In a series of speeches covered by Fairfax media in the past few days, Rio Tinto Limited (ASX: RIO) and BHP Billiton Limited (ASX: BHP) have stated they are standing firm on their production targets, which means that smaller producers better look out below.
With iron ore dipping below US$60 per tonne just last week and additional supplies set to hit the market later this year, smart money is steering well clear of the sector.
Rio chairman Andrew Harding was quoted by Fairfax as saying that 85 million tonnes (Mt) of iron ore supply would exit the market this year, and an additional 80Mt was 'at risk' despite recent relief offered by a weaker Australian dollar and lower global oil prices.
Some of the 'at risk' tonnage must surely include that provided by junior producers like BC Iron Limited (ASX: BCI), Atlas Iron Limited (ASX: AGO), and Mount Gibson Iron Limited (ASX: MGX), whose all-in production costs are still in the mid AU$60's despite recent efforts to reduce them.
Even Fortescue Metals Group Limited (ASX: FMG) shareholders are feeling the pain recently, with shares dropping 20% in the past month in sympathy with iron ore markets.
With Rio and BHP working to drive costs into the ground, both of these companies have an obvious head-start on other producers with higher costs and weaker balance sheets.
Mining services and construction companies have been put on notice as well, and are another sector with a huge red flag hanging over it.
I would steer clear of any iron ore producer that is not Rio Tinto or BHP.
However, I expect that even these titans will experience struggling earnings in the short term as the realised price for their product plummets.
Over the medium to long-term however, earnings should rebound strongly as smaller competitors are forced out of the market and Rio and BHP once again hold the world (or at least the iron ore market) in the palm of their hand.
Near term however, I consider all iron ore producers too risky to invest in, and would be waiting until more pessimism is baked into Rio and BHP's share price before pouncing.
In the meantime, there's one stock that absolutely deserves a look – it's a market-leading tech stock, and has absolutely nothing to do with resources.
To find out more, simply click on the link below and enter your email address – it takes less than 30 seconds, and is completely FREE!
