Highly leveraged Australian mining stocks have benefited from short-term demand measures that have seen the price of iron ore double to US$69 per tonne since its bottom of US$37 per tonne in December 2015, according to a new report by Morningstar.
“We think this rally is unsustainable, as it is based on short-lived demand measures and near-term supply disruptions,” said the report.
“As temporary tightness in the market abates, iron ore prices should fall by more than half to US$30 per tonne in the long term, driven by falling Chinese steel demand and rising scrap availability.”
Higher steel prices are driving greater steel production and iron ore demand, said the report.
However, the demand driven by Chinese state-owned enterprises is unsustainable, with fixed-asset investment by the Chinese government having a “narrow foundation”, said Morningstar.
“While government stimulus can help support construction activities in the short term, we believe the country is running out of rope to continue this debt-fueled growth.
“We expect construction activity in the country to wane as the pace of urbanisation slows,” said the report.
Steel production in China has also been pulled forward by efforts to limit pollution, said Morningstar.
The overall effect will be oversupply in the iron ore market, leading to lower prices for mining companies, it said.
“The mining industry and its influential managers are long on optimism following the unprecedented China boom,” Morningstar said.
“However, that hope acts as a countervailing force to the supply exits we think are necessary to balance the market.”
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