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Iron ore is soaring – should you be buying the miners?

Overnight, iron ore, which is Australia’s biggest export and a key steelmaking ingredient, experienced its largest one-day gain in over nine months as the commodity soared 4% to US$116.80 per tonne. The rally took iron ore back to around its levels before the commodity crashed nearly 10% to US$104 earlier in March.

Perhaps the overnight strength would come as no surprise to the executive teams at the nation’s largest iron ore miners – namely BHP Billiton Limited (ASX: BHP), Rio Tinto Limited (ASX: RIO) and Fortescue Metals Group Limited (ASX: FMG) – which all stressed that the sudden plunge was nothing to be concerned over but rather a temporary dip. Fortescue boasts a break-even price of around US$70 a tonne while BHP’s and Rio’s are estimated to be around US$45.

On the other hand, it would indeed come as a relief to some of the nation’s smaller producers, such as Mount Gibson Iron Limited (ASX: MGX) or Arrium Limited (ASX: ARI), which have higher costs and therefore rely more heavily on stronger commodity prices.

Are the iron ore miners a buy?

Given the resurgence of iron ore, you might be wondering whether or not the miners who produce the commodity are now a buy. Indeed, their share prices have improved over the last fortnight thanks to the strengthening commodity price and shares could certainly continue to climb if iron ore goes any higher! That creates another question however – will it stay higher?

Analysts are suggesting that you should not expect the commodity to climb back above the US$130 a tonne level. While it could happen, it is much more likely that it will progressively fall in value over time. In fact, Goldman Sachs has forecast it to fall to just US$80 a tonne within the next two years. That’s a 30% downside from today’s price.

Regardless of the miners’ efforts to reduce costs, lower commodity prices will affect profits and share prices. As such, you should remain on the sidelines until volatility subsides or until shares are trading at much lower premiums so as to limit the downside risks.

Foolish takeaway

The only miner I currently have my eye on is BHP Billiton, due to its much higher level of operational diversification than its competitors. While iron ore is its primary revenue generator, it also focuses on copper, coal and petroleum. In saying that however, it’ll take a lower price than today’s $37.39 price tag to tempt me to buy.

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Motley Fool contributor Ryan Newman does not own shares in any of the companies mentioned.

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