INSIDE INVESTOR: A return to the golden days of ore

The massive growth of China’s steel industry and its demands for infrastructure have seen iron ore prices defy investors’ expectations.

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This time last year, we suggested everyone get out of anything to do with iron ore.

The timing was just right. Iron ore prices halved shortly afterwards, falling well below $US90 a tonne. The share prices of all the big miners headed south with the metal.

But this year, despite all the predictions by the experts and all the talk about the end of the mining boom, not to mention the dire forecasts of a slowdown in China, iron ore prices are heading back towards record levels.

That has been helped along by the decline in the Australian dollar. But it has been rising steadily in American dollar terms, too. And there are good reasons why it should remain at healthy levels for quite some time.

Most of the experts put one and one together and came up with three. They figured that if China’s growth is slowing, then it would result in less demand for the key steelmaking ingredient.

To make matters worse, with the mine expansions of the past few years, this was going to happen just as extra supply flooded the market. That added up to price collapse.

It was a compelling argument. So what has gone wrong? For a start, China’s growth may be slowing but its economy is so much bigger now that each year it adds the equivalent of a Switzerland to its national output. That requires a lot of extra infrastructure.

But there is more fundamental reason. China’s steel industry now is massive. A decade and a half ago, it was comprised of large numbers of small mills that could be easily shut down. Since then, it has rationalised, amalgamated and expanded. Today, China boasts some of the world’s biggest mills.

These huge operations pour out steel in astounding quantities and have a voracious appetite for raw materials. Slowing down output is not easy. Shutting them down is even more difficult and could be extremely costly.

That explains why, in times even when steel prices have been depressed, they’ve continued to churn out steel at a cracking pace.

About the only way a manager can cut costs is to stop buying ore and run down the stockpiles. But this can’t be maintained indefinitely. Sooner or later the stockpile becomes dangerously low. And if all the mills have run them down and they all resume buying around the same time, then up goes the price.

This is what has happened in recent months. While it is likely prices will retreat again, don’t count on an extended crash until you start reading about steel mill closures in China. Until then, look for buying opportunities among miners when prices are low.

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This time last year, we suggested everyone get out of anything to do with iron ore.

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