Thursday, January 20, 2011

Pillars of boom



Yesterday Bloomberg published an interesting article on Rio's iron ore output:
Production climbed to 50.1 million metric tons in the three months from 47.2 million tons in the same period a year earlier, according to a statement today from London-based Rio, the second-biggest exporter of the commodity. The figure beat a UBS AG estimate of 46.1 million tons.

“Iron ore was much better than what I was expecting,” said Tim Schroeders, who helps manage $1 billion at Pengana Capital Ltd. in Melbourne, including Rio shares. “Given they continue to raise the bar, expectations are pretty high.”

Rio Chief Executive Officer Tom Albanese, who is studying expanding iron ore operations by a further 50 percent by 2015 at a cost of about $14.8 billion, said today that demand is growing from steel mills. Prices may rise to a record $250 a ton this year, Credit Suisse Group AG said this month.

Don't adjust your computer. You read it right. CSG are forecasting a $250 ore price this year, despite the rising supply.

We should perhaps take it with a grain of salt. Such forecasts tend to be harbingers of a top. Nonetheless, there is no disputing that the iron ore price is surging above $180 per tonne, and probably on to a record above $190. And with monthly contracts in the offing, forecasts for Australian iron ore revenue will be blown away.

To give you some idea of just how big this boom threatens to become, I've graphed above Australia's top 10 export earners since 2003/04.

There are several points to make.

First, Blind Freddy can see the boom is based largely on iron ore and coal, with gold, gas and education chipping in.

Second, the projected revenues for 2010/11 iron ore and coal revenues are drawn from ABARES. They were made in mid December (find the documents below). In the case of iron ore, they used an average contract ore price of $132 per tonne which included a likely jump in the Q1 quarterly contract price to around $155.

However, if monthly contracts are forced through then the average price will suddenly jump, as it did when annual pricing shifted to quarterly pricing. The projected ramp in iron ore revenue will go vertical.

In the case of coal, the ABARES projection obviously does not include the QLD floods. It may fall, but this blog reckons the market is currently re-pricing the weather risk attached to coal owing to the giant La Nina. The question is, will volumes fall more than the price rises? Bloomberg also reported yesterday that:
Queensland cut its forecast for coking coal output in the 12 months ended June 30 by 10.5 percent to 177.3 million metric tons after flooding inundated the state, Mines and Energy Minister Stephen Robertson said in a telephone interview today. It may take between two and three months for normal mining operations to resume, he said.

If the same 10% is applied to exports, that will be a fall of around 16 million tonnes in the year, approximately $3 billion. This blog reckons higher prices will recover that figure but not until later in the year. The figure will anyway be swamped by the broader boom.

Of course, the longer and higher this boom goes, the bigger the bust at the end of it will be. And the same monthly contracts currently threatening to send the boom parabolic will ultimately deliver the downside of that same curve.

FeO & met coal

thermal coal

11 comments:

The Lorax said...

Can China continue madly building empty apartments with $250 iron ore? Surely at some point this lunacy has to end?

The report you embedded devotes several paragraphs to the winding back of stimulus in China and the likely slowing of demand for steel, but Credit Suisse thinks ore prices will be up more than a third?!

Torchwood1979 said...

I'd like to see those same datasets graphed in 12 months time.

One thing is certain, education will be down. International student enrolments are down between 20-40% across every university in the country, and our executive aren't telling us the official numbers yet. Usually they're quite forthcoming about the expected number of international students and the countries they're coming from but this time there's an inconspicuous silence and a feeling of "don't mention the war".

Oh, and the student accomodation down the road is hiring hot blonde promo girls to hand out leaflets letting everyone know that if they sign a lease they'll go into the draw for 12 months of free rent. The current vacancy rate plus the 10 storey accomodation going up next door may have something to do with it. :/

Our case of Dutch disease, it's getting worse. Sadly a few workmates are currently "freed up" to support the resource sector. :( I really hope BHP and Rio Tinto need a few more web developers, learning designers and academc skills advisors as I doubt any of these people have the skills to drive a truck because none of them are engineers. Gittins! would be proud.

And I'd almost bet tourism will take a dive as well this year. The question is, how far will our non-resource exports drop?

The Lorax said...

Torchwood, are you reading my mind?

I regrettably "freed up" several of my employees in 2010, but somehow I doubt BHP & Rio have much need for the kind of software engineers I used to employ.

Gittins! will be the first against the wall when the revolution comes.

anonNL said...

The really depressing thing about this is that a lot of this profit ends up overseas.

The mining tax was probably the best and only visionary thing the government has done in a long time. It still amazes me that all it needed was a misleading ad campaign to have it scrapped. Since when will companies leave and jobs be lost when there's still profit to be made?

