China’s resurgent demand for iron ore is helping Rio Tinto Group (RIO), the world’s third-largest mining company, catch up with its biggest rival BHP Billiton Ltd. in the bond market.

The extra cost to insure Rio’s bonds over BHP’s dropped 4.5 basis points to 42 yesterday, the biggest decline in more than two weeks, CMA data show. The gap is the least since September. Credit-default swaps on Rio, Australia’s largest iron-ore exporter, are falling faster than a global index of miners for a third week, data compiled by Bloomberg show.

Iron-ore prices have rebounded since a 19 percent drop last quarter, as China said last month December manufacturing output reached a five-month high. Rio Tinto will spend $3.4 billion to boost by 50 percent its Australian iron-ore output, which generates almost half its revenue. BHP (BHP) Billiton, which said yesterday profit fell for the first time since 2009, got 29 percent of sales from the material. Both companies benefit from a mining boom that prompted Australia’s central bank to retain the developed world’s highest borrowing costs this week.

“There had been a bit of nervousness around the iron ore price late last year,” Michael Bush, head of credit research at National Australia Bank Ltd. in Melbourne, said in a phone interview. “Rio is far more relatively exposed to iron ore than BHP is. It’s a stabilization of the iron ore market that’s giving a bit of additional confidence into Rio,” which may see its credit rating increase in coming months, according to Bush.

Profit Outlooks
BHP’s profit dropped by 5.5 percent to $9.9 billion in the six months ended Dec. 31, the first decline since 2009, as rising costs and lower output and prices halved base metals earnings compared with the year-earlier period, the company said yesterday. The earnings were lower than the $10 billion average estimate from seven analysts surveyed by Bloomberg.

Rio will report full-year net income rose 9 percent to a record $15.6 billion, according to the average of 23 analysts polled before the company announces its earnings today.

China is BHP and Rio’s biggest customer, providing 28 percent of revenue for both companies in their most recent financial years, according to data compiled by Bloomberg.

Iron ore slumped 30 percent during October as purchases in China slowed after weaker growth in the nation’s housing and construction sector, its biggest users of steel. Prices for the raw material have gained 3.4 percent since the start of 2012, according to data from The Steel Index.

Rio’s iron-ore sales generated 45 percent of its revenue in the six months to June 30.

Commodity Prices
The Standard & Poor’s GSCI Spot Index (SPGSCI) gained 4.7 percent since Dec. 31 as commodity prices increased after data indicated manufacturing was improving in China, India and the U.S.

“Recent economic data from China are supporting the view that China’s economy won’t face a hard landing,” said Gus Medeiros, senior credit analyst at Deutsche Bank AG in Sydney. “Credit risks associated with Rio have fallen as concerns about China have reduced.”

Australian mining bond yields are the lowest across 11 nations in Bank of America Merrill Lynch’s U.S. metals and mining index.

China’s economy expanded 8.9 percent during the fourth quarter, the slowest pace in more than two years, signaling the government may ease lending curbs and increase spending to revive demand. Premier Wen Jiabao reiterated last week his government will “fine-tune” policies to support growth.

Government Bonds
Australian bonds are dropping on prospects Chinese demand will drive a rebound in economic growth for the Asia-Pacific region.

The three-year government bond yield surged 39 basis points, or 0.39 percentage point, to 3.53 percent in the five days to yesterday, its biggest such advance since June 2009, after the Reserve Bank of Australia unexpectedly left its cash- rate target at 4.25 percent on Feb. 7. The rate declined to 3.52 percent as of 12:10 p.m. in Sydney.

The nation’s sovereign debt lost 1 percent this year, the sixth-worst performance among 26 markets tracked by Bloomberg/EFFAS indexes.

RBA Governor Glenn Stevens cited “quite robust” Chinese growth and a “moderate expansion” in the U.S. as reasons for holding rates even after Australia’s 2011 jobs market was the weakest in 19 years. The so-called Aussie dollar jumped to the highest since Aug. 2 after the decision and is the biggest gainer among major currencies over the past six months.

The RBA lowered borrowing costs by a quarter percentage point on Nov. 1 and again on Dec. 6. Only three of 27 economists surveyed by Bloomberg News predicted policy makers would leave rates unchanged this month.

Resource Projects
Stevens’s first rate decision of the year reflected confidence domestic unemployment will stay close to 5 percent as A$456 billion ($493 billion) of planned investments in resource projects boost hiring.

The Markit iTraxx Australia index fell 3.9 basis points to 140 yesterday, the lowest since August, according to data provider CMA, which is owned by CME Group Inc. and compiles prices quoted by dealers in the privately negotiated market.

The so-called Aussie dollar, the world’s fifth-most traded currency has strengthened 5.5 percent this year. The currency touched a six-month high of $1.0845 yesterday and traded at $1.0766 as of 12:12 p.m. in Sydney. It soared to $1.1081 on July 27, the most since it was floated in 1983.

Credit-default swaps on Rio dropped 55 basis points this year to 125.5 yesterday, while BHP contracts declined by 32 to 82.8, according to CMA. An index of 40 global miners fell to 199 from 246 in the period, according to data compiled by Bloomberg.

Spreads on Rio bonds have narrowed 39 basis points to 119 this year, while premiums on BHP debt decreased 23 basis points to 77, Bank of America Merrill Lynch indexes show.

Fiona Martin, a Melbourne-based spokeswoman for BHP Billiton, declined to comment, as did Rio Tinto’s Karen Halbert.

Shares Climb
Rio’s shares climbed 18 percent this year, more than twice as fast as the 7.6 percent advance for BHP. The smaller company may announce plans to return a further $5 billion to shareholders over two years, adding to a $7 billion buyback due to conclude March 31, UBS AG said in a Feb. 2 report.

The mining company, which has an A- credit rating at S&P, approved plans yesterday to boost output of iron ore in Western Australia state by more than 50 percent to reach a 283 million metric tons a year pace in the second half of 2013.

Rio’s spending is dwarfed by BHP, which announced $20 billion of acquisitions over the past year, compared with $1.5 billion for the smaller company, data compiled by Bloomberg show.

BHP Spending
BHP, rated two levels higher than Rio by S&P at A+, in July bought U.S. shale gas explorer Petrohawk Energy Corp. for about $12.1 billion in cash, adding to assets from Chesapeake Energy Corp. it bought for $4.75 billion in March.

The company’s petroleum unit expects spending on U.S. shale to rise to about $6.5 billion in the year ending June 2020 from about $4.5 billion this year and an annual growth rate of at least 10 percent for the rest of the decade, BHP said in November.

“BHP will be issuing more debt as it’s got to fund some quite substantial capex projects and there have been a few acquisitions so it’s got rising debt,” said Bush from NAB. “We’re expecting an upgrade to Rio’s credit rating over the next 12 months or so. There’ll be a one notch improvement but ultimately I see them back at A+ which I would anticipate is still a few years away.”