Mark Latham Commodity Equity Intelligence Service

Friday 28th October 2016
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    FT: Copper and China.

    Copper’s reputation held as China industrialised and became the world’s biggest consumer of the metal. Indeed, a crash in copper prices in January 2015 raised concerns among investors about a slowing in the world’s second-largest economy.

    This year, however, copper’s antennas appear less reliable. Despite Beijing trying to turbocharge the economy with credit, the copper price is only up about 5 per cent to $4,700 a tonne, even though it is widely used in construction and property.

    By contrast, prices for steel and iron ore have jumped more than 40 per cent. And coal prices have outdone that with coking coal, which is used in steel, having more than doubled on the Dalian Commodity Exchange.

    So which commodity is sending accurate signals about China’s growth? Yvonne Zhang, director of metal products at CME Group in Singapore, says there are good reasons why coking coal and scrap steel may be better barometers of the Chinese economy right now.

    For one, they are consumed quickly so reflect immediate demand unlike copper which does not corrode so it can be easily parked in a warehouse.

    Strong imports of copper into China this year was not all consumed but was left in stockpiles that are still weighing on the price of the metal.

    That has sent China’s retail investors into steel, iron ore and coal futures. This year the daily trading volumes in iron ore futures have averaged $7bn, according to Goldman Sachs.

    Copper also has a weak correlation with the so-called Li Keqiang index, a popular barometer of China’s growth based on remarks by China’s premier that he follows electricity production, rail shipments and total credit growth as good indicators of China’s growth rather than gross domestic product figures.

    Since January 2012, the three global copper futures (on the London Metal Exchange, Shanghai Futures Exchange and CME) have had a positive correlation with China’s CSI300 equity index but a negative correlation with the Li Keqiang index, according to Ms Zhang.

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    Germany votes against the internal combustion engine

    Germany’s lower house of parliament, the Bundesrat, voted in October to ban the sale of cars with internal combustion engines by 2030. It is a resolution with no binding implications, but it did garner cross-party support. It is certainly a powerful statement of intent.

    Seen from the capitals of the major oil exporting countries, it should be viewed with alarm, not that it will necessarily be achieved, but as a reminder that in combination with the technologies to deliver them, environmental targets only ever seem to get more ambitious in scope and in timing.

    For oil producers, the idea that some oil will be left in the ground forever is a strong motivation to produce now. Revenue maximization no longer lies in controlling supply to support prices over time because time is running out. There is no point husbanding resources for future generations that reject their use.

    But, in the short-term, the opposite appears the case, and OPEC is again considering output controls. This is for two reasons: the financial pain caused by low prices for economies far too heavily reliant on oil; and because producers are near the limits of current output capacity. Iraq and Iran are close to full capacity, Russia is pumping at record post-Soviet levels and Saudi output remains elevated. They are willing to ‘freeze’ only because they cannot produce much more.

    Yet, just as OPEC edges towards an agreement, both Iran and Iraq are seeking billions of dollars of investment capital, which should result in millions of barrels of new oil production from relatively low-cost, conventional resources. Both already contest the limitations that an OPEC agreement would place upon their future development.

    One of the most lasting legacies of US shale oil will thus be the rejuvenation of conventional Middle Eastern oil production, and the world’s dependence upon it. This is because US shale forced Saudi Arabia into open market competition, because climate change concerns have speeded up the peak oil demand clock, and because protecting resources with closed markets hasn’t delivered the desired growth.

    This is a huge sea-change. Lack of access to resources was a permanent refrain of the oil industry in the early 2000s, one that was made all the more intense by the rise of Asian National Oil Companies as they started to compete for scarce assets with the western oil majors. This resulted in rampant asset value inflation and a huge shift in the balance of power between resource owner (the state) and would-be developers.

    That pendulum has now swung back with a vengeance.

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    Coal rally, cost cuts help Teck Resources swing to profit

    Canada's largest diversified miner, Teck Resources logged Thursday better-then-expected quarterly revenuethanks mainly to a sustained rally in coking coal as well as the firm’s cost-cutting measures implemented in the three months to Sept. 30

    The Vancouver-based company, the best-performing Canadian stock in seven years, swung to a profit of Cdn$234 million ($174.9 million), or 40 cents per share in third quarter of the year, compared with a loss of Cdn$2.15 billion, or C$3.73 per share, in 2015.

    Teck’s shares have climbed five-fold to a market value of $16.2-billion, the biggest year-to-date gain of any Canadian stock since 2009.

    The miner, with operations and projects in Canada, the US, Chile and Peru, has risen five-fold on the S&P/TSX Composite Index to a market value of $16.2-billion, the biggest year-to-date gain of any Canadian stock since 2009.

    Teck’s bonds are also the best-performing debt on the Bank of America Merrill Lynch U.S. High Yield Index, returning 104%,according to Bloomberg TV.

    Key to the company’s success has been the ongoing rally of coking coal prices, as it is the largest producer of the steel-making kind in North America. Only last week, the commodity reached $230 a tonne, up from $75 a tonne just a few months ago.

    As a result, Teck has lifted its production forecast for the year. Now it expects to generate about 27-27.5 million tonnes, compared with its previous forecast of 26-27 million tonnes.

    Since early 2015 the company has been implementing a series of cost-cutting measures, including placing projects in the back burner and the reduction of about 9% its global workforce, through a combination of layoffs and attrition.

    Now that its finances have improved, Teck said it expected unit costs to rise in the fourth quarter as it plans to hire more contractors and use higher-cost equipment to maximize production while the bonanza brought by skyrocketing met coal and zinc prices lasts.

    Oil sands progress

    Teck is speeding ahead with its Fort Hills Oil sands project, based in Alberta, and is expected to start production in the second half of 2017. The company has committed $2.9 billion to the project, which is reported to be over 70% complete.

    The investment generated some uncertainty among investors earlier this year, especially after the development of the site was delayed back in May due to wildfires near the project location.

    Teck owns 20% of the 180,000 barrel-per-day project, which is majority-controlled by Suncor Energy (TSX, NYSE:SU), Canada's largest oil and gas producer.
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    Recovering Anglo American sticks to asset sales but with less haste

    Shares in Anglo American are up more than 200 percent this year, like prices of the coking coal it mines, and yet the group is sticking to an overhaul accelerated when commodity markets were rock bottom and it was in deep trouble.

