Shares of iron ore producer Cliffs Natural Resources (CLF) fell sharply on Tuesday to a new 52-week low following a downgrade from Goldman Sachs to sell from neutral. In its note to clients, Goldman lowered its 6 month price target to $25 citing expectations for weakness in iron ore prices going forward along with expectations for lower production.
In my previous piece, Cliffs Natural Resources' Dividend Is Safe, But Risks Remain, as a concern, I discussed the fact that all of the major iron ore producers were increasing production despite falling prices. Now, however, the major iron ore producers have announced production cuts. The most recent wave of production cuts was started by Vale (VALE), the world's largest producer of iron ore, with its announcement of production cuts on October 5th. Additionally, on Monday, CLF announced production cuts of its own. Also, while not yet reducing production, BHP Billiton (BHP) has announed job cuts in its iron ore division. Going forward, production cuts out of BHP are certainly possible. I view these production cuts as a necessary ingredient for higher prices. Simply put, over the past year there has been a glut of iron ore. The recently announced production cuts lead me to believe that higher prices are possible.
Iron Ore Hits 3 Month High
Despite weakness in China, iron ore prices have recently started moving higher. In early November, iron ore prices rose to a 3 month high trading above $120 per ton. While still relatively low, this price marks a major improvement from the 3 year low, $90 per ton, prices seen earlier this year. Despite the move higher in iron ore prices, as shown by the chart below, CLF continues to move lower.
As I stated in my previous piece, I believed that CLF would be able to maintain its dividend despite a difficult operating environment. This has proved true as CLF declared its most recent quarterly dividend, 62.5 cents per share, just days ago. Currently, CLF is yielding over 8%. While it is possible that the dividend gets cut going forward, I believe a cut is unlikely as prices have increased significantly from the lows. If CLF was able to maintain its dividend with prices below $100 per ton, then it is unlikely that they will cut the dividend now with prices close to $120 per ton.
Despite Goldman's downgrade, I believe it is time for investors to consider buying CLF. Recent industry production cuts, improvement in iron ore prices, and CLF's 8% dividend are all reasons to consider going long CLF.