Iron Ore

BHP, Rio Tinto and Fortescue: A comeback in the making?

Tue 04 Jan 22, 4:58pm (AEST)
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Key Points

  • The Office of the Chief Economist expects iron ore prices to average US$80/t in 2022
  • Iron ore stocks rallied strongly in the new year amid positive data from China
  • Will lower expected prices drive iron ore stocks lower?

2021 was a tumultuous year for iron ore majors BHP (ASX: BHP), Rio Tinto (ASX: RIO) and Fortescue Metals (ASX: FMG), riding the highs and lows of the volatile iron ore price. 

As of early December, iron ore prices slumped to 18-month lows of around US$90/t from May highs of well over US$200/t.

2022-01-04 16 01 04-Iron Ore Today-s Spot Price & Charts - Market Index

 

In the case of Fortescue, a miner that isn't diversified like its peers BHP and Rio Tinto, its shares hit 2021 year-to-date lows of -40% in late October.

The sharp reversal of prices reflected the decline in China’s appetite for steel, with crude steel output in China down -16% in the September quarter and -14% lower year-on-year. 

The August Evergrande crisis knocked the wind out of iron ore markets, triggering major weakness in China’s all-important infrastructure and residential property construction sectors. 

China’s major real estate developers experienced property sales decline in 2021 for the first time in more than a decade. On top of that, their fundraising levels hit the lowest in five years amid tightening rules aimed at deleveraging the industry. 

As such, new investment in infrastructure slid -5.3% in October 2021 compared to the previous year. While new residential property starts slumped -6.8% compared to the same period in 2020.

The infrastructure and residential construction industry typically account for 50-60% of domestic steel consumption.  

Is the bottom in? 

The sharp decline in iron ore miner valuations made them trade at ridiculous low-mid single digit price-to-earnings ratios whilst boasting low-mid teens dividend yields.  

In this instance, fortune did favour the brave as iron ore miners began to bottom-out in November as spot prices began to improve amid a rebound in Chinese imports.

Iron ore prices managed to finish 2021 on somewhat of a high note at US$120/t.

China’s total iron ore imports in the September quarter came in at 281m tonnes, up 1.4% quarter-on-quarter but remained -12% lower compared to a year ago. 

Chinese policymakers have since allowed some production to resume at steel production hubs like Tangshan.

However, investors should also be weary of upcoming production curbs as China aims for smog-free skies ahead of its Winter Olympics in February 2022. 

A price recovery in 2022? 

The Australian Government’s commodity forecaster, the Office of the Chief Economist (OCE) expects prices to average around US$140/t in 2021 and fall to around US$80/t in 2022.

Its US$80/t average price forecast in 2022 represents a 33% decline from iron ore's last closing price of US$120.75/t on 31 December 2021.  

To add some perspective, Fortescue's average realised price for its iron ore in FY21 was US$135 per dry metric tonne (dmt) while BHP received US$130.56 per wet metric tonne (wmt).

Is it all doom and gloom?

At face value, lower iron ore prices should weigh on an iron ore miners earnings and dividends.

Encouragingly, Fortescue and BHP have both pushed to 3-4 month highs in the new year, up 3.5% and 2.3% respectively on Tuesday. Both stocks have staged a bullish rebound from November lows and regained their 200-day moving averages in recent weeks.

The bounce for iron ore miners is in-line with a pick up in China's new investment in infrastructure in the December quarter 2021, according to OCE. The increase in funding is expected to raise near-term steel demand. 

Despite a weaker price forecast for iron ore, OCE expects "global iron ore markets ... to remain tight, with slow growth in both supply and demand over the next few years."

Which iron ore miner has the most upside?

Rio Tinto boasts the largest upside compared to its iron ore peers.

The consensus is a BUY with a $107.50 price target (+8.1% upside).

The highest and lowest price targets were:

  • Macquarie - Outperform rating with a $135 price target

  • UBS - Sell rating with a $80 price target

Brokers appear to be impressed by the company's diversification and pivot into lithium.

Fortescue has been flagged as the most at risk iron ore play.

The consensus is a HOLD with a $16.79 price target (-15.5% downside).

Most price targets see various share price downsides ranging from -3% to -35%.

Written By

Kerry Sun

Finance Writer & Social Media

Kerry holds a Bachelor of Commerce from Monash University. He is an avid swing trader, focused on technical set ups and breakouts. Outside of writing and trading, Kerry is a big UFC fan, loves poker and training Muay Thai. Connect via LinkedIn or email.

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