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Steadier China economy offers iron ore hope, but caution stays

A steel worker operates a furnace at a steel manufacturing plant in Hefei, Anhui province July 12, 2011. REUTERS/Stringer
A steel worker operates a furnace at a steel manufacturing plant in Hefei, Anhui province July 12, 2011. REUTERS/Stringer

By Ruby Lian and Manolo Serapio Jr

SHANGHAI/SINGAPORE (Reuters) - A rally in iron ore prices to five-month highs has spurred optimism a stabilizing economy may help top buyer China absorb rising global supply, prompting some analysts and traders to raise their estimates for the second half of the year.

But other forecasters stuck to their price projections, convinced the recent upturn would be short-lived and could quickly falter if Chinese steel demand fizzles out during an anticipated peak season that starts next month.

Still, a rosier outlook suggests that the second-biggest shipped commodity after oil will remain a boon to top miners Vale SA , Rio Tinto and BHP Billiton , although prices remain well below record highs near $200 a tonne (1.1023 ton) reached in 2011.

Surprisingly upbeat Chinese trade and factory output data last week pointed to a stabilizing economy after more than two years of slower growth, fuelling hopes steel demand, which has been firm at the start of the second half of the year, could strengthen further.

"We see stronger-than-expected iron ore demand in the second half since mills have to replenish supplies after destocking in the first half," said Graeme Train, a commodity analyst with Macquarie in Shanghai. "Stronger steel demand will support ore."

Train sees iron ore at around $125 to $130 a tonne in the second half, up from a previous forecast of $120, with the possibility of even stronger prices in the fourth quarter.

Heavy restocking by Chinese steel mills has boosted spot iron ore prices <.IO62-CNI=SI> by 29 percent from the year's low at end-May to hit $142.80 a tonne last week, its loftiest since mid-March. The price stood at $139.20 on Monday.

Before the rally, analysts polled by Reuters on July 4 had expected prices to fall to an average $116 a tonne in the second half, from $136.70 in January-June.

Standard Chartered has also lifted its third-quarter price forecast, to $130 a tonne from its July estimate of $112, and upped its average full-year projection to $133 from $128. Commonwealth Bank of Australia sees upside risk to its forecast third-quarter price of $119 a tonne.

Two traders at big trading houses said they see iron ore averaging about $130 a tonne in the second half of the year.

"Underlying steel demand remains resilient," said an iron ore trader in Shanghai. "As long as the economy continues its recovery and Beijing ramps up infrastructure investment, steel production will grow strongly."

MINOR UPSIDE

Increased steel orders, mainly from the property sector, have encouraged Chinese mills to keep production high.

Floor space for newly started construction projects jumped 8.4 percent in January to July from a year earlier, compared with a 3.8 percent rise in the first six months and a decline in the first quarter, according to the National Bureau of Statistics.

Beijing's plan to boost investment in urban infrastructure and railways is also pushing steelmakers to keep output high.

China's crude steel output could rise by 64 million tonnes, or 9 percent, to a record 780 million tonnes this year, the state economic planning agency said earlier this month.

That increase in steel output translates to nearly 100 million tonnes of additional iron ore demand, outpacing analysts' estimated increase in global seaborne iron ore supply of 48 million to 65 million tonnes this year.

But other analysts see the rally as fleeting.

CLSA commodity strategist Ian Roper said the jump in prices only adds "a bit of upside" to the second-half price average, and sees it as a short-term bounce driven by stronger steel orders and the fact that the expected supply increase hasn't come through yet.

Roper sees iron ore averaging $115 a tonne in July-December, and falling to $95 in 2014.

Standard Bank analyst Melinda Moore has similarly maintained her price forecasts at $113 and $108 for the third and fourth quarters, respectively.

Mills are rebuilding iron ore stockpiles ahead of the peak steel consumption season in September and October. If demand is slower than expected during the peak period, mills could be left with high inventories, putting pressure on steel and ore prices.

(Additional reporting by Silvia Antonioli in LONDON and Fayen Wong in SHANHGAI; Editing by Richard Pullin and Simon Webb)

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