UPDATE:Capacity Expansion To Drive Down Iron Ore Prices -Moody's

The forecast increase in global iron ore production capacity over the next two years coupled with higher Chinese scrap steel supply will likely drive down iron ore prices, possibly below the current marginal cost of iron ore production, said Moody's Investors Services in a report Wednesday.

Iron ore producers such as globally diversified miner Anglo American PLC (AAL.LN), Kazakhstan-focused Eurasian Natural Resources Corp PLC (ENRC.LN), and Ukraine-based Ferrexpo PLC (FXPO.LN) are therefore "unlikely to benefit from returns of the magnitude witnessed in 2011," the credit ratings company said.

"Around 260 million tons [on a 62% ferrous content equivalent basis] of additional iron ore capacity is expected to come on-stream over the next two years, and we anticipate that this additional capacity will alleviate the tight supply/demand imbalance present today...leading to lower prices," Moody's said.

Moody's expects global iron ore production capacity will increase by 15% over the next two years and outstrip demand for steel products. China will continue to dominate the global supply base, accounting for more than 70% of capacity growth over the next two years despite being the highest cost producing region in the world.

In addition China's metal recyclers are proposing raising the total amount of scrap steel produced nationally to 160 million metric tons a year by 2015 after China produced 100 million tons of scrap in 2011 Moody's said. Scrap steel accounts for around 14% of total Chinese crude steel consumption, it added.

"The simultaneous growth in Chinese scrap steel supply [and uncertainty about Chinese steel demand growth rates], could offset some of the positivity surrounding expected iron ore demand and push prices below the $120/ton barrier," Moody's said.

The barrier represents the marginal cost of producing iron ore in China where declining ore grades have led miners to mine more rock to extract a similar amount of ferrous content.

The spot price for iron ore fines with 62% ferrous content delivered into China was $143/ton on Tuesday, broadly rangebound since the beginning of the year, according to data provided by The Steel Index.

Moody's said that the iron ore divisions of the world's top three iron ore producers Vale S.A. (VALE), Rio Tinto PLC (RIO) and BHP Billiton PLC (BHP) will continue to perform strongly given their low production costs.

The top three accounted for 42% of global iron ore production or roughly 730 million tons out of a total of 1.77 billion tons.

Nevertheless, "the spectacular performance of the past two years is unlikely to be maintained in 2012 and 2013," it added.

The credit ratings agency said there were also upside risks that could support prices. A resurgence in global economic growth could bolster steel demand, particularly in emerging economies such as India and China where per capita consumption could still continue to rise.

Iron ore expansion projects also typically tend to be delayed due to rising costs and more stringent processes to gain permission while political risk such as India banning iron ore exports, could put upward pressure on iron ore prices during the near to medium term, Moody's said.

-By Alex MacDonald, Dow Jones Newswires; +44 (0)20 7842 9328; alex.macdonald@dowjones.com

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