    Now that Anglo American is the best performing blue chip on the London Stock Exchange and some minerals have rebounded, shareholders want the firm to achieve top prices as it sells swathes of its bulk commodities business under a strategy of concentrating on high value minerals.

    The global miner hatched the strategy three years ago. However, it needed to speed up the asset sales and job cuts last year, when its shares dived 75 percent as investors worried about the group's ability to cope with a heavy debt burden during the commodity slump.

    Since last December's announcement that Anglo American would offload three-fifths of its assets and focus on diamonds, platinum and copper, the rally in bulk commodity prices has transformed the market mood.

    Bulk commodities such as coal and iron ore are generating cash for Anglo American, and shareholders are demanding that these assets are disposed of at high prices - or not at all.

    Chief Executive Mark Cutifani rules out a fire sale and says Anglo American will reduce its portfolio of businesses at its own pace, agreeing deals when the price is right.

    "We said at the outset in 2013 that we needed to focus the portfolio. So, the asset strategy hasn't changed, but we needed to accelerate at the end of 2015," Cutifani told Reuters this week. "That is what we are doing and we are progressing pretty well to that plan."

    Questioning of the divestment policy intensified after the appointment in September of a new chief financial officer with a track-record at iron ore giant Fortescue (FMG.AX) - even though iron ore is one of the assets Anglo American says is no longer central to its portfolio.

    Robust production results this week reinforced the view that the firm has less need to sell assets that are generating cash.

    The group's top shareholder, South Africa's state-owned Public Investment Corp, is critical. "The PIC is not in favor of Anglo American's asset sale plan in its current format. Talks are ongoing to see what's best of all for shareholders," a source familiar with the fund's thinking told Reuters.

    PIC fears that much of Anglo American's South African assets will be sold piecemeal to foreign buyers. "The PIC would like to see a break-up where Anglo creates an Africa-focused local company, owned and run by South Africans, and keeps its overseas operations," the source said.

    A PIC spokesman had no immediate comment.


    A year ago, Anglo American's debt reached $12.9 billion, and slumping commodity prices had wiped out its profits. In December it suspended dividend payments until the end of 2016.

    Now the firm says it is on track to reduce the figure to less than $10 billion by the end of the year. Low interest rates can also allow it to cut servicing costs by rolling over debt.

    Anglo American is also making progress on another measure of balance sheet strength in the capital-intensive mining sector - the ratio of its net debt to its earnings before interest, tax, depreciation and amortization (EBITDA).

    This is around 2.4 times, it says, in line with its target of a ratio sustainably below 2.5.

    Further asset sales could improve the firm's credit-worthiness. The Moody's agency moved Anglo American's rating up a notch in September, although it remains two notches below investment grade. Further upgrades could follow "greater visibility" on disposals of iron ore and coal, Moody's said.

    "We expect the company's net leverage to decline to around 2x net debt/EBITDA at the end of this year," Elena Nadtotchi, a vice president at Moody's, said.

    "A sustained increase in net leverage to above 2x net debt/EBITDA could lead to a downgrade, while a further decline in net leverage would be credit positive."

    Many analysts also say Anglo American's disposal strategy makes sense longer term, but the urgency has disappeared.

    "The risk of selling assets at the bottom of the commodity price cycle - and thereby crystallizing losses - has to a significant extent dissipated," analysts Bernstein said in a note this month.


    The most imminent sale is meant to be of Anglo American's Australian coal assets to a group headed by private equity firm Apollo (APO.N), sources close to the deal say.

    This has been held up by price negotiations and analysts expect any agreement to include an escalator clause under which Anglo American would get more if the coal market keeps rising.

    Richard Knights, analyst at Liberum, said a price of say $1.5 billion would equate to about 9 months' cash flow at current coal prices. "I would be surprised if they did a deal without some sort of price escalator," he said.

    Together with Anglo American's other big sale this year of its niobium and phosphates business to China Molybdenum for $1.5 billion, the coal deal would take it to at least the lower end of its 2016 target of selling assets worth $3-$4 billion.


    While placing the focus on a high-value core, Anglo American always said bulk operations, such as iron ore and coal, would be managed, for "cash generation or disposal over time".

    For now, they are generating cash. Coking coal has sold for well over $240 a ton, up 210 percent this year. Australian thermal coal spot prices have hit $100 per ton for the first time since 2012, a nearly 100 percent rise since June.

    Anglo American estimates a $10 per ton price increase in coking coal creates a $142 million rise in pre-tax earnings, while for thermal coal it leads to an extra $54 million to $200 million, depending on the region.

    Iron ore's gains are smaller at around 30 percent, but margins are high. .IO62-CNI=SI A $10 per ton rise adds $491 million to pre-tax earnings, Anglo American calculates.

    Prices of Anglo American's core commodities have by comparison barely moved, but their time will come, analysts predict.

    They are expected to rise late in the commodity cycle when other raw materials fall as China, for instance, switches from smelting new metal, which uses high volumes of coking coal and iron ore, to recycling scrap.

    Copper and platinum are also regarded as plays on a more environmentally sustainable future. Copper, as the best conductor of electricity, could benefit from grid upgrades to carry power from renewable sources, while platinum is used in catalytic converters to make cars less polluting.

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    Oil and Gas

    AG&P launches small scale LNG carrier

    Atlantic, Gulf and Pacific Co. (AG&P) has announced that it has launched an ultra-shallow draft 4000 – 8000 m3 LNG carrier capable of accessing rivers and shallow harbours with a draft of only 2 m.

    The vessel will serve as a ‘work horse’ for nearshore LNG milk-run deliveries to locations with limited access, including shallow rivers and restricted harbours with low water depths.

    The vessel features a hull design that reduces the waterline entrance angle and vessel resistance in waves. The carrier can also be ballasted in open water, improving both stability and speed. It does not require handling tugs, and is able to receive LNG cargoes from a floating storage unit (FSU).

