Yesterday, our article titled "Has Iron ore Bottomed Yet," mentioned China's recent approval of over $157 billion in infrastructure spending as a good omen for the iron ore industry. This we say since it has increased speculations of further quantitative easing in the world's second-largest economy, which has been undergoing one of its worst phases, ever since the global financial crisis. The stimulus will result in strengthening of commodities' prices, as their demand is expected to improve.
Meanwhile, although China's iron ore imports for August dropped by a huge 20.9% on a YoY basis, the dip is primarily a result of continuously declining prices of the commodity. In fact, on the basis of tonnage, they were actually up by 5.7%, and reached a three-month high of 62.45 million tons. According to an iron ore and drybulk trader at Barclays Plc in London, Richard Lee, "China has shown its hand. It intends to add a number of new projects and mills are now short, and therefore they are restocking."
Consequently, amidst these developments, iron ore prices saw a rebound as the benchmark iron ore (62% iron content) augmented by 5.5% to reach $100.2 yesterday, a 3-week high. Iron ore giant, Cliffs Natural Resources (NYSE:CLF), gained 6.4% yesterday while steel companies [especially U.S. Steel Corp (NYSE:X) which recorded a 4.2% gain] also continued to rise, as Market Vectors Steel ETF (NYSEARCA:SLX) posted a 2.3% gain. The news was also good for coal companies (as metallurgical coal is another major raw material of steel), as Market Vectors Coal ETF (NYSEARCA:KOL) rose by 1.5%; the biggest gainers were Alpha Natural Resources (NYSE:ANR) (6.1%) and Peabody Energy Corp (NYSE:BTU) (2.8%).
What about Steel?
Despite this recent gain, the market is still not completely bullish about the full-fledged recovery of iron ore, citing weak steel demand. According to Rory Macdonald, an iron ore broker at Freight Investor Services, "Iron ore prices could continue to gain over the next week or two, but I still question the long-term sustainability of this given the weak steel fundamentals."
Shanghai Rebar (steel used in construction) futures steadied today, as the excitement over this infrastructure spending approval gradually fades away. This is because these projects are likely to take years to complete, which means that the market might continue to face weak steelmaking demand, at least till this year-end.
However, whatever the case is, we see huge potential, especially for long-term investors, in iron ore markets, as the commodity is set to rebound even if the current rallies are short-lived. We reiterate our previous recommendation of going for CLF and VALE S.A. (NYSE:VALE) as a way to realize big upsides while betting on iron ore's full-fledged rebound. We also like Rio Tinto PLC (NYSE:RIO) and BHP Billiton (NYSE:BHP) as their diversified exposure helps hedging against market fluctuations. However, RIO's relatively high exposure to iron ore and cheaper valuations are poised to benefit its holders more as compared to BHP once the rebound takes place. The following table summarizes the valuation metrics of these companies.
Cliffs Natural Resources
Rio Tinto plc
BHP Billiton Limited
Forward P/E (1 year)
Share price Performance (YTD)
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
Business relationship disclosure: The article has been written by Qineqt's Basic materials Analyst. Qineqt is not receiving compensation for it (other than from Seeking Alpha). Qineqt has no business relationship with any company whose stock is mentioned in this article.