Investment banker Dahlman Rose has revised its 2012 commodity estimates as analysts anticipated commodity prices will continue to exhibit volatility with a slight upward basis.
Meanwhile, metals analysts suggest, “Declining ore grades, project cost increases and delays, and political and labor unrest are expected to continue to restrain supply growth; therefore, we believe the global supply response to improving economic conditions will be slower than many anticipate.”
Dahlman lowered 2012 copper price forecasts from $4.75/lb to $4/lb, “and we are initiating a 2013 price estimate of $4.25.” The analysts continue to believe that copper fundamentals remain strong as Chinese demand continues to be robust.
“We expect meaningful growth to continue in China, as well as other emerging nations, as electrical infrastructure buildouts continue amid the continuing trend towards increase urbanization,” they predicted. “Importantly we believe the supply response will be slower than many anticipate. Both physical limitations, such as declining ore grades at existing mines, and structural limitations like work stoppages, increasing resource nationalization and taxation, a shortage of skilled labor, and other factors should continue to be supportive of prices.”
Dahlman adjusted its 2012 benchmark iron ore price from $175/mt FOB (fines) to $145/mt and initiated a 2013 price estimate of $155/mt. “We continue to believe that China will avoid a hard landing scenario and that its seaborne [iron ore] import requirement will grow over the medium term.”
While Dahlman analysts forecast continued improvements in the steel market should lead to increased molybdenum consumption over the near to medium term, “we remain concerned that a significant amount of supply is set to immediately enter the market.”
Freeport-McMoRan Copper & Gold has begun ramping up production at its Climax mine, which Dahlman projects has a capacity to produce 30 million pounds. “Further, we anticipate that General Moly’s Mt. Hope asset will commence production in mid- to late-2014, delivering an additional 38 million pounds of incremental production,” said the analysts.
“Finally, QuadraFNX’s Sierra Gorda mine…is expected to commence production in late 2014 to early 2015, and may produce approximately 50 million pounds of molybdenum during its first years of operation, as a byproduct metal,” they noted. “All of this additional material, in a 500 million pound market, leads us to believe that molybdenum prices will likely remain range bound between $14-$16 per pound over the medium term.”
In its analysis Dahlman Rose highlighted Freeport-McMoRan, Rio Tinto, Cliffs Natural Resources, and steelmaker Nucor as “our top investment ideas for 2012.”
The analysts noted, “Despite several significant headwinds during the fourth quarter of 2011 including a prolonged strike and pipeline disruption at its flagship Grasberg, Indonesia mine, Freeport was able to deliver strong earnings, underscoring our belief that it is the best way to gain copper exposure.”
“Though we expect another volatile year for copper prices in 2012, we believe that Freeport is positioned not only to withstand the volatility, but also to profit through it, and we highlight FCX shares as one of our top ideas,” they added.
Dahlman rated Freeport as a “Buy” at a target of $63.
Although Dahlman expects a volatile commodity pricing environment to challenge Rio Tinto and all producers in 2012, the analysts believe that Rio Tinto management “has made several prudent decisions that have positioned the company for strong growth over the medium to long term.”
Rio’s copper portfolio should benefit significantly as Oyu Tolgoi commences commercial production next year. Dahlman suggests that Rio will slowly consolidate the remaining Ivanhoe shares, and to ultimately take complete control at a significant discount.
Rio Tinto is rated a “Buy” at a $95 target.
Despite a slightly higher than anticipated capex guidance of $1 billion for 2012, “we continue to like the cash flow that is possible at Cliffs,” the analysts said. “Further we like the growth prospect that Cliffs maintains, with the company increasing iron ore production from approximately 40 million pounds [of iron ore production] to 55 million pounds in 2015. This increasing production should power earnings higher, even in a volatile iron ore market.”
“Finally, we have noticed the beginning of a turnaround in the coal market, with the company posting a reasonable production profile from its Pinnacle, West Virginia mine,” they added. “We believe that if the coal business is able to produce any meaningful profitability, it would be a major catalyst to push CLF shares higher over the near to medium term.”
The analysts rated Cliffs Natural Resources a “Buy” at a $95 target.
Meanwhile, however, Dahlman downgraded its rating on Vale from “Buy” to “Hold.” “
While we like the quality of the assets in Vale’s portfolio, we have become increasingly concerned with decisions and developments that have taken place since former CEO Roger Agnelli was officially replaced in May,” the analysts observed.
They also noted that the company just announced an unfavorable court ruling concerning $5.6 billion in income tax possibly owed on earnings of foreign subsidiaries.
“We acknowledge that Vale is still the pure play in the iron ore industry and its cash flow generation and strong dividend (recently announced to be a minimum of $6 Bn, or $1.18/ share for 2012, roughly a 5% yield) are unquestioned, but we do not believe that recent decisions best position the company for future growth,” the analysts advised.
Dahlman also downgraded Southern Copper Corp. from “Hold” to “Sell” at a price target of $28, citing that 50% of the company’s production and a large portion of its growth projects are based in Peru, “which has shown increasing signs of political and social instability related to mining operations.”
“…We believe the company’s significant exposure to Peru adds an element of risk that does not justify the current premium to Freeport shares, which we consider a better vehicle to gain exposure to copper prices,” they concluded.
Metatags: Dahlman Rose, commodity prices, copper prices, molybdenum prices, Rio Tinto, Freeport-McMoRan Copper & Gold, Southern Copper Corp., Vale