    Derek Thomas, Head of AG&P’s Advanced Research Unit, said: “LNG can be break-bulked – breaking larger LNG cargoes into smaller shipments – and transported in small volumes over short distances using coastal tankers, specialised trucks and trains to a variety of customers. The availability of a smaller scale delivery network through break-building has enabled both distributed power generation and a variety of industrial applications in various manufacturing and processing facilities. Our new scalable LNGC is a plug-and-play customisable supply solution that requires lower capital cost making LNG more accessible and economically viable for small or developing LNG import markets.”

    The company will finance and construct the vessel at its manufacturing facility in the Philippines. It will be built in 16 months, and will be made available for sale or lease.
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    ConocoPhillips sees APLNG hitting full tilt in Q2 2017

    ConocoPhillips, operator of the Australia Pacific liquefied natural gas (APLNG) plant, said it expects the project to reach its full capacity of 9 million tonnes a year in the June quarter of 2017.

    APLNG started shipping from the second of its two production units earlier this month, and is now focused on ramping up coal seam gas supplies, operated by its Australian partner Origin Energy, into the plant.

    "I expect it will be some time in the second quarter before we have enough gas supply from the upstream side to be able to run both trains at full tilt," ConocoPhillips' head of production, drilling and projects Al Hirshberg said on a quarterly conference call on Thursday.

    APLNG has shipped more than 50 cargoes this year, he said.

    Origin has said it expects to start reaping benefits from its investment in the A$26 billion ($20 billion) APLNG project in the year to June 2018.

    APLNG, co-owned by ConocoPhillips, Origin Energy and China's Sinopec, is the largest of three coal seam gas-to-LNG projects to have opened on Curtis Island off Australia's east coast over the past two years.
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    Sinopec's profit rises 11 pct, boosted by refining business

    China Petroleum and Chemical Corporation, or Sinopec Corp said on Thursday net profit for the first three quarters of the year rose 11.2 percent versus a year earlier on the back of a stronger performance from refining.

    The state-controlled energy firm, Asia's largest refiner, recorded net earnings of 30.11 billion yuan ($4.44 billion)during January-September, the company said an emailed statement.

    Smaller rival CNOOC Ltd on Wednesday reported a 15.2 percent fall in third-quarter oil and gas sales as its predominant offshore oil and gas business was hit by weaker prices.

    Sinopec's earnings growth for the three quarters, versus a 22-percent year-on-year drop in net profits for the first half of 2016 suggested its business improved in the third quarter.

    The company said its oil and gas output fell 8 percent on year in the January-September period, with crude oil down 12.6 percent as it was forced to cut output at loss-making fields in response to weaker oil prices.

    Its refinery throughput fell 1.7 percent in the period over a year earlier to 175 million tonnes (4.68 million barrels per day), but the group recorded a 3.5 percent increase in total fuel sales.

    "In face of rapid production growth from independent refiners and ample market supply, Sinopec has focused on readjusting fuel mix to further lift output of gasoline and kerosene," the company said.

    Sinopec said gasoline and kerosene had had a much more rapid increase in consumption compared with lackluster demand in diesel, China's main transport and industrial fuel.

    Fuel demand growth in China, the world's second-largest consumer, moderated along with the broader economy. But domestic competition heated up following moves to allow more than a dozen independent refineries to import crude oil for the first time since late 2015.

    As these independents boosted refinery throughput, state majors came under pressure to reduce operations.

    Sinopec also said its chemicals department contributed to the earning growth by raising production of higher-value products and by using lower-cost feedstock for producing petrochemicals.
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    ConocoPhillips posts smaller Q3 loss on cost, production cuts

    U.S. oil producer ConocoPhillips reported a smaller-than-expected quarterly loss, helped by lower expenses, and cut its capital budget forecast for the year.

    The company also raised the lower end of its full-year production estimate to 1.56 million barrels of oil equivalent per day (mboed). It had previously forecast a range of 1.54-1.57 mboed.

    For the fourth-quarter, the company expected production of 1.56-1.60 mboed. The company said its forecasts exclude production from Libya.

    ConocoPhillips said its total realized price fell to $29.78 per barrel of oil equivalent (boe) in the third quarter ended Sept. 30 from $32.87 a year earlier.

    The company cut its 2016 capital budget forecast to $5.2 billion from $5.5 billion.

    ConocoPhillips' net loss fell to $1.0 billion, or 84 cents per share, in the quarter from $1.1 billion, or 87 cents per share, a year earlier.

    Excluding items, the company lost 66 cents per share, while analysts on average had expected loss of 70 cents, according to Thomson Reuters I/B/E/S.

    The company's total operating costs fell about 25 percent for the quarter.
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    Oil major Total delivers forecast-beating profits on cost cutting and increased production

    The French oil and gas company Total has managed to offset the effects of weak commodity prices by reporting better-than-expected profits in the third quarter of 2016.

    Total's adjusted net income was $2.1 billion in the third quarter of 2016, a 25 percent contraction compared to the same period a year ago but above an expected $1.96 billion seen in a Reuters poll. The company's operating cash flow before working capital changes stood at $4.5 billion.

    The company has put in place a strategy to cut costs across all its units and this is set to continue. The company raised its cost-cutting target from $2.4 billion to $2.7 billion this year. This has meant cutting capital investment and exploring for oil in established fields. The company also noted that increased production at some of its new projects also helped it to deliver forecast-beating profits.

    "Total continues to benefit from its integrated business model and is responding effectively to short-term challenges due to good operational performance and strong cost discipline," Patrick Pouyanne, Total's CEO said in a statement.

    Major oil firms have been busy restructuring since mid-2014 when the price of oil dramatically sank from around $110 a barrel. Oil prices were trading higher in Asia on Friday morning. Brent was up by 7 cents from Thursday at $50.54 a barrel and WTI was up by 4 cents at $49.76 a barrel.
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    ExxonMobil Announces Significant Oil Discovery Offshore Nigeria

    Exxon Mobil Corporation today announced a significant discovery with a potential recoverable resource of between 500 million and 1 billion barrels of oil on the Owowo field offshore Nigeria.

    “We are encouraged by the results and will work with our partners and the government on future development plans”

    The Owowo-3 well, which was spud on Sept. 23, encountered about 460 feet (140 meters) of oil-bearing sandstone reservoir. Owowo-3 extends the resource discovered by the Owowo-2 well, which encountered about 515 feet (157 meters) of oil-bearing sandstone reservoir.

