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Rio Tinto to increase iron ore capacity, positive impact to dry bulk shippers

Xun Yao Chen, Industrials Analyst

Iron ore supply

Iron ore supply is a key driver that affects iron ore prices, which in turn affects import demand for the raw material. An increase in iron ore production capacity would help keep a ceiling on iron ore prices. While this could portray a negative outlook for iron ore miners, lower iron ore prices will increase business for dry bulk shipping companies.

(Read more: Diana Shipping: the most undervalued dry bulk shipping company)

Robust capacity expansion

Amid volatile iron ore prices, Rio Tinto, one of the largest mining companies in the world, is forging ahead with its plans to increase its Pilbara capacity by 50 million (~21%), with another double-digit increase expected in 2015. Other major mining companies, such as Brazil’s Vale and Australia’s BHP Billiton, are also experiencing a similar story. BHP Billiton, which has seen an increase of 9% in annual capacity for the past 12 months ending in June, said that it plans to increase capacity by another 17.6% by the end of this year. Vale, the world’s biggest iron ore miner, received approval from Brazil’s Environmental Protection Agency to undergo a $19.5 billion expansion of its Carajas iron ore mine, which is one of the world’s richest and most productive mines. Based on mining companies’ projections, iron ore capacity will grow from 3 billion in 2012 to 4.2 billion by 2014.

(Read more: Shipping recovery continues with additional purchases, long-term opportunity)

More iron ore will ship

Smaller companies with little economies of scale will eventually dwindle because of competition and expected price declines in the future. The large miners are able to take on such plans because their margins are high due to economies of scale. With a price of approximately $130 per metric tonne for iron ore, these mining giants are enjoying approximately $80 per tonne. Although falling prices will be negative for iron ore producers as a whole, they will benefit steel manufacturers, as they reduce a major cost of input. Steel manufacturers and end markets will likely respond to lower iron ore prices with more demand. If this is the case, then investors can expect shipments from Australia and Brazil to grow over the next few years, which will benefit dry bulk shippers greatly—primarily Capesize vessels.

Some examples of companies that will benefit over the long term are Diana Shipping Inc. (DSX), Knightsbridge Tankers Ltd. (VLCCF), Navios Maritime Partners LP (NMM), Safe Bulkers Inc. (SB), and DryShips Inc. (DRYS).

(Read more: Dry bulk shipping rates rise due to restocking, but likely downside looming)

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