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Zacks Industry Outlook Highlights: Rio Tinto, BHP Billiton and Vale

For Immediate Release

Chicago, IL – May 04, 2016 – Today, Zacks Equity Research discusses the Industrial Metals, part 3, including Rio Tinto plc (RIO), BHP Billiton Limited (BHP) and Vale S.A ( VALE).

Industry: Industrial Metals, part 3

Link: http://www.zacks.com//commentary/79925/what39s-going-wrong-w...

For the industrial metals industry, demand will remain strong in the years to come given their varied uses. While industrial metals would gain from healthy momentum in Automotive and recovery in the Construction space, the industry remains saddled by a number of headwinds.

Below, we have discussed some of the key reasons and what investors in the industrial metals sector should be wary of in the coming months as well as over the long term:

The Perennial Problem of the Industry – Oversupply

Iron: The threat of oversupply continues to plague the industry as major iron ore producers, Rio Tinto plc (RIO), BHP Billiton Limited (BHP), Vale S.A ( VALE) and Fortescue Metals Group Limited ramped up production in recent years. They intend to continue exploring for iron ore in Australia despite lower growth forecasts from China and weaker iron ore prices, betting on continued strength in iron ore demand over the long term. Hence, Australia, the world's top exporter of iron ore, will rev up its shipments.

Recently, Rio Tinto announced that its 2017 iron ore shipments would be lower by about 15 million tons. BHP followed suit and stated its plans to cut annual production by 10 million tons to 229 million tons this year. Vale, too, revealed its expectations of full-year iron ore production coming in at the lower end of the previous guidance of 340–350 million tons.

However, as well-intended as the plans are, they may not be sufficient to balance the demand-supply gap. Excess supply over demand, economic downturn in China and severe rivalry between mining giants will keep iron ore prices in check. Weakening market prices of iron ore continue to hurt miners’ aggregate revenues and margins.

Copper: The International Copper Study Group (ICSG) expects a deficit of around 130,000 metric ton in 2016 as demand growth outpaces the production ramp-up. Earlier, at its Apr 2015 meeting, the ICSG had guided a surplus of 230,000 tons for this year.

However, while some companies are announcing production cuts, Rio Tinto and BHP (separately and in joint ventures) plan to mine millions of additional tons of copper. They are amassing vast copper holdings to capture a greater chunk of the $140 billion global market in a bid to eventually squeeze out high-cost producers just as they did in the global iron ore business.

Slowdown in China

Demand in China that alone accounts for a major portion of the industrial metal demand has slowed down due to the country's tepid property market and weaker infrastructure investment growth. China’s economic growth has cast a shadow on investors' view of commodities demand and, as a result, brought down demand for metals, leading to price weakness.

The International Monetary Fund (IMF) raised its Chinese growth forecast from 0.2% to 6.5% for this year, and to 6.2% for 2017, citing resilient domestic demand and the recent stimulus measures introduced in Beijing. However, the predicted rate of growth remains well below 6.9% growth achieved in 2015. As per the IMF, a sharper slowdown in China could have a serious impact on trade, commodity prices and confidence, and lead to a more generalized slowdown in the global economy.

Given that China is responsible for approximately half of the global metal demand, the slowdown in the world’s second-largest economy will likely hurt commodity prices. Metal prices are, therefore, projected to decline 14% in 2016 and 1% in 2017.

Weakness in Emerging Economies

Steel demand in some emerging economies continues to be weak. A deteriorating external environment, in the form of weak exports, low commodity prices, capital outflows and currency devaluation, adds to the woes of these economies. Moreover, geopolitical and internal tensions remain a major concern for these nations.

Brazil and Russia have been struggling with their internal and structural issues, thereby leading to continually muted demand for steel, going forward. The Brazilian economy, with its political uncertainty, caused a 16.7% plunge in steel demand in 2015, which is expected to drop another 8.8% this year.

A Stronger U.S. Dollar

Base metals, as commodities, move in opposite directions to the dollar. Both markets remain closely linked to each other as every turn in the dollar is either followed by, or coincides with, a turn in the price of commodities. The strengthening of the dollar can lead to a drop in industrial metals’ prices.

Falling Oil Prices

The ongoing slump in oil prices, which has been plunging to five-year lows, had a noticeable impact on industrial metal prices last year. A sharp and sustained drop in oil prices is generally associated with declining sales and prices of other commodities. The entire commodities sector may be impacted negatively in the wake of the current oil price carnage.

Bottom Line

Global uncertainties and oversupply conditions of base metals are some of the sector’s worst detractors. But what about investing in the space right now; are there opportunities for short-term investors overriding the headwinds?

Check out our latest Industrial Metals Industry Outlook here for more on the current state of affairs in this market from an earnings perspective, and how the trend is looking for this important sector of the economy now.

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