    “We are encouraged by the results and will work with our partners and the government on future development plans,” said Stephen M. Greenlee, president of ExxonMobil Exploration Company.

    Owowo-3 was safely drilled to 10,410 feet (3,173 meters) in 1,890 feet (576 meters) of water. The Owowo field spans portions of the contract areas of Oil Prospecting License 223 (OPL 223) and Oil Mining License 139 (OML 139). The well was drilled by ExxonMobil affiliate Esso Exploration and Production Nigeria (Deepwater Ventures) Limited and proved additional resource in deeper reservoirs.

    ExxonMobil holds 27 percent interest and is the operator for OPL 223 and OML 139. Joint venture partners include Chevron Nigeria Deepwater G Limited (27 percent interest), Total E&P Nigeria Limited (18 percent interest), Nexen Petroleum Deepwater Nigeria Limited (18 percent interest), and the Nigeria Petroleum Development Company Limited (10 percent interest).

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    Ensco’s revenues slip over lower rig utilization

    UK-based offshore drilling contractor Ensco saw its profit as well as revenues drop during the third quarter of 2016 mainly due to lower rig utilization.

    According to its report on Wednesday, the drillers’s profit during the third quarter of 2016 dropped to $85.3 million, compared to $292 million in the prior-year third quarter.

    Revenues were $548 million in the third quarter of 2016 compared to $1.012 billion a year ago. The drop in revenues was primarily due to a decline in reported utilization to 53% from 62% last year.

    Ensco’s third quarter 2015 revenues included $129 million from early contract terminations. The average day rate for the fleet declined to $184,000 in third quarter 2016 from $232,000 a year ago.

    Contract drilling expense declined 31% to $298 million from $434 million last year due to fewer rig operating days and disciplined expense management.

    Ensco said has taken steps since mid-year 2016 to reduce the company’s expense base by reducing onshore support personnel and suspending a discretionary compensation plan. In aggregate, these actions are expected to reduce expenses by approximately $50 million on an annualized basis from second quarter 2016 levels.
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    US Drillers spending increases indicate turning point for industry

    U.S. oil companies have hemorrhaged money and jobs for two years, and scores have gone bankrupt, but now they're making a run at a comeback.

    As exploration and production firms begin reporting spending plans for next year, the first nine said they expect to pump billions of dollars more into oil field operations in 2017. Analysts believe many other companies will follow, hiking spending across the industry by 25 to 45 percent if crude prices hold at $50 a barrel. A resurgence in oil field spending would mark a key turning point for an industry that cut more than $100 billion in U.S. capital expenditures and axed more than 100,000 energy jobs in Texas alone during the downturn that began in the summer of 2014. Such a rebound in spending would lift Houston's energy services companies, toolmakers, and other businesses that support oil production. -- and slowly bring back jobs to a traumatized industry.

    "We're walking down the tunnel and finally seeing the light," said Joe DeGeare, president of Energy Fishing and Rental Services, a Houston company that provides tools to retrieve objects stuck in oil wells. "We're looking forward to an uptick, no doubt about that."

    Historically, energy employment in Houston begins to rise about a year after crude prices hit bottom and six months after the nation's fleet of drilling rigs reaches its lowest point. U.S. crude snapped higher after plummeting to $26 a barrel in February, and the rig count has steadily climbed since May.

    That means Houston's energy job market will probably start to show signs of life around the beginning of next year, when companies begin spending more, said Bill Gilmer, an economist and director of the Institute for Regional Forecasting at the University of Houston. But hiring isn't just going to take off.

    "The last step in the improvement process," Gilmer said, "will be robust hiring."

    Energy executives have changed their tune about the oil industry's prospects since crude prices climbed to $50 a barrel and strong global demand began whittling the supply glut. U.S. stockpiles of crude oil, for example, have plunged 43 million barrels since the beginning of September, including a 550,000 barrel decline last week, according to the Energy Department.

    In addition, Saudi Arabia and other major oil-producing nations have moved to cut output and resume their role of managing markets, further propping up prices.

    Energy services firms Baker Hughes of Houston, and Weatherford, which has its main U.S. offices in Houston, reported combined job cuts of more than 2,000 in the third quarter, but their executives said worst of the downturn appears behind them. "The fourth quarter is the beginning," Bernard Duroc-Danner, Weatherford's CEO, told investors Wednesday.

    They'll know for sure soon enough. In coming weeks, oil companies will put out a flurry of announcements detailing how much money they plan to spend in oil patches in Texas, Oklahoma and North Dakota. Over the last two years, the industry has found itself crippled by ultra-low oil prices, forcing them to make deeper budget cuts in 2015 and 2016 than they did during the mid-1980s oil bust. Over the past two years, oil companies have cut their U.S. budgets by 51 percent compared to 46 percent in the mid-1980s, according to investment bank Cowen & Co.

    So far, it looks like the nation's shale plays will get an infusion of additional cash in 2017. Midland-based Diamondback Energy, one of the largest producers in the Permian Basin in West Texas, plans to boost its budget 48 percent to as much as $650 million next year. Several others, including U.S. drillers Rice Energy and RSP Permian, signaled they'll increase spending by 52 percent, to more than $5 billion combined.

    Assuming crude prices remain around $50 a barrel, the oil industry will likely spend at least 25 percent more in 2017 than it did this year across North America, bringing capital expenditures in the region to around $110 billion, according to investment bank Evercore ISI. That would be the largest increase Evercore has recorded since at least 2000.

    If crude prices keep climbing, spending could increase somewhere between 30 percent and 40 percent, Evercore forecast.

    "We're coming out of the biggest recession for the oil field in a generation," said James West, an analyst at Evercore ISI in New York. "North American companies are very intent on stemming production declines and returning to growth mode."

    Oil companies cut their budgets by more than half this year, to $88 billion from $195 billion in 2014, Evercore estimates. A 25 percent increase would make up a lot of ground, analysts noted, but it wouldn't restore the industry to its condition at the height of the shale oil boom in 2014.

