Iron ore prices rebound 60% in 4 months. ENRC to follow in New Year?

Iron ore prices have climbed 60% in the last 4 months but someone forgot to tell “Mr Market” in relation to ENRC – one of the companies most exposed to the iron ore price. Analysts additionally predict that China, the biggest buyer of the commodity, will import a record amount in 2013 as its  newly accelerating economic growth spurs demand for steel.

Trade to China will climb 6.9 percent to 778 million metric tons in 2013, or 65 percent of all shipments, according to the median of 10 analyst estimates. Seaborne demand will exceed supply for at least a 10th year, Morgan Stanley data show. Some analysts are forecasting that prices will climb as much as 22 percent to $170 a ton by June, such as Justin Smirk of Westpac Banking Corp and who correctly predicted this year’s slump and was the most accurate industrial-metals forecaster tracked by Bloomberg.

YTD Spot iron prices

Prices of iron ore initially tumbled to a three-year low in September as China slowed for seven consecutive quarters, before embarking upon a 56 percent rally since then on mounting confidence the nation’s growth will accelerate for at least the next six months. The rebound will boost earnings for thos companies exposed to the price and ENRC is one of the most correlated.

“We’re confident to stay bullish for now,” said Smirk, the economist at Westpac in Sydney who beat as many as 25 others in predicting metals prices for two consecutive quarters on a rolling two-year basis. “We’re seeing the recovery come through in China. They’ve made a switch to their policy adjustments from being contractionary to be more stimulatory.”

Seaborne trade will climb 6 percent to 1.18 billion tons next year, the same pace as in 2012, says London-based Clarkson, the world’s biggest shipbroker. Morgan Stanley estimates that seaborne demand will exceed supply by 28 million tons next year, extending a run of deficits going back to at least 2004. Global steel output expanded about 50 percent since then, according to MEPS (International) Ltd., an industry consultant.

Steel production in China, equal to 47 percent of world output in the first 11 months, will expand another 6 percent in 2013, Credit Suisse Group AG estimates. Ore inventories at Chinese ports dropped 19 percent since the end of October to 71.32 million tons, the lowest level in more than two years, according to Beijing Antaike Information Development Co., a state-backed research company. That may spur imports as steel plants restock, says UBS AG.

While China is rebounding, the 17-nation euro area and Japan have slipped back into recessions. They represent a combined 16 percent of global steel output, according to the Brussels-based World Steel Association. Steel production in the 27-nation European Union retreated 5.3 percent in November from a year earlier and in Japan fell 2.3 percent, the WSA estimates.

Current ore prices are more than double the average cost of production in Australia and Brazil, the two biggest exporters, and above the $100 that Chinese mining companies pay to extract every ton, according to estimates from Credit Suisse and Australia & New Zealand Banking Group Ltd 

China’s miners may struggle to make up for any shortage in seaborne supply because they produce ore that contains about 20 percent iron, compared with 62 percent internationally, according to HSBC estimates and data compiled by Bloomberg Industries. Domestic ore output dropped 3.4 percent in the past two months, National Bureau of Statistics data show.

Here’s a preview of one of our top picks for 2013 that will be included in the New Year edition of our magazine out next week. Make sure you register on the right to receive it for free.

The discount relative to the company’s peers like Kazakhmys, as a consequence of its reputation is too excessive in our eyes, as evidenced by the discount to net TANGIBLE book value (which is currently £5.75bn at current FX rates) of almost 40%. This is the largest discount of all the major mining plays.

So, what could be the catalyst for a re-rating in 2013? Firstly, the stock is very oversold as evidenced by the monthly chart below. Absent a real debt scare or collapse in book value then the only other issue that could take the stock materially lower from here is another sharp leg down in iron ore and other base commodities prices. If we are right on the global outlook for 2013, and specifically regarding China’s resurgence, then iron ore in particular is likely to continue to recover in 2013 and other base commodity prices like ferro-alloys that are ENRC’s mainstay revenue generators. This means that as we move through 2013 analysts could be upgrading earnings estimates for the Group — always a positive sign for a stock price.

The chart below shows a lot of positive signs to us – long down trend break, key moving average cross over and the stock trading above them for the first time in months & supportive RSI & MACD measures. This is one long trade we are very comfortable holding going into 2013 particularly as Goldmans are negative and consensus analysts have yet to come round to a positive bias. This means there is plenty of buying power on the sidelines