Stockhouse Short Report: Aussie short seller makes iron ore bet

John Hempton is speculating that the financial crisis in Europe will reduce demand for iron ore, a move that could impact Alderon’s Labrador, Canada project, he said.

Australian blogger John Hempton is making a small wager that the European debt crisis and its repercussions will reduce global demand for iron ore, potentially sending prices skidding back to levels not seen since the dark days of 2008.

To reinforce that view, The Bronte Capital short seller has taken a short position Alderon Iron Ore Corp. (TSX: T.ADV, Stock Forum) (NYSE: AXX, Stock Forum) and other so-called “marginal iron ore properties” that he didn’t name.

Hempton declared that he has sold short $10,000 worth of Alderon shares in a June 4 report.

That was a day before Alderon released the results of an economic assessment for its Kami iron ore project in western Labrador, a project that is expected to produce 8 million tonnes of concentrates annually for at least 16 years, delivering $2 billion in tax revenues to the Labrador and Newfoundland governments, the company said.

Alderon forsees a project capital cost of US$989 million, with total operating costs (excluding royalties) forecast to be US$44.87 per tonne over the life of the mine.

In his report, Hempton sets no targets for Alderon, which has clearly been a poor investment for people who bought the stock in early March when it was changing hands for $3.60.

Trading at $2.24 on Thursday, the Montreal company has a market cap of $224.15 million, based on 100 million shares outstanding. The 52-week range is $3.85 and $1.80.

Hempton says Alderon would be a much better short than Fortescue Metals Group Ltd. (an Australian iron ore producer) if investors could borrow and sell the stock in quantity.

It’s an opinion based on the potential outlook he sees for iron ore, a major component of steel, and therefore a key ingredient in the Chinese construction boom.

The price of iron ore hit record levels in 2011, averaging US$168 per tonne, and generating huge amounts of revenue and profit for large producers such as BHP Billiton Ltd. (NYSE: BHP, Stock Forum) and Rio Tinto Plc (NYSE: RIO, Stock Forum) and Fortescue.

But prices fell to US$140 a tonne last month, a move that has been attributed to slowing economic growth in China, the world’s largest consumer of iron ore.

In a recent interview with Australia’s ABC News, Fortescue Chief Executive Officer Nev Power said he expects iron ore prices to trade at between $130 to $150 per tonne in the “short term.”

“But looking forward we have allowed the forecast to drop down to around $110 per tonne and done all [our] modeling around that, so we see that in the long term that will be the sustainable price.’’

However, during the same interview, ABC’s Alan Kohler wondered if Power was feeling nervous about what is going on in Europe at the moment, and what the debt situation there could mean for iron ore. He reminded Power that during the global financial crisis in 2008, the price slipped to $55 per tonne.

While conceding that prices did indeed fall below $60 a tonne, Power pointed out that prices quickly recovered to trade above $100 a tonne, a move that was driven by an economic rebound in China.

At $100 per tonne, Alderon’s Kami project may be “borderline viable,’’ Hempton says.

Readers should note that Alderon has yet to establish mineral reserves at Kami or demonstrate that the project is economically viable by completing a feasibility study.

However, for the moment, Alderon seems to be more concerned about securing the electricity it will needed to run the Kami project.

The company says it can’t complete the Kami project without power supply from the $6.2 billion Muskrat Falls hydroelectric project in Lower Churchill, Labrador, which is still in the planning stages, and would involved the construction of two hydroelectric dams.

Environmental groups, including the Sierra Club Canada have launched a court challenge alleging that the Federal Government’s endorsement of the project is unlawful. The groups are seeking a court order that would block the federal government from issuing any permits or financial guarantees to the project’s proponent until an environmental assessment is completed in full.

Alderon executive chairman Mark Morabito told CBC News this week that said there is enough power to get work started in Labrador, but not further planned stages.

“If Muskrat Falls doesn’t go ahead, we’ll get our first phase off the ground and that’s it,’’ Morabito said. “Everything will come to a stop.’’