Iron ore extended the rally into its 5th week, rising 11% from a week ago to $61.50 per tonne.
This rally is only temporary and iron ore's fundamental weakness - oversupply - does not change, according to Goldman Sachs in a research report published today.
We need to put the current rally in context. Iron ore exports fell in April, due to temporary factors wrote analysts Christian Lelong and Amber Cai:
In Brazil, ytd exports are up 12% yoy but monthly exports declined by 2Mt mom. In Australia, vessel loadings were disrupted by bad weather. In aggregate, we estimate the April shortfall in seaborne supply from these two countries was c.6Mt, roughly equivalent to the monthly supply from South Africa, the 3rd largest exporter.
Chinese steel mills have become comfortable with low inventory levels relative to previous years. The average inventory level at smaller mills since the market shifted into surplus has been 25% lower than the pre-surplus average of 2011-13. This reduces the amount of working capital tied up in stockyards, but it also makes the steel industry more sensitive to supply disruptions. In order to compensate for the unexpected shortfall in spot supply, steel mills had to draw from inventory. Average stocks at smaller steel mills have declined by almost 20% since late February, while port stocks fell by 10Mt since late March to 86Mt.
But the long-term picture of oversupply and weak demand does not change:
A return to normalized export growth in Australia and Brazil is likely to result in a gradual increase in inventory levels and allow prices to resume their downward trend.
[In China,] In the absence of concrete measures to stimulate steel consumption in the property and infrastructure sectors, we continue to forecast a 1% contraction in 2015 steel production, with steeper declines expected post 2017.
No major producer has revised their long term production targets downwards. In particular, we believe that the deferral of capex at BHP Billiton reflects further gains in efficiency rather than a change in strategy. Meanwhile, Atlas Iron is the first Tier 2 producer to reverse a mine closure -- and it may not be the last one to do so.
Additional mine closures are required this year in order to offset supply growth from the major producers.
Goldman expects iron ore to average $52 per tonne this year and fall to $44 in 2016 and $40 in 2017.
Checking in on prices, iron ore producers rose after the People's Bank of China cut interest rate for the third time in 6 months over the weekend. BHP Billiton ( BHP) rose 1.9%, Rio Tinto ( RIO) gained 0.3%, Fortescue Metals ( FMG.Australia) jumped 3.6%. Brazil's Vale ( VALE) has rallied 35% since April.
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(END) Dow Jones Newswires
May 11, 2015 01:55 ET (05:55 GMT)
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