Perhaps counterintuitively, the iron ore price rose last week to AU$134.35 or US$89.18. It has regained almost all of the losses during the first week since the markets began to tumble on 21 February.
There are a few factors behind this. The biggest impact is a falling number of cases of coronavirus in China followed by an improving outlook for Chinese steel demand compared with a mere two weeks ago. However, the shock impact to the iron ore price has been the indefinite closure of the Vale Fazendão iron ore mine in Minas Gerais, Brazil.
This mine produced 11.3 million tonnes of iron ore in 2019 and 26.66 million tonnes in 2018. So at the very least, there is a deficit of 11–14 million tonnes based on FY19 international iron ore demand.
Additionally, bear in mind the potential impact of the cash rate reduction last week to a historically low 0.5%. If the market gets the scent of blood telling it the virus fears are not as bad as we feared, there is a chance share prices will skyrocket.
The Big Australian
The BHP Group Ltd (ASX: BHP) share price fell 12.1% in the first week of sell-offs followed by another 4.2% last week. The last time BHP shares were at a price this low was in December 2018.
At the time of writing, BHP sits at an earnings multiple (P/E) of 11.7. This is only slightly lower than the ten-year average P/E for BHP.
The company's return on capital employed (ROCE) is sitting at 18.6%, helped by the high iron ore price. Relatively speaking, in the materials sector that is a good indicator of an efficient use of capital. This has been improving for the past 3 years consecutively.
Rio Tinto Limited (ASX: RIO)
As of close of trade last Friday, the Rio Tinto share price was down 11.7% from its opening price on Monday, February 24. The last time Rio shares were at this price was September last year.
Rio shares have a P/E ratio of 8.7 at the time of writing, which is slightly lower than its historic average P/E. Rio is at least as efficient as BHP at turning capital into revenues, with an ROCE of broadly the same number when calculated on earnings before interest and taxes (EBIT).
Brokers vary wildly on target prices for Rio Tinto, ranging from excessively high through to "Sell" recommendations. Rio Tinto is noted for its premium iron ore products and will likely do very well from a turnaround in the iron ore price.
The Third Force
The Fortescue Metals Group Limited (ASX: FMG) share price will likely be the big mover over the near term. Fortescue's ROCE is several times that of both BHP and Rio Tinto.
CEO Elizabeth Gaines has driven the company to focus on developing a new high-grade blended product for the Chinese markets which has been very well received.
At close of trade on Friday last week, the Fortescue share price had fallen 14.3% from its opening price on Monday, February 24. At the time of writing, Fortescue is trading at an earnings multiple of 5.15 which I believe to be unsustainably low.
Across all financial and performance indicators, Fortescue remains a very strong performing company with a future of controlled expansion ahead of it.
Foolish takeaway
The underlying performance of these three companies has not changed one bit since the market started to react to the virus. In fact, their prospects have improved based on declining rates of virus infection in China, no export disruption to date, and the closure of the Vale mine creating at least an 11 million tonne shortfall.
These factors, combined with Tuesday's announcement of a lower cash rate and increasing iron ore price, means the share prices of these companies could be set for a rapid change in value.