The mining tax offered a solution to two huge problems: The dire state of infrastructure in Australia and overheating of (part of) the economy.

Australia missed a huge opportunity to correct some fundamental issues there. After this goes bust there probably won't be another opportunity for at least a decade or so.

Anonymous said...

iron ore at $250...the final act in this frenzy of tulip fever.

companies like Rio and BHP have billions of dollars worth of projects in the pipeline here in the West (as of course do non iron ore co's Chevron et al) and this has been the case for many months. however, comparatively little seems to be happening in terms of these new projects. i do wonder whether these companies are jittery re China's continued demand, are actively ramping up the price, and at present content to continue producing from existing facilities? no-one knows better than the miners the boom-bust nature of the resources sector. it was in recent times that BHP simply walked away from the entire Ravensthorpe project in the southwest...

and torchwood1979 - tell your mates you don't need anything other than the truck drivers licence, there are still jobs aplenty however they may have to take a pay cut - most are only earning $140-$170K, but don't forget you don't need any qualifications. true story, relative did safety cert iv via correspondence couple of years ago, now employed by one of the majors $240k (used to be a labourer so pretty happy), another relative sold plumbing parts in warehouse, got truck licence, she now is FIFO on $150k, pretty happy, young girls and guys go up north, quickly clearing $2000 to $3000 per week. and this is a repeated story in every WA family. one potential problem though - all this money means a total readiness to take on enormous debt levels, and those that i know have done just that - after all the boom is never going to end!

@anonnl: i must be west australian to the core because i certainly do not agree with your sentiments re the mining tax. read this perspective from a very considered source:

http://www.acting-man.com/?p=2588

Torchwood1979 said...

Lorax, at the Torchwood Institute we have recovered alien mind reading technology beyond belief. You can believe that or just know that we both work in sectors geting hammered by the "Australian miracle". Really sorry to hear you've had to lay people off, I hope things improve.

anonNL, I couldn't agree more. But Australia doesn't have the political will on either side for reform and the opportunity to rebalance our economy won't be taken any time soon.

The Lucky Country needs a mid-late 1970's style kick in the arse, IMO. We take our prosperity for granted and the complacency really does manage upwards, all the way to the PM's office.

Our last major reform was the GST, which is now over a decade old and since then the tax system has become more loaded with politically motivated favours and downright bribes. I cheered when Kevin Rudd announced the Henry Review and then spat in disgust at their response. WorkChoices wasn't really reform in the considered tradition of the Hawke, Keating and early Howard years. It was more like a hasty smash-and-grab that shredded the arm of the party who tried to implement it. Kevin Rudd was elected by voters who were tired of Howard offering nothing but bribes and spin but in the end Rudd squandered the political capital granted by the electorate in 2007 because he was too frightened of opinion polls.

George Megalogenis (one of the few independent thinking columnists at the Oz) has written an excellent analysis of the post-reform era of Australian politics in the latest Quarterly Essay. It's well worth a read.

Financial Follies said...

Just finished a post on iron ore myself and then hopped over and saw this! That CS forecast for $250 is crazy. Maybe it'll happen but surely we're setting ourselves up for an almighty bust when the party ends.

Houston Lofts said...

Of course, unlike most tiny houses on wheels, mine also has a transmission, so maybe that disqualifies it?

The Lorax said...

Financial Follies:

That's a mighty fine blog you're running there. Well done! I think DLS should give it a plug in his blog roll.

Torchwood:

Our economy is hollowing out. We're gorging ourselves on cheap imports while our exporters wither and die. We are totally unprepared any downturn in China.

AnonNL said...

@Anonymous:

The article you referred to simply seems to restate those things mining companies used to install the kind of irrational fear that led to the mining tax being abolished.

A mining tax is not the same as nationalisation of an entire industry. The mining tax would only be implemented on profits over a certain amount. The companies would still make profit (lots of, in fact) which by definition means ALL COSTS such as research, jobs, investments, executive salaries, equipment, etc have already been covered, meaning the loss of jobs is absolute bs. No company will leave as long as there are profits to be made. If they do, others will be lining up to take over, gladly. In fact, basic economy 101 states that in a perfect market, there's no profit at all!

I'm from The Netherlands, we learned from our Dutch Disease. (http://en.wikipedia.org/wiki/Dutch_disease) We use a huge chunk from profits of our large natural gas fields to fund infrastructure (via a special fund). Every dollar fed into infrastructure feeds back 1.8 dollars in economic growth. Such a scheme also prevents the mining industry from overheating, which would lead to inflation, unbalanced economy, skills shortage etc. All of which is happening in Oz now.

You've been had.

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