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Egypt steel producers | Iron ore prices spike post mine disaster, steel may follow; Likely Negative on Egypt steelmakers

Brazil’s Vale to cut iron ore production by 10% following mine crisis. On 25 Jan-19, a dam holding mine waste at Vale’s (the largest global iron ore producer) Corrego do Feijao iron ore mine collapsed, killing, as of the time of writing, at least 84, with more than 270 still missing. This represents the second deadly collapse at a Vale-owned mine since 2015, when a similar incident occurred at a mine jointly owned by BHP Group and Vale. While the Corrego do Feijao mine accounts for only 1.5% of Vale’s output, the company decided on 30 Jan-19 to halt operations around 10 more upstream dams, and decommission them over the next 5 years, translating into a c10% cut of its output.

Global iron ore prices jump 18%; Steel prices could follow. Brazil’s iron ore price, CIF, rose c18% since the incident, reflecting, in our view, speculations of material supply cutbacks from Vale’s operational mines, should the Brazilian government impose more stringent regulations and/or crippling penalties on the miner. However, steel prices barely moved since then. Because of a lag-effect between steel and iron ore prices, we expect global steel prices to follow shortly, if the iron ore price increase does not recede.

Expect short-term pricing volatility; Long-term pricing and margins to be determined by regulatory measures, global demand outlook. Due to the limited visibility regarding the outcome of the mine incident, we see global steel prices highly volatile in the short-term, until there is more clarity on the regulatory measures facing the iron ore industry at large, and Vale in particular. In the medium to long-term, we expect steel prices to be determined by the industry’s cost structure, and demand progression. A structural increase in the global steel industry’s cost curve, should the iron ore price hike sustain, should lead to a higher global steel price environment. However, the net effect, in our view, on global steel margins would be negative, particularly if global steel demand is unsupportive amid the current global trade tensions and concerns on global economic growth outlook.

Higher steel prices may trigger positive sentiment in the short-term, but likely negative outcome on Egypt’s integrated steelmakers in the medium to long-term. Egypt’s integrated steel producers import iron ore pellets from Brazil, and should start to report rising material costs in 2Q19, on our estimate, reflecting a DoH of 30-60. First, however, we expect local steel prices to rise, following a likely global trend. This could trigger positive sentiment for Ezz Steel and Al Ezz Dekheila Steel, before their margins weaken, assuming the current demand dynamics remain unsupportive of better margins.