Iron ore stocks may appear to be the least popular bets in the metal space. The past few years have seen the uncertainties faced by them increase with every passing quarter. Bans on mining, and on exports from Karnataka, export duty hikes, and indictments by legal authorities are just some of the main issues affecting them. A proposed mining Bill that may ask them to share revenue or profit with mining-affected population is another threat.
So, it is no surprise that the main listed firms in this space—Sesa Goa Ltd and NMDC Ltd—have had it rough on the bourses. Their shares are down by about 23% and 26%, respectively, since early April. But surprisingly, compared with their peers on the metals index of BSE, they have done okay, as the index itself is down by about 28% in the same period.
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What could explain this outperformance? In the June quarter, Sesa Goa’s sales fell about 13% from a year ago, while NMDC’s rose by about 11%. Sesa Goa’s operating profit fell 22%, while NMDC’s rose by about 10%. The difference in performance is chiefly because most of NMDC’s sales are in the domestic market, while Sesa Goa is an exporter. A hike in export duty saw Sesa Goa’s duty jump by about 2.7 times, despite sales falling. Still, their performance is nothing to write home about.
After the Supreme Court banned mining in the Bellary district, it allowed only NMDC to produce about 1 million tonnes of iron ore in a month to supply to domestic steel plants. The impact on the state-controlled firm will be mitigated to that extent. Sesa Goa’s acquisition of a significant stake in Cairn India Ltd may be an unrelated factor, which supported valuations.
But a key reason for their relative outperformance could be China and its rising steel output. The country’s steel output was up by about 12% in June, and is up by 9.6% in the year so far. China accounts for nearly 45% of global steel production and is a key importer of iron ore. The government’s desire to soft-land economic growth saw steel production growth slow in 2010-11. Tight supply in the iron ore market also keeps a floor under prices. Lower exports from India and floods in Australia have affected supply.
To add to that, global miners do not anticipate new supply coming into the market to upset this balance any time soon. As a result, iron ore prices are steady, up 2% since April and by about 20% from a year ago. A favourable price environment means Indian miners get better realizations, both for exports and domestic sales. Also, a mine is a resource. A loss in sales is not permanent; it is only postponed to the future. That is another factor that works in favour of Indian miners, especially as their resource has become more valuable in a year. The bottlenecks that exist are external in nature, and if they vanish, it will be back to business as usual.
But that’s the big risk. The assumption is that eventually the regulatory uncertainties surrounding iron ore firms will clear. And firms such as Sesa Goa and NMDC, which claim to have done nothing wrong, will operate normally. If the uncertainty gets prolonged, however, whatever investor optimism remains may get battered.
Graphic by Naveen Kumar Saini/Mint
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