Commodities | Jun 29 2010
This story features COPPER SEARCH LIMITED. For more info SHARE ANALYSIS: CUS
By Chris Shaw
London Metals Exchange (LME) zinc prices gained 8.5% for the week ending June 25th, helped by a few developments in the market for the metal. While on first glance these appear somewhat positive, Macquarie argues they are in fact misleading.
Two developments in particular helped zinc prices move higher – falls in stocks on the Shanghai Futures Exchange (SHFE) and rising physical premiums. Thirteen consecutive weeks of rises saw zinc stocks hit a record of more than 295,000 tonnes on June 4th, but stocks have since declined to around 265,000 tonnes, reports Macquarie.
Physical premiums are up between 55-65% so far this year, Macquarie suggesting this is in part due to stronger demand but also to some metal in LME warehouses being tied-up in financing deals. In other words, the past few weeks in the zinc market has seen the seemingly attractive combination of falling stocks and rising premiums.
These more positive indicators misrepresent the actual conditions in the zinc market in the view of Macquarie, as the market remains oversupplied with reported stocks still at a 15-year high. This means there is no fundamental reason for the recent fall in stocks, nor the fall in open warrant positions that has accompanied it.
The rise in risk premiums also doesn't suggest a market moving closer to being balanced, notes the stockbroker, as if the market was in fact tightening there should have also been a narrowing of spreads on the LME. To date this has not been the case.
Macquarie accepts demand for the metal has improved, but this has been more than offset by increases to supply as global zinc output has been running at record levels in recent months. This has been behind zinc's underperformance relative to the other base metals.
With it likely to be many months before the zinc market returns to anywhere near being in balance, Macquarie struggles to see how the recent price gains in zinc can be sustained.
Moving on, Credit Suisse has completed a mid-year review of the gold market, which has seen the broker lift its price forecasts for the metal. For 2011 the broker has lifted its average price forecast by 11% to US$1,105 per ounce, while for 2012 its forecast has increased by 17% to US$1,180 per ounce.
In 2013 Credit Suisse has increased its average gold price forecast by 12% to US$1,120 per ounce. All these prices are averages, and they are all below the current spot price. There is no change to the stockbroker's long-term price forecast of US$850 per ounce. The changes reflect the view current influences on gold such as macroeconomic and foreign exchange market conditions are likely to continue to appear in waves, causing volatility in the gold price.
The changes to its forecasts for gold has seen the broker adjust its valuations for Australian gold stocks under coverage. For Newcrest the result is an increase in price target to $47.00 from $42.00 previously, while for Avoca Resources ((AVO)) the broker's price target has increased to $2.50 from $2.20. The target of $4.50 for Andean Resources is unchanged. Andean and Newcrest are rated Outperform by Credit Suisse, while Avoca scores an Underperform rating.
Comparing these to views in the FNArena database, Newcrest is rated as But six times and Hold three times with an average target of $40.87, Andean is rated as Buy twice with an average target of $3.90 and Avoca is rated as Buy three times and Hold and Sell once each with an average target of $2.90.
Westpac has looked at some points of interest with respect to the Chinese steel industry, noting not only has the Government returned to a policy of exchange rate flexibility, but it has also cut export subsidies for 48 types of steel products from 9% to zero.
The cuts apply to both hot rolled coil (HRC) and cold rolled coil (CRC) products. Westpac notes the market for the former is dominated by large firms while the market for the latter is far more fragmented.
This means SMEs operating in the Chinese steel market will feel more of a pinch from the policy change, something Westpac suggests is in line with Beijing's policy goal of further concentrating the steel industry.
Where there is also some possible cause for concern according to Westpac is the Chinese iron ore market, as while inventory levels currently appear reasonable, the bank suggests risk is to the upside. This is because a lot of stock is held by traders and when demand slows they will likely attempt to offload this stock, so driving a spike in official numbers.
Given port congestion has recently dropped and the regular seasonality of the Chinese economy, Westpac's view is these usually unobservable inventories may soon appear on the market.
Russell Investments specifically asked fund managers their perspective on the implications of the proposed Resources Super Profits Tax for longer-term growth prospects in the mining sector. This was part of Russell's June Investment Manager Outlook survey.
Survey results showed no manager believed the RSPT in its proposed form would be positive for the mining sector, while 14% of managers expected the RSPT would have little or no impact. This was based on the view longer-term the impact of the tax would be offset by other more significant factors such as commodity prices or currency movements.
In contrast, 64% of managers responding took the view the RSPT would be moderately negative for Australian resource companies, with the impact felt most in terms of valuations and earnings growth. Of note, many in this group took the view a lot of any potential impact had already been priced into stocks.
One thought was at the margin some local projects could miss out to offshore options, though Russell Investments notes managers thought this would only be the case if other resource-rich nations decided against raising their own resource tax levels.
The survey showed 22% of fund managers are extremely pessimistic about the proposed RSPT, seeing potential for it to have a severe negative impact on the Australian mining sector. Russell Investments notes the issue appears to be centred on the tax increasing perceptions with respect to Australia's level of sovereign risk, something that could mean lower levels of international investment.
This would in turn mean a higher cost of capital for local companies, so generating job losses and uncertainty for both the Australian sharemarket and the Australian dollar.
In terms of a 12-month view, managers remain positive on the materials sector, survey responses showing 64% to be bullish and only 22% seeing downside to the sector over this timeframe. As mentioned, the majority of respondents believe the impact of the proposed RSPT is now priced into Australian resource stocks.
As DJ Carmichael points out, while there is discontent about the proposed RSPT it hasn't put a stop to resource project work flow. One beneficiary of this is Leighton Holdings ((LEI)), as the broker notes ongoing work levels in the resources sector are being boosted by a strong infrastructure market and some new coal contract wins.
Given this positive outlook, DJ Carmichael has added Leighton to its model growth portfolio, the stock replacing ATM supplier Customers ((CUS)). Customers was dropped from the portfolio on valuation grounds.
The FNArena database shows Leighton is rated as Buy three times, Accumulate once and Hold six times, with an average price target of $37.20. Shares in Leighton today are slightly weaker, trading down 9c at $29.91. This compares to a range over the past year of $21.10 to $41.70.
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