How to pick good iron ore stocks?

Summary

• Iron ore is an essential ingredient for economic growth, given its use in almost every industry.
• Investors can park their funds in the stocks of iron ore miners, shares of integrated steel companies or ETFs.
• Investors should do their own research and homework before making any investment decision.
• Brazil's Vale SA, BHP Group Limited (ASX:BHP), Rio Tinto Limited (ASX:RIO), and Fortescue Metals Group Limited (ASX:FMG) are among the major players in the iron ore market.

Lustrous and ductile metal, iron, is one of the most common metals in the Earth's crust. It is a key building block of the global infrastructure, as the metal is a key raw material required for the manufacturing of steel.

Steel is an alloy used for the construction of buildings, pipelines, bridges, cars, ships, windmills, industrial equipment, machinery, etc.

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Around 98% of the total iron ore mined every year is directed towards the production of steel, according to the U.S. Geological Survey. Of the total, nearly half is used for construction work and more than 10% in the automotive industry.

Good Read: Why is iron ore rally hurting these two sectors?   

Who are the major producers and consumers of iron ore?

Iron-rich rocks are found globally, but ore-grade commercial deposits are present in a few countries only. Australia, Brazil, China, and India are among the leading iron ore producers in the world.

The production of iron ore is capital intensive, as a significant investment is needed in infrastructure such as transportation. Thus, many of the world's largest mining companies produce this raw material. Also, a few integrated steel production companies are engaged in the iron ore mining and processing. 

Major players in the iron ore market are Brazil's Vale SA, BHP Group Limited (ASX:BHP), Rio Tinto Limited (ASX:RIO), and Fortescue Metals Group Limited (ASX:FMG).

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Must Read: Why are iron ore prices volatile of late?

Currently, China is the world’s leading consumer of iron ore, accounting for nearly 57% of the global consumption, as per the Resources and Energy Quarterly March 2021. The Asian country increased its total iron ore imports by 6% to 444.89Mt in the first five months of 2021.

India accounts for 9% of the world’s iron ore consumption, while the EU, Japan, Brazil and the rest of the world comprise 6%, 6%, 3% and 19%, respectively.

How to invest in iron ore?

There are three primary ways through which investors can park their funds in iron ore. One of the methods is through making investments in an iron ore company, which is engaged in the extraction of iron ore.  

Another option to invest in iron ore is to buy the shares of an integrated steel company, which gives access to both iron ore and steel industries to the investor.

The third option is an exchange-traded fund (ETF), which is focused on holding the stocks of the companies producing iron ore. However, there are not many ETFs that extensively focus on iron ore.

Interesting Read: Here’s What You Need To  Know About Commodity Supercycle

How to choose the best iron ore stocks?

For getting good returns on iron ore investments, investors must do thorough research and analysis to monitor the viability of a stock.

Here are few factors that can be considered before making investment decisions.

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• Reserves: The investor must look for the company's total iron ore reserves and its market value. Reserves are evaluated by feasibility studies, which are used to verify the worth of deposits. A feasibility study accounts for the estimated size and grade of a deposit by subtracting the costs of extraction.
• Production History & Guidance: The investors must analyse the company’s yearly production trend and its guidance for the future. If the production trend follows an uptick pattern with a guidance range higher than the previous year's production, it is a good sign for the investor.
• Portfolio: If an investor wants to invest only in iron ore, a proper analysis of a company's business portfolio becomes necessary. A lot of miners may have diverse portfolios, thus investors must look at the amount of money the company is investing in iron ore and how much earnings of the company are coming through the iron ore business.
• Strength: To monitor the strength of the company, a peer analysis is required. For monitoring a company’s strength among its peers, a fair comparison of its competitors having similar market cap and size can be undertaken to check the business performance.
• Stability: If the investors don't want to lose their hard-earned money, considering the long-term stability of a company is mandatory. A company that is better positioned to weather economic downturns is a good bet for investors.
• Dividend: Dividend-paying companies are relatively more stable. However, sometimes higher dividends mean that the company is not investing much in the business. A company can temporarily cut dividends due to economic downturns, but that doesn't mean that the business is in jeopardy, rather it may require more money to pay instant expenses.

Must Read: How could the red-hot iron ore rally benefit investors?

Who are the leading iron ore producers in Australia?

A number of iron ore producers in Australia have their operations in Western Australia, which is the hub for iron ore mining.

Some of the largest ASX-listed players in the iron ore industry ranked on the basis of their market capitalisation are as follows:

Source: ASX, as of 10 June 2021