    That's largely because U.S. oil service companies will have to work through equipment and labor constraints for several months, after the extended downturn forced service companies to dramatically reduce workforces and take parts from idle equipment rather than making repairs on active machines. Crude prices also remain below their $107 a barrel peak in June 2014, and lenders are reluctant to provide the capital the companies need to expand.

    Cowen & Co. expects U.S. onshore expenditures to clime 45 percent next year, and probably push domestic oil production up from its 2016 low point of around 8.7 million barrels a day. With larger budgets, drillers would likely bring the U.S. land rig count up from 528 active machines to around 610, according to Cowen.

    "All these companies need to show production growth to appease investors," said Marc Bianchi, an analyst at Cowen & Co.

    Evercore and Cowen track the oil industry's spending habits through annual surveys. A third firm, energy research group Wood Mackenzie, said domestic drillers could easily bring spending up by $10 billion next year – though that amount could double or triple if crude prices rise toward $60 a barrel.

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    Which US Independents will increase production in 2017?

    Cash-flow neutrality, capital discipline and de-leveraging will remain the strategic priorities for the coming year. Unless oil prices rebound to US$60/bbl, a return to double-digit production growth is still some way off for most. So what does the future hold for US Independents?

    Growth and cash-flow neutrality are mutually exclusive goals for all but a handful at US$50/bbl WTI, but most companies could self-fund 10% growth at US$60/bbl.  Our most recent analysis looks at:

    Oil prices required for cash-flow neutrality
    Spending requirements
    Cash-flow impact
    Leverage versus cash-flow breakevens
    Company guidance for 2017

    Kris Nicol, Principal Analyst for Corporate Research, shares his thoughts on the future of US Independents.

    Companies included in this analysis: APC, APA,CHK, COP, CLR, DVN, ECA, EOG, HES, MRO, MUR, NFX, NBL, OXY, PXD, RRC & SWN.

    A return to material self-funded growth requires >US$55/bbl

    We estimate that our peer group of the 17 largest US Independents requires an average of US$50/bbl WTI in 2017 to be cash-flow neutral and replace production declines; US$57/bbl and US$63/bbl is required to grow at 5% and 10%, respectively. Three companies can achieve self-funded double-digit growth in 2017 at
    Production could decline even with increased spending

    We estimate that half of the companies’ production would decline if capex remained flat from 2016 to 2017; several require >40% increases just to offset declines. Southwestern and Chesapeake face the biggest challenge. Companies with inventories of high-impact wells (Pioneer and Range) and those with production support from international assets (Marathon, ConocoPhillips, Hess) require less capital to generate growth. Delivering 10% growth across the peer group in 2017 would require US$19 billion more capex than 2016 and translate to a US$11 billion cash-flow deficit in our base-price scenario.

    Who is best positioned to grow in 2017?
    Companies with low cash-flow breakevens and low leverage (Marathon, Hess, Pioneer) are best positioned to grow in 2017. Longer term, portfolio quality plays a larger role in determining which companies grow at the highest rates (Pioneer, EOG, Devon) and which remain challenged (Chesapeake and Southwestern).

    Flexibility will be incorporated into 2017 planning process

    Several companies have already provided preliminary 2017 guidance, much of which aligns with our analysis. But we expect activity plans to remain dynamic, with activity ultimately determined by oil and gas prices, capital availability, M&A activity, hedging activity, shifting cost structures, and development optimisation.

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    Sanchez may partner with Blackstone to buy Anadarko assets

    Sanchez Energy Corp is in talks to partner with Blackstone Group LP (BX.N) on a deal to buy Anadarko Petroleum Corp's assets in South Texas, the Wall Street Journal reported.

    The deal is expected to value Anadarko's assets at between $3 billion and $3.5 billion, the Journal reported, citing people familiar with the matter. (

    Blackstone and its credit arm, GSO Capital Partners, would likely fund or participate in the purchase, according to the newspaper.

    Sanchez had also been in talks with Apollo Global Management LLC (APO.N) and energy-focused private equity firm EIG Global Energy Partners to participate in the offer, the Journal reported.

    Intrepid Partners, Citigroup Inc and J.P. Morgan Chase & Co are working with Sanchez on the deal, the report said.

    Anadarko in July increased the high end of its asset monetization target range to $3.5 billion, expected by year-end.

    Sanchez, Blackstone, Apollo Global and EIG were not immediately available for comment. Anadarko declined to comment.
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    Kinder Morgan to begin construction on Elba Liquefaction project November 1

    Kinder Morgan will begin construction on its Elba Liquefaction project near Savannah, Georgia, on Nov. 1, ahead of a final ruling from federal regulators on rehearing requested by environmental activists, the company said on Wednesday.

    The company received approval from the Federal Energy Regulatory Commission (FERC) on June 1, but the Sierra Club and associated individuals have since filed a request for a rehearing, which is still pending FERC.

    The project, which is supported by a 20-year contract with Shell, will be constructed and operated next to the existing Elba Island liquefied natural gas (LNG) terminal and have capacity to export 2.5 million tonnes per year of LNG.

    A number of other projects under construction by the midstream giant are facing regulatory and legal hurdles at a time when energy infrastructure projects in North America are drawing increased scrutiny from environmental and native American groups.

    Kinder Morgan on Wednesday said it was appealing a decision by a judge in Wood County, Ohio, who ruled the company did not qualify for eminent domain for the construction of its proposed Utopia Pipeline. That line would transport 50,000 barrels per day (bpd) of ethane and ethane-propane mix across Ohio to Windsor, Ontario.

    The company has filed lawsuits for eminent domain in other counties in Ohio for construction of the line, executives said, adding they were able to obtain the property they sought.

    "It is typical in all of our projects that we try to avoid use of eminent domain and we negotiate with a spectrum of landowners," executives said, noting about 65 percent of the land acquired for its pipeline construction comes through easements without eminent domain.

    The appeal could take months, Kinder Morgan said.

    Kinder Morgan's Trans Mountain Pipeline expansion, which would increase capacity on the line from 300,000 bpd to 890,000 bpd, remains under review by Canadian government, after the National Energy Board recommended its approval, subject to 157 conditions. A decision on that project is expected on Dec. 20, 2016.

