Commodities | Mar 31 2016
-Short term risks returning to crude
-But security issues pose oil supply threat
-Copper rally stalls but will it sell off?
-Slow re-start to China's aluminium smelters
By Eva Brocklehurst
Crude Oil
What will it take for crude to become fashionable again? Macquarie believes oil prices should correct back to the mid to low US$30/bbl range soon. The broker remains constructive over the medium to longer term, expecting West Texas Intermediate will return to US$70/bbl in 2018, but believes the current rally does not stack up against the fundamentals.
West Texas Intermediate has rallied 5.1% since early February, likely kicked off by a combination of institutional and retail capital flows, the broker maintains, accelerated by short covering. Some bullish fundamentals underpinned this rally but Macquarie finds the numbers not compelling enough.
Meanwhile, short term risks are rising. Iran's exports are ahead of schedule, the broker observes. US crude imports are expected to stay at or above 7.5mmbopd and recent exchange traded fund outflows could accelerate if the rally stalls. US dollar weakness has slowed and reversed. Ceyhan and Forecados crude supplies are returning to the market.
RBC Capital Markets observes there are five sovereign producers on the cusp of a crisis in the current low oil price environment. The fragile five are Venezuela, Iraq, Libya, Algeria and Nigeria, where there is a struggle to fund state apparatus and provide essential services. Nigeria and Iraq are at the greatest risk.
In Nigeria, security related shut-ins pose a significant problem, with redeployment of troops to the southern oil region highlighting this risk. In Iraq, the Kurdish oil exports are at risk, given the problems on the border with Turkey. The analysts notes dysfunctional Iraqi politics and hostilities with Turkey post significant threats.
Returning to a long-term equilibrium price will be a drawn out process, the analysts maintain. The daily oversupply must be erased first and global inventories need to return to normal levels. The size and duration of potential outages in Nigeria and Iraq could accelerate the supply reduction if they were to materialise, the analysts contend.
Barclays observes that as crude has rallied so have US gas prices. As supply and demand fundamentals improve, stemming from increased export levels and domestic demand, the analysts believe ethane and propane are well positioned regardless of the direction of the oil price.
The analysts also note China's crude oil imports picked up in February, because of high refinery runs and lower domestic output. Saudi Arabia took further market share while Angola became the second largest supplier to China.
Copper
While the US dollar has been the central theme for copper in March, Barclays analysts expect the focus to return to China and actions from producers. Over coming weeks the analysts envisage three primary threats to the copper market, which may turn the stalled rally into a sell off.
These include the upcoming CESCO meeting in Chile, where major announcements will be tracked to garner a reading on the state of the copper market. If cuts to production are announced this may convey a short-term boost to prices, the analysts acknowledge.
China is also expected to release important data over the next few weeks which will provide the first clues to the post-holiday performance and indicate the strength or otherwise of the spring rebound in industrial activity.
The analysts expect the US dollar to fade in importance in determining the copper price trajectory but an unexpected tightening in US monetary policy would likely depress commodity prices including copper.
Aluminium
Aluminium has confounded analysts at Macquarie. The price on the London Metal Exchange has fallen by 2.2%, making it one of the worst performers, while the Shanghai price has risen 3.6%, making it the second strongest performer on that exchange.
Macquarie observes the rise in Shanghai has been in the wake of the Chinese New Year holidays and the main driver appears to be market sentiment regarding a temporary supply shortage in China. The broker suspects this is due to limited new capacity additions and a slow re-start to idled capacity this year.
Given the time lags in re-starting smelters and making physical deliveries, the Chinese domestic market can enjoy the benefit of the large-scale capacity cuts last quarter at the same time as downstream demand is picking up seasonally.
The broker also suspects the aluminium price benefited from an increase in the alumina price, which rose because of perceptions of tight supply and cost support. Extra alumina capacity is starting to come on line and the broker does not expect alumina price strength to last much longer.
For the overseas aluminium market the stronger Chinese price is expected to hold back Chinese exports as price arbitrage closes, but Macquarie still expects export pressures in China to return once the domestic balance changes.
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