

Demand: Growth To Be Subdued

Globally, iron ore demand growth will be supported by a policy shift in major developed and emerging markets, away from austerity and towards fiscal expansion, which is a net positive for infrastructure spending and industrial metals demand over the coming months. India will be the bright spot of global iron ore demand growth as demand for steel produced domestically from the construction, automotive and infrastructure industries continues to accelerate. India's steel production will grow by an annual average of 8.9% during 2017-2021, compared to 4.8% the previous 5 years. Meanwhile, US and South Korean demand growth will remain subdued due to a slowdown in steel demand from the respective countries' construction automotive sectors, resulting in stagnating steel production growth. We forecast US and South Korean steel production to grow by an annual average of 0.5% and 1.0% during 2017-2021, respectively.

Ore Demand To Slow With Slowing Residential Sales
China - Residential Sales Growth y-o-y (%)
Source: Bloomberg

Risks To Price Outlook

Risk To The Upside:

  • Ore prices could edge even higher if Chinese ore production comes offline at a faster rate than we expect, thus decreasing the global ore supply glut. This could occur if central government takes a harder line with provincial governments regarding cuts to production in this inefficient sector.

Risk To The Downside:

  • If Chinese steel production declines at a faster rate than we expect, weaker iron ore demand from steel mills would result in a decline in iron ore imports. The key driver could be if Chinese steel exports were to slow down significantly, due to increasing protectionism in major trade partners such as the United States.

  • If China's real-estate sector cools faster than we expect with Beijing's more hardline stance on clamping down on a housing bubble, demand could be eroded faster than we expect. Chinese authorities will remain cautious in managing financial risks in 2017, with the central government reiterating its resolution to tackle asset bubbles.

Iron Ore Price Forecasts (2014-2021)
2014 2015 2016e 2017f 2018f 2019f 2020f 2021f
e/f = BMI estimate/forecast. Source: BMI, Bloomberg
Iron Ore Price, USD/tonne, ave 96.9 55.5 58.4 65.0 50.0 48.0 46.0 44.0
Iron ore price, ave, % y-o-y -28.0 -42.7 5.1 11.3 -23.1 -4.0 -4.2 -4.3