Kumba, Exxaro, ARM vulnerable as iron ore price may correct despite China re-emergence

Sishen Iron Ore mine

ASSORE may have brought the curtain down on 70 years of trading on the JSE last month, but there’s still much on offer in terms of the iron ore market exposure it brought investors: African Rainbow Minerals, Exxaro, Kumba Iron Ore and Anglo American all reflect what’s currently going on for the steel-making ingredient.

Iron ore is an interesting mineral in mining’s universe because of its close correlation to industrial activity and infrastructural spend. For instance, the current high valuation of Kumba Iron Ore is reflective of how China – which comprises more than half of iron ore consumption – has emerged from its COVID-19 lockdown.

China’s recovery and the relatively locked down state of the rest of supply-side of the economy in Brazil, Australia and South Africa – the major iron ore producers – have sent iron ore prices rocketing to above $90 per ton. Shares in Kumba, in which Anglo has a 70% stake, reached a fresh high for 2020 last week.

But it would be folly for investors to follow Kumba, or other iron ore producers, much further in its upwards trajectory, according to analysts at Renaissance Capital. They think the iron ore price could slide a third to about $65/t by the fourth quarter.

“We believe a severe COVID-19-induced global economic recession, combined with iron ore supply growth in the second half of the year, could put pressure on iron ore prices,” the authors of the Renaissance Capital report said. Earnings could also feel pressure from strengthening producer currencies – as seen in South Africa’s rand/dollar lately – as well as rising shipping rates and oil prices, the latter off record lows.

This is potentially bad news for Anglo which is exposed to global recession on a number of major fronts. Normally, the group’s production of platinum group metals and diamonds provides comforting diversification when bulk minerals are under pressure. Consumer demand, however, is expected to take longer to recover in this downturn.

As a result, heavy iron ore declines is decidedly unhelpful. According to Renaissance Capital, the one-third iron ore price decline alone will take Anglo’s share earnings down 46% from the current $2,74 per share at the current iron ore spot price.

That’s significant and is reflected in other companies such as Exxaro Resources, a company which – in the absence of strong thermal coal prices – relies on investment income from Sishen Iron Ore Company, one of Kumba’s operating subsidiaries in which Exxaro has a 20% stake. Its earnings could fall 30%.