Iron ore has been on a roll, gaining nearly 34% year to date. Prices of the steelmaking commodity have surged above $125 per ton for the first time since February 2014. This has primarily been fueled by strong demand from China’s efforts to revive its pandemic-hit economy while the coronavirus situation in Brazil continues to stoke apprehensions of a supply crunch.

Recovery in China Triggers Iron Ore Demand

Per the World Steel Association, global crude steel production was 152.7 million tons (Mt) in July, a 2.5% drop year-over-year mainly owing to the COVID-19 pandemic. Meanwhile, China alone produced 93.4 Mt of crude steel — the largest monthly volume on record and around 61% of the total output. Also, China’s July steel output marked a year-over-year increase of 9%. In the January to July 2020 timeframe, global steel production was down 5.3% year over year to 1,027 Mt while steel production in China went up 2.8% to 593 Mt.

China’s iron ore imports witnessed year-over-year growth of 24% in July to a record 112.65 Mt. Over the first seven months of 2020, China has brought in 659.6 Mt of iron ore, up 11.8% from the prior year comparable period.

Also, the Official NBS Manufacturing PMI in China was 51.1 in July 2020, up from 50.9 in June and maintaining the streak of five consecutive months of increase in factory activity. This is a major recovery from the all-time low PMI reading of 35.7 in February, which can be attributed to the coronavirus-induced lockdown.

These figures indicate that China is gradually moving out of the crisis. The country is likely to see a strong steel demand henceforth as it ramps up infrastructure investment and production gains more momentum. Thus, the demand for iron ore is expected to remain strong. The World Steel Association expects Chinese steel demand to increase 1% in 2020. Benefits from infrastructure projects initiated this year will carry over and continue to buoy steel demand in 2021.

Supply from Brazil at Risk

While demand in China shows resilience, the aggravating COVID-19 situation in Brazil — the second largest producer of iron ore — has triggered concerns of a constrained iron-ore supply. With coronavirus case tally at around 3.79 million and death toll at 117,756, the country is currently the second worst hit country by the virus. Rising number of infections among mine workers has triggered concerns that it might result in a reduced workforce, limit productivity or even lead to closure of mines.

Thus, the impending supply-demand imbalance is expected to keep supporting iron-ore prices, which bodes well for iron miners. The Zacks Mining – Iron industry has gained 18.7% over the past three months, outperforming the S&P 500’s and the Basic Materials Sector’s rally of 14.8% and 15.0%, respectively.

The group’s Zacks Industry Rank, which is basically the average of the Zacks Rank of all the member stocks, indicates bright prospects in the near term. The Zacks Mining- Iron Industry, currently carries a Zacks Industry Rank #6, which places it at the top 2% of 256 Zacks industries. Our research shows that the top 50% of the Zacks-ranked industries outperforms the bottom 50% by a factor of more than 2 to 1.

Going by the EV/EBITDA multiple (a preferred valuation metric for mining companies that have high capital expenditures), the iron-mining industry has a trailing 12-month EV/EBITDA multiple of 4.17, lower than the S&P 500’s EV/EBITDA multiple of 13.25 and the Basic Material Sector’s 11.07.

In tandem with iron prices, shares of Fortescue Metals Group Ltd. FSUGY, BHP Group BHP, Rio Tinto plc RIO and Vale S.A VALE have gained 56.3%, 19.4%, 18.0% and 15.5%, in the past three months, respectively. While Fortescue Metals and Rio Tinto currently sport a Zacks Rank #1 (Strong Buy), Vale and BHP carry a Zacks Rank #3 (Hold). You can see the complete list of today’s Zacks #1 Rank stocks here.

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