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    GE in talks to buy oilfield services provider Baker Hughes-WSJ

    General Electric Co is in talks to buy oilfield services provider Baker Hughes Inc, the Wall Street Journal reported on Thursday, citing people familiar with the matter. (

    Baker Hughes, which has a market capitalization of $23.1 billion, declined to comment.

    GE could not be immediately reached for comment.

    Baker Hughes shares shot up nearly 18 percent to $64.31 in after-hours trading. GE shares were down 1.6 percent at $28.18.

    General Electric denied reports late Thursday that it’s in talks to buy the Houston oil services company Baker Hughes.

    The Wall Street Journal, citing unnamed sources, reported earlier that GE approached the Baker Hughes about a takeover. In a statement, GE, headquartered in Boston, said  saying it is only in talks with Baker Hughes regarding partnerships, not a potential acquisition.

    “We are in discussion with Baker Hughes on potential partnerships. While nothing is concluded, none of these options include an outright purchase,” said GE spokeswoman Jennifer Erickson in an email response.
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    Antero Resources 3Q16: Production Up 25%, Averaged $3.96/Mcf

    Antero Resources, one of the biggest drillers in the Marcellus, released their second quarter 2016 update in August which showed natgas production was up 19% over 2Q15.

    However, the company also reported production was essentially flat (the same as) production during the first quarter of 2016. But in September the company revised its 2016 production estimates–up–because they are using more sand in their fracking.

    How’s that working out? Yesterday Antero released their third quarter 2016 results. Production is up 25% in 3Q16 over 3Q15, and up 6% over 2Q16. In other words, more sand is working.

    The other important thing to note about Antero is that the company is perhaps the top Marcellus/Utica driller that makes use of hedging–locking in long-term prices for the gas it produces. Instead of having to sell its gas at whatever the daily market price is (right now averaging $1.35 per thousand cubic feet, or Mcf, in the Marcellus/Utica), they sell it at a locked-in price that’s much higher. For 3Q16, Antero’s average sale price was a whopping $3.96/Mcf! Smart financial folks working at Antero.

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    Cenovus cuts exploration and production budget again

    Cenovus Energy Inc. cut its 2016 exploration and production budget again, as the Canadian oil producer looks to tackle a steep fall in oil prices that has eroded cash flows.

    The company, which reported a much bigger-than-expected loss on Thursday, cut the full-year exploration and production budget to $715-million-$805-million, from $740-million-$855-million it had previously forecast.

    Cenovus also narrowed its full-year oil and gas production forecast to 266-272,000 barrels of oil equivalent per day (boe/d) from 258-280,000 expected earlier.

    The company is on track to increase its oil sands production capacity to 390,000 barrels per day (bpd) on a gross basis, Chief Executive Brian Ferguson said.

    Cenovus’s oil sands production in the third quarter was 153,591 bpd, while total oil production was 208,072 bpd.

    The company reported a net loss of $251-million, or 30 cents per share, for the third quarter ended Sept. 30, compared with a profit of $1.80-billion, or $2.16 per share, a year earlier.

    The year-ago period included a $1.9-billion after-tax gain.

    Operating loss, which excludes most one-time items, was 28 cents per share in the latest quarter, much steeper than analysts’ average estimate of 9 cents per share, according to Thomson Reuters I/B/E/S.
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    Genscape Cushing inventory 10/22-10/25

    Genscape Cushing inventory 10/22-10/25: -339,126 bbl over week ending 10/21

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    More Marcellus/Utica Gas Begins to Flow to Chicago Area via NGPL

    More Utica/Marcellus natural gas will begin flowing to the Chicago area beginning next Tuesday, Nov. 1.

    In June 2014 MDN brought you the news that the mighty Rockies Express (REX) pipeline was reversing the flow on the eastern end of the pipeline, to send Utica/Marcellus gas from Ohio all the way to points in Indiana and Illinois.

    In October 2014 MDN reported Kinder Morgan’s subsidiary Natural Gas Pipeline Company of America (NGPL) announced plans to expand their Gulf Coast mainline pipeline from the REX pipeline interconnection in Moultrie County, Illinois, to points north on NGPL’s pipeline system, called the Chicago Market Expansion Project. In March of this year, the Federal Energy Regulatory Commission (FERC) approved

    it (see FERC Approves Pipeline to Move More Marcellus/Utica Gas to Chicago). Great news! The work is done, and FERC has just granted permission to NGPL to start up the compressor station next Tuesday that will deliver more gas to Chicagoland…
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    National Oilwell Varco reports third quarter 2016 loss

    National Oilwell Varco, Inc. today reported a third quarter 2016 net loss of $1.36 billion, or $3.62 per share. Excluding other items, net loss for the quarter was $128 million, or $0.34 per share. Other items totaled $1.09 billion, pretax, consisting of a $972 million goodwill impairment and $116 million of other charges primarily associated with severance, facility closures and write-offs of certain assets. Other items, net of tax, totaled $1.23 billion and included a $213 million valuation allowance against foreign tax credits.

    Revenues for the third quarter of 2016 were $1.65 billion, a decrease of five percent compared to the second quarter of 2016 and a decrease of 50 percent from the third quarter of 2015. Operating loss for the third quarter was $1.19 billion, or 72.1 percent of sales. Excluding other items, operating loss was $108 million, or 6.6 percent of sales. Adjusted EBITDA (operating profit excluding other items before depreciation and amortization) for the third quarter was $68 million, or 4.1 percent of sales, an increase of $43 million from the second quarter of 2016.

    'Our ability to post a higher Adjusted EBITDA on a five percent sequential decline in revenue was the result of our team's continued progress in improving our efficiencies and lowering our costs,' commented Clay Williams, Chairman, President and CEO. 'While consolidated revenues continued to contract in the third quarter, two of our four reporting segments posted sequential revenue growth, and three of our four segments posted higher margins.'

