ArcelorMittal: This Is Another Opportunity

| About: ArcelorMittal (MT)

Summary

Apart from an improvement in the steel market, ArcelorMittal will also benefit from strength in the iron ore segment that has picked up impressive pace this year.

ArcelorMittal’s mining segment has seen an improvement in its EBITDA on a sequential basis as iron ore pricing has improved, and it is probable that the trend will continue.

The likes of Morgan Stanley have significantly upgraded their iron ore price forecasts for 2016 and 2017 on the back of improving demand from China.

Chinese iron ore demand will continue improving as imports could hit 1 billion tons this year due to investments in infrastructure projects.

More importantly, China’s manufacturing and services PMI have been in good shape over recent months, which is good news for ArcelorMittal since iron ore consumption will increase.

In an article last month, I had discussed how an improvement in steel demand in the U.S. and Europe, along with the imposition of anti-dumping duties, will have a positive impact on ArcelorMittal's (NYSE:MT) financial performance going forward. But, apart from the improvement in the steel market, there's another segment that will contribute positively to ArcelorMittal's performance going forward - mining. Let's see why.

What the mining segment means for ArcelorMittal

In terms of revenue generation, mining is the smallest segment for ArcelorMittal with revenue of $600 million. However, as far as EBITDA generation is concerned, this segment holds more weight than ArcelorMittal's Africa and CIS steel operations. More importantly, the mining segment of ArcelorMittal, which primarily deals in iron ore, is quite resilient due to continuous cost reductions.

For instance, last quarter, even though the revenue from the mining segment was down almost 21%, EBITDA declined a relatively lower 14%. Now, ArcelorMittal's mining business has been under pressure of late due to a drop in iron ore prices and shipments, but the fact that there has been an improvement on a sequential basis cannot be ignored.

For instance, last quarter, ArcelorMittal's mining EBITDA increased over 9% on the back of better iron ore price realizations. This is not surprising as the price of iron ore has rallied impressively in the first half of 2016, prompting the likes of Morgan Stanley to raise their iron ore price forecasts for 2016.

In fact, Morgan Stanley has bumped its iron ore pricing forecast for 2016 by 17%, while for next year, it has bumped its iron ore price forecast by 13%. A key factor that has led to an increase in the price forecast is the strong demand for iron ore from China, where imports of the commodity have remained robust this year on the back of strength in certain key areas.

More importantly, it is likely that the strength in the iron ore market will continue going forward, which will prove to be a tailwind for ArcelorMittal. Let's see why.

Factors that will drive iron ore pricing

China's iron ore import data for June is not out yet, but the data that's available until the end of May paints a rosy picture. This is because China has imported 412 million tons of iron ore from January until May this year, a rise of over 9% from last year. In May itself, iron ore imports gathered stronger momentum in China with a year-over-year increase of over 22%.

At this pace of iron ore imports into China so far this year, it is likely that overall imports will probably hit 1 billion tons by the end of 2016. This will be a jump of 3.3% in imports as compared to 2015. Considering that China consumes 70% of seaborne iron ore imports across the world, the rise in iron ore consumption in the country this year is good news for the likes of ArcelorMittal.

What's even more important to note is that the strength in China's consumption of iron ore will continue going forward due to the country's focus on developing infrastructure projects. More specifically, the country has outlined an investment of $720 billion until 2018 to develop more than 300 transport projects.

This is not surprising considering the increasing pace of urbanization in China. As more and more of the Chinese population shifts into the cities, infrastructure such as roads and housing needs to be developed. As a result, the country will continue to develop infrastructure going forward and this will lead to an increase in demand for iron ore since it is a key ingredient in steelmaking.

Additionally, the housing sector in China is also gaining pace of late and this will be another tailwind for iron ore demand. According to the last available data, China saw a jump of over 53% in home sales over the January to May period this year, clocking $482 billion. This has eventually led to a bump in housing starts in China, which have increased 18.3% in the first five months of the year. Thus, as housing demand continues to pick up pace, the improvement in iron ore demand will continue since more steel will be needed due to a rise in housing starts.

Moreover, investors should not miss the fact that China's manufacturing and services PMI are finally putting in some consistent numbers. In June, the services PMI came in at 52.7, up from 51.2 in the month of May. This was the fastest jump in the services PMI in the past 11 months. An index of more than 50 indicates an expansion in the services sector. Similarly, the manufacturing data is also staying above 50, coming in at 50.0 in June after clocking 50.1 in both April and May.

Due to consistency in both these sectors, Chinese consumers will consider buying more homes going forward as the economy picks up pace. This will eventually create a positive impact on both steel and iron ore demand.

Conclusion

As discussed earlier in the article, ArcelorMittal's mining business has started showing sequential improvement of late. Looking forward, this trend will continue as China's iron ore demand picks up pace, helping the improvement in iron ore prices to sustain the momentum. Therefore, along with an improvement in the steel market, a gradual improvement in iron ore prices will play a key role in helping ArcelorMittal improve its financial performance.

Disclosure: I/we 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.