First there was a falling Aussie dollar, which was seen as a positive for miners last year. Those miners then announced massive expansions to production to take advantage of continued strong iron prices, which have now completely evaporated. A number of analysts and even the world's largest mining company, Brazil's Vale Mining (NYSE: VALE), have predicted the iron price will fall to $100 a tonne or even lower by 2015.
That slide is well underway, although the price of mining stocks has remained very strong up until the last two weeks or so. At the end of February, Rio Tinto (ASX: RIO) was nudging a 52-week high of $70. Fellow miners BHP Billiton (ASX: BHP), Mount Gibson Iron (ASX: MGX) and BC Iron (ASX: BCI) were all at 52-week highs.
This is despite the fact that the iron ore price declines and doom-and-gloom predictions from analysts had already begun, making you wonder just why those prices went so high for so long. Mr Market clearly dropped the ball on that occasion, providing an opportunity for savvy sellers to sell at a premium.
I'm sure I'm not the only investor reminded of the gold crash of 2013, where the price of gold collapsed like a pricked balloon after months of strong prices. Iron ore is already down 20%, and may have further to fall, particularly if Chinese demand is shrinking.
However, iron is fundamentally different to gold because it is used to build things, whereas a good portion of the world's gold is kept in storage as a hedge for inflation and loose monetary policy. When fears of inflation are allayed (like when the U.S. government winds back its quantitative easing), the price of gold begins to more accurately reflect the demand from manufacturers. So I doubt if iron will fall another 40-50% from its current position, unless Chinese purchasing of the commodity stops overnight.
Investors need to be aware that Chinese growth has already slowed compared to a few years ago, and if their central bank is unable to keep the value of their currency low investors could see demand for Australian iron ore shrivel up considerably. Perhaps time may even see China buying stakes in Australian iron mines; I'm a little surprised it hasn't tried already (that I'm aware of), to be honest.
With the amount of iron ore being produced globally to increase by between 30% and 50% by 2018, continued strong iron prices are dependent on demand increasingly proportionately. It will be interesting to see if all the miners who have announced expansions continue with their plans over the next two to three years.
Foolish takeaway
The price of iron ore is not going back up any time soon. There are still plenty of profitable miners (in fact, virtually all of the big names are) on the ASX, though right now we are witnessing the market revise its valuations in light of reduced future profitability. Many Aussie miners produce at around ~$50/tonne, with the notable exception of Fortescue Metals Group (ASX: FMG), which leaves plenty of room for shrinking margins if they're not carrying too much debt.
Potential buyers should steer clear for the next few months at least, and watch keenly for the opportunity to buy if the market oversells, which it routinely does. Owners should be reconsidering the debt and risks associated with their chosen miner – it's never too late or too early to sell a risky investment. I myself have already sold half my iron portfolio at the first sign of weakening prices, and am settling in to wait out what could be a rollercoaster ride.