    'We are encouraged by the early signs of a recovery in the North American marketplace. Our short cycle businesses within our Wellbore Technologies Segment account for over 80% of total segment revenue. Within North America these posted sequential revenue growth of approximately 15%. Even though international, offshore and capital equipment markets remain challenging, we believe declining global production and improving commodity prices are setting the stage for a broader recovery in 2017. In the meantime, we continue to aggressively reduce costs, improve efficiencies, and invest in our comprehensive technology portfolio. So far in 2016 we have added significant new technologies in completion tools, directional drilling tools, condition-based monitoring services and drilling optimization services. All are winning significant customer interest, and all better position NOV for the inevitable recovery.'Rig Systems

    Rig Systems generated revenues of $470 million in the third quarter of 2016, a decrease of 17 percent from the second quarter of 2016 and a decrease of 69 percent from the third quarter of 2015. Operating loss was $962 million, which includes the Company's charge against goodwill. Adjusted EBITDA was $50 million, or 10.6 percent of sales, an increase of two percent sequentially and a decrease of 84 percent from the prior year.

    Backlog for capital equipment orders for Rig Systems at September 30, 2016 was $2.76 billion. New orders during the quarter were $185 million, representing a book-to-bill of 51 percent when compared to the $363 million shipped out of backlog.
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    Alternative Energy

    China's growth in renewable energy raises 'overcapacity' concerns: IEA

    China led the world in expanding renewable energy capacity last year, contributing 40% of global renewable power growth, and it's set to grow by another 60% over the next half decade, according to the Medium-term Renewable Market Report released by the International Energy Agency (IEA) on October 25.

    The IEA predicts that in 2021, more than one-third of global solar photovoltaic and onshore wind capacity will be located in China.

    Integrating that capacity could be difficult however, given a slowdown in demand for electricity and the relatively high cost of renewables compared with fossil fuels.

    But a new challenge of electricity overcapacity may emerge over the medium term, given that China still has a substantial number of coal, nuclear and renewable plants under development, yet its electricity demand growth is slowing down at the same time, the IEA warned.

    The overcapacity may have an impact on the integration of renewables into an already congested power grid system over the medium term, said the IEA.

    China has been seeking out a more financially sustainable policy to "tackle the increasing total cost" to support renewable energy, as it aims to shift economic growth away from heavy industries such as coal, the IEA said.

    The country installed over 160 GW of non-hydro renewables since 2010, mostly supported by the "feed-in tarriff", which was aimed at promoting investment in renewables, requiring power companies to purchase green energy at a set cost. But the FIT also caused renewable energy to be costlier than fossil fuels such as coal.

    The rapid growth in renewables, in turn, also increased the financial burden, with the renewable energy surcharge more than tripling over the last five years since its introduction in 2009, the IEA said.

    "Several policy options are on the table to decrease the cost of renewable support, but they are all at an early stage of development," it said.
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    Solar Roadway Under Construction In France

    French energy minister Ségolène Royal inaugurated yesterday the construction of one kilometer of solar road in France’s northwestern department Orne.

    The construction of the first solar road in Orne, France has now begun. French energy minister Ségolène Royal had traveled to Orne in the summer to inaugurate a manufacturing plant that will produce the so-called “Wattway” paving, made from solar PV.

    On Monday, Royal made the same trip to inaugurate the construction of the first solar road. The solar road will be approximately 1km long and 2 m wide, covering an area of 2,800 m².

    Colas, which is the French company behind the Wattway innovation, said the installation of the 1km solar road will be completed by December 2016.

    Upon its completion, the solar road in Orne will be connected to the ENEDIS electricity distribution network and is expected to generate 17,963 kWh of electricity per day, which is enough for the public lighting of a town of 5,000 inhabitants, added Royal.

    Furthermore, the energy ministry said, the site will enable firstly the evaluation of construction techniques for solar roads at large scale; and secondly, the assessment of the technology in terms of its behaviour over time under traffic and in terms of energy efficiency.

    The project is funded by the French energy ministry, while in the summer Royal had also announced the mobilization of €5 million in state funding to support the development of the Wattway photovoltaic panel at the Société Nouvelle Areacem (SNA) factory, which is in the same area.

    Royal has never hidden her enthusiasm for the Wattway innovation and her visits both in July and this week aim to showcase the government’s support for the solar roads concept. She has also publicly spoken of the development of the solar roads as a part of the country’s energy transition to green growth and, at the same time, creating new jobs.
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    Potash Corp beat sales estimate as prices rise, volumes jump

    Potash Corp of Saskatchewan , the world's biggest fertilizer company by capacity, reported better-than-expected quarterly sales as prices bounced back from the lows of the year and on record volumes.

    Sales volumes rose 16.3 percent to 2.5 million tonnes in the third quarter ended Sept. 30, the company said on Thursday.

    "Supported by improved market fundamentals, spot prices have increased by approximately 15 percent from the lows experienced earlier in the year," Chief Executive Jochen Tilk said in a statement.

    Potash Corp in September agreed to combine with fellow Canadian fertilizer producer Agrium Inc to navigate a severe industry slump by boosting efficiency and cutting costs.

    The world's third-largest potash producer said costs of goods sold fell 11.6 percent to $792 million.

    The company cut the upper end of its full-year earnings forecast to 45 cents per share from 55 cents. The company retained the lower end at 40 cents.

    Net income fell to $81 million, or 10 cents per share, from $282 million, or 34 cents per share, a year earlier.

    Sales fell 25.7 percent to $1.14 billion, but beat analysts' average estimate of $1.04 billion.

    Excluding items, the company earned 11 cents per share, above the 9 cents expected on average by analysts, according to Thomson Reuters I/B/E/S.
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    Base Metals

    DeGrussa delivers another strong quarter

    Copper/goldminer Sandfire Resources has maintained its full-year guidance after another solid quarter of production at its DeGrussa operations, in Western Australia.

    During the three months to September, the DeGrussa mine delivered 15 610 t of contained copper and 9 731 oz of contained gold. This compares with 17 827 t of copper and 11 227 oz of gold delivered in the previous quarter.

    Sandfire told shareholders on Thursday that mining performance during the quarter reflected the continued focus on production scheduling, reliable stoping design and excavation, as well as improving mining fleet productivity.

    Opportunities to further enhance production would be explored, the miner said.

    A total of 52 665 t of concentrate, containing 12 437 to of copper and 7 482 oz of gold was sold during the quarter, with shipments completed from Port Hedland and the port of Geraldton.

