Hot, contrary to popular and speculative belief, RIO, BHP, and Vale do not plan their production to "play the man", ie to effect their competitors. They all husband multibillion dollar investments that demand their complete attention and not be swayed by competitor actions, at least in the short to medium term. All three were caught with their pants down when China started booming in 2004 (earlier, if the data were interpreted correctly). This allowed IO prices to skyrocket and, yes, attract the smaller players now in operation.
The big 3 (3 and a half?) will grow production capacity on their forecasts for demand. As I have repeatedly stated, that forecast sees China increasing iron ore demand roughly in line with GDP growth (7.5%, at odds with most analysts who insisted that IO demand will not grow with GDP but who have been proven consistently wrong), the USA increasing demand (almost irrelevant to Aussi producers, but not to world demand), and India being the big sleeper. Add those up (ROW, mainly Europe, is assumed to be flat) and the excess supply soon dries up.
The high cost IO we witnessed in 2011 - 2014 was not sustainable. Just as uranium at $140/lb, gold at $1800/oz and oil at $150/barrel werent. Both BHP and RIO have had a lot of experience in production volume vs price. They both know, from the Japanese experience in the 70s - 90s that high IO pricing depresses the steel market. Whilst I fall very short of describing the big producers ultraistic, they do recognise that managing IO prices (production) at levels commensurate with steel economics is good for their long term survival, an IO price of $140/t is not (again, contrary to popular opinion, steel price is not as inelastic as most think).
That small players flooded the market in expectation of continuing high IO prices simply exposes their naivety. I do not think you would consider investing in a gold mine that demands gold prices of $1800/oz. Why would you invest in an IO mine with similar requirments? The steel industry will always demand the lowest cost to their inputs else they become uneconomic and shut down (as seen in China over the last 3 - odd years). As IO prices decline, steel production increases, as seen over the past 3 months.
All this is actually very good news for the likes of wanabes like SDL. Firstly, there is a confirmation that those with 10s of billions already invested in the industry see a solid future. Secondly, the idea that they can assume extraordinary IO prices, and base their business case on that, is flawed. They will set the hurdle to the correct height - that can only be good for investors in the long term. Finally, the highest cost producers will be driven from the market, as you say, but not necessarily all the high cost ones (as we are seeing now), filling out a supply - cost curve that will stabilise the market.
Investors need to see things in more than one dimension to understand the market. Viewing it only through your investment decisions is understandable but deeply illogical and flawed.
Good hunting!
SDL Price at posting:
2.6¢ Sentiment: Hold Disclosure: Held
