Iron ore was a hot topic in 2019 as its spot price soared from a trough of US$70 per tonne to a peak of US$120. The strong performance of iron ore can be reflected in the BHP Group Ltd (ASX: BHP) share price, which increased by 20% in 2019.
So, as the S&P/ASX 200 (INDEXASX: XJO) continues to trend higher, could the BHP share price be a buy at today’s prices?
The underlying mineral spot price is the most important factor when you are a miner of BHP’s magnitude. Other factors such as exploration activities, increases in grades, reserves, production and production efficiencies are also important catalysts for earnings tailwinds. However, the focus here is on the mineral spot price moving forward, which will ultimately drive the share price.
In BHP’s FY19 report, the company’s minerals distribution was:
- Petroleum: 13.4%
- Copper: 24.5%
- Iron ore: 39%
- Coal: 20.6%
- Group and unallocated items: 2.8%
Evidently, iron ore is a key driver for BHP’s profitability which saw its profit after tax increase by 124% in FY19. The company paid a record 78 US cents per share to investors, which also included an additional amount of 25 US cents per share.
Will iron ore stabilise?
Iron ore has benefited from tight supply dynamics triggered by a dam disaster at Brazil’s Vale SA. The general consensus is that supply will expand this year from Brazil and Australia, therefore the supply and demand deficit is expected to narrow.
Steel demand in China is expected to be supported by increasing investment in infrastructure and construction. However, China’s economic slowdown is becoming increasingly more pronounced, while steel prices and steel margins continue to drag the profitability of Chinese steel makers.
At face value, Chinese steelmakers increased production in 2019. However, their earnings sank. Baoshan Iron & Steel, the nation’s largest steelmaker, saw its net profit in the first nine months of 2019 plummet 43%. While there may not be an immediate impact on the iron ore spot price, these headwinds could emerge in the coming months.
Is 2020 the year for copper?
Copper finished 2019 flat as the trade war initiated de-stocking of inventories by manufacturers. This year, investment banks Goldman Sachs, Morgan Stanley and Citigroup are all bullish on copper as the trade war may come to an end. The preliminary truce and phase one trade deal could ease demand concerns for the metal thats used in almost everything.
Coal: a sinking ship?
Coal faced a turbulent year in 2019, as spot prices fell by approximately 40%. Factors driving lower coal prices include a downturn in power demand, a move to liquefied natural gas and China’s push to become more self-sufficient in coal.
I believe BHP may benefit from continued strength in the equity market and the prospect of further interest rate cuts by the RBA. The sector may face headwinds in iron ore markets that could weaken its profitability. However, investors should enjoy the current bullish state of the market with stabilising iron ore spot prices.
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Motley Fool contributor Lina Lim has no position in any of the stocks mentioned. The Motley Fool Australia has no position in any of the stocks mentioned. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Scott Phillips.