    Sandfire maintained its targeted copper production of between 65 000 t and 68 000 t for the full 2017, while gold production is expected to reach between 35 000 oz and 40 000 oz during the full year.
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    Steel, Iron Ore and Coal

    China sees a 2.4% drop in coal demand in 3Q, NDRC

    China's coal consumption dropped 2.4% to 2.84 million tonnes in the first three quarters, said Xu Kunlin, deputy secretary general of the National Development and Reform Commission, in a meeting held on October 25.

    Over July-September, the coal consumption began to edge up 0.5% or so on year after declines, with 4.8% of coal burns from power sector, he said.

    Raw coal output of China's above-sized coal producers (annual revenue of coal business above 20 million yuan) totaled 2.46 billion tonne during the same period, down 10.5% on year.

    "There will be scarcely any space for coal demand to swell in the future, and the supply glut will also not be fundamentally changed," said Xu.

    By 2020, China's coal consumption is expected to be 4.1 billion tonnes at most, while coal capacity is some 4.6 million tonnes per annum, he noted.

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    Vale posts Q3 net profit of $575 mln

    Brazilian miner Vale SA on Thursday reported third quarter net profit of $575 million, as the world's largest producer of iron ore returned to profit after a hefty loss during the same quarter last year.

    The result marks Vale's third quarterly profit in a row, a sign the miner may be through the worst of the downturn following a torrid 2015 in which it posted the worst loss in its history due to falling commodity prices and heavy investment in new projects.

    Net profit was down 48 percent from the second quarter, and below analyst estimates of $758.9 million, with Vale citing a weakening Brazilian currency against the dollar which caused a $379 million non-cash loss.

    But strong cash generation led to adjusted earnings before interest, taxes, depreciation and amortization (EBITDA) of $3.023 billion from net revenue of $7.3 billion, a result that analysts highlighted as positive.

    "The more recent emphasis on 'value over volume' certainly appears to be bearing fruit in terms of Vale's cost position," Paul Gait, analyst at Bernstein in London, said in a note to clients.

    Vale's net debt fell by $1.5 billion from the second quarter to $25.97 billion. Vale has said it aims to cut net debt to $15 billion by mid-2017, primarily through an aggressive program of asset sales.

    "It was a clean result, excellent operational performance with good cash generation," Chief Financial Officer Luciano Siani said in a video on the company website.
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    Iron ore giants use unconventional methods to lower costs

    From buying second-hand gym equipment to generic replacement parts, the world’s biggest iron ore producers are using increased ingenuity to keep on cutting costs at their mines — but it’s getting tougher.

    Even as Fortescue Metals Group Ltd. sources more parts from China and automates trucks and drills, its targeted reduction in full-year cash costs may be less than a quarter of the drop in 2014, according to company data. The top producers, threatened with declines in iron ore earnings from next year, face increased margin pressure as the pace of cost cutting slows, just as prices are forecast to drop.

    Limited opportunities to squeeze further savings from operations, together with forecasts for higher oil prices and  stronger operating currencies, means costs are more likely to increase, according to Global Mining Research Ltd. Banks including UBS Group AG and Citigroup Inc. anticipate a price slump next year as low-cost supply surges after a rebound this year on China demand.

    “For the next two or three years, it is inevitable” rising costs will add to a squeeze on producers’ margins, Adrian Doyle, a Sydney-based senior consultant on iron ore costs at researcher CRU Group, said by phone. “We are in a structurally oversupplied market.”

    Rio Tinto Group, the world’s second-biggest exporter, can expect earnings at its iron ore unit to drop by about $3 billion next year, according to estimates from Goldman Sachs Group Inc. , while Deutsche Bank AG sees a $1.4 billion decline. Rio, which earlier axed hot pies from mine site menus to cut costs, is continuing to target even small gains, for example, sourcing used gym equipment for its facilities at a Australian mine.

    Major savings from cuts to staff and capital expenditure, or by raising volumes to fully utilize capacity along railroads and at ports, have been largely achieved, according to David Radclyffe, Sydney-based managing director at Global Mining Research. Rio is now looking to about 1,000 initiatives from staff to win new savings, the producer’s top iron ore executive Chris Salisbury said in an internal memo this month.

    Heavy Lifting

    “The majority of the heavy lifting has been done, and you can already see it in the numbers,” Radclyffe said. “They have done a fantastic job at taking costs out, but obviously it gets harder and harder, and I don’t think that we see any scope for much more.”

    BHP Billiton Ltd., which reduced its iron ore cash costs 19 percent in fiscal 2016, sees a slower pace of savings in the current year, forecasting a reduction of 7 percent to $14 a ton. Rio cut its cash costs, which exclude freight and royalty charges, to $14.30 in the first six months of 2016, 12 percent lower than a year earlier.

    Fortescue is targeting more than 10 areas across mining, processing and procurement as it seeks to shave a further $3 a wet ton from cash costs, it said Tuesday in a presentation. The producer sees potential for savings by sourcing more goods from China, looking beyond original manufacturers for equipment components and by introducing remote operation of processing facilities.

    Even at its current break-even price of about $28 to $30 a ton, Fortescue would continue to generate good margins, Chief Executive Officer Nev Power said last week in a phone interview. “We do have a cost curve that supports an iron ore price which provides really good margins for all of us at the bottom of the supply curve,” he said Thursday.

    The Perth-based company, whose profits are forecast to drop about 47 percent in fiscal 2018, is targeting cash costs of between $12 and $13 a ton by June 30. Vale SA, the top exporter, had cash costs of about $12.75 in the first half and is  targeting new savings as it begins output from its lower cost, $14 billion S11D project in northern Brazil.

    CRU sees iron ore averaging about $49 a ton next year and $48 in 2018, before rebounding in 2019 as more higher-cost Chinese production is shuttered. Benchmark iron ore has averaged about $54 a ton this year as the material has advanced by more than 42 percent, according to Metal Bulletin Ltd. data. It surged 4.5 percent to $61.96 a dry metric ton on Tuesday.

    Aside from Vale, the biggest producers “might be able to eke out a dollar or two here and there, but if we look at forecast exchange rates and freight rates, they are going to basically counteract those reductions,” CRU’s Doyle said.

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