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Material Matters: China, Iron Ore, Manganese, Dividends

Commodities | May 21 2020

China, Iron Ore, Manganese, Dividends

-China’s threat to replace Australian iron ore imports considered hollow 
-Metallurgical coal prices likely to remain depressed till India picks up pace
-Manganese prices expected to shoot up further
-Mining dividends expected to outperform the banks

By Angelique Thakur

Iron ore exports and China: Muscle flexing with no substance

The ongoing Australia-China spat has soured trade relations between the two, with China threatening to move away from Australian iron ore.

Good luck with that! UBS’ mining sector experts describe iron ore as a very tight market with not a lot to spare.

Australia supplies 60% of China’s iron ore imports. The next best option available, Brazil, makes up 23% of the market but is beset with weak production and falling exports, observe the experts.

Even if demand from Brazil’s existing export markets – Europe and Jakarta – were to decrease, the analysts believe the hit to demand will be -60mtpa. This is not enough unless production really picks up, they assure.

China’s investment in Guinea’s Simandou iron ore project is also at least five years away from first production. All in all, UBS concludes, with conviction, a move away from Australia is highly improbable at this point.

Metallurgical coal – bleak road ahead

Metallurgical (Coking) coal prices started 2020 on a high note, peaking at US$163/t by mid-March. Things went downhill from there, with prices falling to US$109/t by late-April, reflecting worsening demand conditions across the globe.

With India making up 17% of the world’s coking coal imports, analysts at Commonwealth Bank were not surprised to see coking coal prices plummet right after the nation implemented a lockdown. The analysts consider India’s recovery a prerequisite to any meaningful price recovery for the fossil fuel.

Unfortunately, any recovery is expected to be tepid, with the analysts considering it far too optimistic for major importers- India, Japan and South Korea- to increase steel output as fast as China did after its lockdown.

The analysts predict the premium coking coal price to average US$110/t for the quarter-ending September before fully recovering by FY21-end. The Commonwealth Mid-Year Economic and Fiscal Outlook (MYEFO) estimates a -12% fall in coking coal prices in 2020-21 with upside of 18% forecasted for 2022-23.

Nickel – demand gap woes

Nickel Pig Iron (NPI) flows have seen a shift with increasing production and exports from Indonesia, supported by a weak domestic stainless-steel market and a ban on nickel ore exports.

This has somewhat offset falling production numbers in China, notes the Morgan Stanley team.

Contrary to expectations, nickel supply has seen minimal disruption but this has been overshadowed by a fall in demand from end-users due to lower stainless steel production and a contraction in China’s electric vehicles battery sales.

The team believes nickel presents limited upside potential unless there is a strong recovery in demand.

Macquarie experts note spot nickel prices are currently trading lower than their forecast. This will translate to lower earnings, the analysts predict, with average earnings for FY21-24 downgraded by -52% for Western Areas ((WSA)), -120% for Panoramic Resources ((PAN)), -55% for Mincor Resources ((MCR)) and -57% for Nickel Mines ((NIC)).

Companies with gold exposure have their earnings shielded somewhat from price weakness in base metals generally and are therefore preferred by the Macquarie.

These include OZ Minerals ((OZL)), Sandfire Resources ((SFR)) and IGO ((IGO)).

Manganese – further rally expected

Manganese prices have shot up materially, surging by 20-40% over the last four weeks led by logistics concerns in South Africa post-shutdown and recovering steel demand from China.

Overall, manganese is up 60-77% year-to-date at US$6.90/mtu with the Macquarie team expecting further upside.

The supply hit has prompted South32 ((S32)) to lower FY20 production guidance for South African Manganese by -12-19%. The Macquarie team retains its Neutral stance on the miner.

Mining dividends – the unexpected knight in shining armour

Mining dividends, known for their volatility, have surprised in 2020 by showing notable resilience when most dividend payers listed on the ASX have cut or deferred or cancelled their dividend since the onset of the pandemic.

Citi analysts, for example, cut their FY20 bank sector dividends forecast by -42%. Meanwhile, estimates for resources companies stood relatively stoic in the wind, declining only -13%.

As far the resilient resource sector is concerned, Citi expects dividends to majorly come from the big three iron ore producers BHP Group ((BHP)), Rio Tinto ((RIO)) and Fortescue Metals Group ((FMG)).

Citi experts, in particular, highlight dividend yields from BHP and Rio Tinto, both being about 50% higher than the Australian market.

The experts also point out miners have been a key source of liquidity for Australian companies raising capital since the beginning of March.

Australian Energy stocks – Standing out from the pack

Energy markets have been shocked by an unprecedented reduction in oil demand worldwide due to the covid-19 pandemic and subsequent lockdowns.

Macquarie notes share prices for Australian energy stocks are implying the price of oil will be higher than the current spot price, but the analysts nevertheless anticipate more upside ahead.

Macquarie sees the most upside in Oil Search ((OSH)) among large-cap players due to a strong growth profile in Alaska and Papua New Guinea, closely followed by Santos ((STO)), favoured due to its “realistic and no-nonsense” approach to growth and capital expenditure.

Among small and mid-cap players, the team considers Carnarvon Petroleum ((CVN)) to offer the most upside potential while Senex Energy ((SXY)) is seen as the least risky with a growing portfolio of fixed price gas contracts.

The LNG market remains marred by a supply glut with record low spot prices and the analysts have downgraded Woodside Petroleum ((WPL)) to Neutral on account of unclear FY20 dividends prospect and expected delays in the Scarborough project.

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