End of the Iron Age?

09/17/2014 12:01 am EST

Focus: COMMODITIES

Jim Jubak

Founder and Editor, JubakPicks.com

The recent forecast for iron ore prices from Goldman Sachs, says MoneyShow's Jim Jubak, could have long-term implications for several large international companies.

In the second week of September, Goldman Sachs declared the end of the Iron Age. What basically they've said is that the ten, 15 years where demand for iron ore was running a higher, faster, hotter than the supply, that's over, and now we're looking at a long period; ten, 15, 20 years where supply has caught up to demand and where we're going to see a steady, not huge decline, not big jumps to the bottom or big jumps off a cliff to the bottom, but a steady eating away at the price of iron ore, where it's not going to see a return to the glory days of $120 or $140 per ton for iron ore. Instead, we're going to see a steady erosion from the current level of about $82 over the next few years, so if I can look at my paper here, what Goldman Sachs is saying, their forecast for iron ore, price per ton, 2015, they have kept it at $80 a ton; slightly less than it is right now, but they then went out and lowered their estimates for 2016 from $82 down to $79 a ton. For 2017, from $85 a ton down to $78, so two things happening here. They've lowered their estimates going out, which means they think that this downturn in the market is going to last longer than they expected, and they've also lowered it below current price, so we're looking at a decline from $85; $82 a ton now over the next two years.

The reason for this, basically, is that all of the big overseas shippers of iron ores, the companies that supply China, that ship their iron ore by sea, so we're talking about Rio Tinto (RIO), we're talking about BHP Billiton (BHP), we're talking about Vale (VALE), we're talking about Fortescue (FSUMF); all those companies are basically Australian with the exception of Vale, which is Brazilian. All of those companies are producing massive increases in capacity. Vale recently said that capacity will grow by about 8.4% in 2015. BHP has said 8.9%. Fortescue, which is the youngest, smallest, and in many ways, most strapped for cash of these companies is that they're going to expand capacity by 25%. That way, way, way-it's a bigger increase than you're seeing on the demand side, so what you're really seeing, Goldman is saying, is the shift from a market where supply wasn't catching up with demand to a market where basically supply was running ahead of demand, and that's why they think this is going to be a long-term period of steady, but down or slightly falling prices.

The question, of course, is how long this goes on and whether you do indeed get a pickup in demand and the place that has to come from is China, so Goldman's forecast is based on supply/demand projections and a sense that Chinese growth is not going to go back to the huge 10% growth that it was before, and we're not going to see big consumption increases in iron ore from China. That's the real wildcard here, so basically, Goldman is saying hey, for the next two, three, four years out to 2017, at the least, it's not a time when this part of the commodities market is going to be one where you can look at profits.

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