Cliffs Natural Resources (NYSE:CLF) shares are in free-fall. In the last five trading sessions alone, Cliffs is down 14%. BHP Billiton (NYSE:BHP) and Joy Global (NYSE:JOY) are holding up, while Rio Tinto (NYSE:RIO) and Vale (NYSE:VALE) are in danger of joining Cliffs. On March 14, 2013, volumes surged by nearly three-fold, compared to the three-month average volume. Cliffs closed recently at $21.70, well-below downside price of $25 originally thought to a price that would find more buyers:
Data Source: Yahoo Finance
Cliffs is 13% below the downside target, which makes it reasonable for investors holding Cliffs to re-evaluate risks in holding its shares.
There are a number of things to consider in determining the additional downside in Cliffs Natural Resources.
In its fourth quarter, Joseph Carrabba, the CEO of Cliffs, said of the future of Wabush:
I do think that when we do look at the new Wabash if you will with that, we've got to reduce some CapEx pretty significantly for that facility and we'll probably be shrinking the footprint of Wabash. We should have work completed this quarter and be able to get on with our operating plan and be able to report back.
Cliffs recorded a $415 million non-cash impairment that included Wabush. The decision by the company to idle Wabush by the end of the second quarter should not come as a surprise. Idling production will conserve cash from the higher-cost plant, improving cash costs to $95 and $100 for the Eastern Iron Ore business. This is a drop from a previously provided forecast of between $100 and $105.
2) Options Market
In the options market, volume is highest for both call and put options for the $23 strike price between March and July 2013 contract expiry. Open interest for April is highest for call options with a strike price of $25.
3) Analyst Downgrades
BMO Capital reduced its target price of Cliffs to $27 from $50, while BMO downgraded shares from Outperform to Market Perform. Analysts at BAML reduced their earnings outlook for Cliffs to breakeven. Cowen analysts viewed the improved cash cost forecast stemming from Wabush plant idling as being aggressive.
In February, JP Morgan had upgraded shares to Overweight from Neutral when Cliffs was trading at $29.
4) Secondary Buyers Underwater
The $29 share offering for Cliffs shares are now a paper loss for investors.
5) Chinese Steel Prices Improved, Iron Ore Prices Did Not
In February, steel prices rose, but steelmakers still reported losses of as much as $48.24 a ton. 15-month highs in the price of iron ore did not help the Chinese steel industry. This suggests that excess supply still remains for the steel industry.
On March 14, the import price of 62% iron ore fines dropped sharply by 4.4%. In February, imports declined 16% compared to a year ago.
The continued decline of iron ore prices will add selling pressure on shares of Cliffs Natural Resources. Negative macroeconomic events in Asia are adding to the volatility of the metal's pricing. For example, a deliberate move to curb rising property prices in China helped push iron ore prices to two-month lows. Cliffs is being punished the most by shareholders, compared to Vale and Rio Tinto. Cliffs recently cut its dividend and issued shares which diluted its existing shareholders.
Investors may want to be compensated with a higher margin of safety, along with demanding a dividend that is comparable to that of Rio Tinto, at a yield of 3.75% or Vale, at a yield of 4.24%. Unfortunately, to increase the margin of safety, the share price must drop. If that happens, then Cliffs shares will need to trade in the teens before offering a yield of 4% or higher, in-line with its peers.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.