The coffee machine in the Money Morning office gets a work out. Sometimes, you can hear the grinding of beans all day.
However, it’s also a meeting point to catch up with co-workers. We’re in different parts of the building, or with our heads down engrossed in analysing one thing or another. So we don’t always get to have a chat. So the coffee machine enables us to have a quick catch up.
On Friday morning, when I headed down to the machine for my morning brew, I bumped into Jason Stevenson, the resource analyst for Diggers and Drillers. As he waited for his latte I decided to bend his ear on the iron ore market – as you do!
Here’s the outcome of our chat…
Iron ore is getting a beating from the mainstream at the moment.
The recent dip in the ore price resulted in the usual cries of ‘the end is nigh’ from the standard rags. After all, the price had its largest one day drop in four years, to US$104.70.
Now, I know Jason loves an out favour commodity. Not only does he love a contrarian play, but he always looks for the opportunities that the mainstream analysts ignore.
Once we got talking about iron ore, I realised he had a remarkable insight, far out of the mainstream’s view.
So for this week, I thought I’d share with you our chat on what’s happening in the iron ore market. And why you shouldn’t be alarmed; if anything you should be prepared for a golden opportunity.
I had my mobile phone handy, pressed record, and here’s what Jason had to say in the time it takes for a latte to brew…
The Key to Buying Resource Stocks in Today’s Market
Shae: Tell me, in this week’s Diggers and Drillers update, you only briefly mentioned the volatility in iron ore prices. Why is that?
Jason: To be honest, it’s not really newsworthy. There has been all this hype in the mainstream media over the decline in the price, when the fundamentals haven’t really changed – iron ore offers a great investment opportunity at the moment. In fact, the iron ore companies that I’m following offer some of the greatest value in the market going around.
Shae: OK. We’ll come back to the reasons behind your recent Diggers and Drillers stock tips in a moment. However, is the price drop in iron ore as significant as the mainstream would like us to think?
Jason: Well, yes and no. The price did drop by roughly 14% due to some economic data from China. In February Chinese exports fell 18%, yet the month before exports were 11% higher. Punters got scared. However, from January to March is the Chinese New Year period, so you should expect volatile numbers as business and people sort of slow down during this time.
This happens every year. Since the first year of the last iron ore bull market, which started in 2008, Chinese exports have dipped at the beginning of the year because of the lunar celebrations.
So there’s no cause for panic. It’s just that the dip in February was larger in magnitude than expected.
I’ll send you a chart later that shows this. [Ed note: See chart below.]
Shae: But hasn’t China been stockpiling iron ore? And also, I read that production was lower as well.
Jason: Yes. China’s stockpiles have increased to around 105 million tonnes and production was slightly off the long term average of 2.1 million tonnes to 2 million tonnes. But again, these are seasonal factors. Every year, the same thing happens.
Shae: Alright, I want to go back to your Diggers and Drillers iron ore tip. How is this one more isolated from the market than the ‘big boys’ of iron ore? Take Fortescue for example. It’s 9% down since the iron ore price fell, yet XXXXXXXX has recovered. Why is that?
Jason: Fortescue is highly leveraged. Its debt to equity ratio is around 240%. That’s huge. It also needs a high iron ore price to break even. If iron ore drops below USD$80 per tonne, Fortescue is in serious trouble.
Compare that to BBB stock, which has no debt on its balance sheet. It’s got a strong cash position, and is a high margin producer. The iron ore price would have to drop 38% from where it is now before this company gets even close to being cash flow negative.
That’s why it held its price. Investors know the strength of this company. They understand a dint in the iron ore price won’t hurt it like it would high cost iron ore businesses.
Right now, I like iron ore. No one else is willing to take a punt on it at the moment. The market is largely ignoring it. But I still say there are plenty of opportunities out there. You just have to look for a sound company with a low cost of production and sound financials.
Shae: Thanks Jason, enjoy your coffee.
Shae Smith+
Editor, Money Weekend
