Material Matters: Copper A Winner Plus Bulks And Steel Orders Of Preference

This story features MOUNT GIBSON IRON LIMITED, and other companies. For more info SHARE ANALYSIS: MGX

By Chris Shaw

Commodity prices enjoyed a strong October, with metals in general and tin and silver in particular recording strong gains and outperforming the bulk commodity sector for the month. As Macquarie notes, the gains in metal prices were not simply the result of a weaker US dollar, as most metals rose strongly in other currency terms as well.

Nickel underperformed its base metal peers in October and Macquarie suggests this was not a surprise given that metal's softer fundamentals. Gold has rallied to near US$1,400 per ounce but during October the metal underperformed both silver and the platinum group metals, as exposure to a recovery in industrial demand was more sought after than a safe haven investment in the broker's view.

Among the bulk metals, Macquarie notes iron ore prices were resilient through October, this thanks to a supply shortfall from India that boosted spot prices. Coal prices were also solid, the broker seeing this as a reflection of supply concerns stemming from wet weather in Australia.

BA Merrill Lynch has looked more closely at the potential impact of the wet conditions in Australia on commodity prices, seeing potential for mining to be impacted by more than the farm sector. This is because further wet weather could disrupt supply and so exports. On the plus side, BA-ML notes reduced supply can help hold up prices even in the face of a modest softening in demand.

For the Australian farming sector, BA-ML notes the wet conditions have brought the drought to an end, which has helped boost crop and food production. This is coming at a time when weather related supply disruptions abroad are pushing up prices globally.

Looking at commodities as an asset class, Deutsche Bank notes commodity index returns this year have been somewhat disappointing relative to other asset classes such as emerging markets and equities. This comes despite Commodities Futures Trading Commission ((CFTC)) data showing commodity indices have enjoyed renewed inflows since the middle of the year.

In the view of Deutsche Bank, this pick up in inflows reflects increasing market confidence in the outlook for growth in emerging markets, as well as efforts by the Federal Reserve to push up economic growth in the US.

Deutsche suggests the Fed's decision to introduce further quantitative easing measures is a bullish one for risky assets, especially as the stockbroker sees the US dollar weakening further as the end of the year approaches.

This implies potential for further gains in precious metal prices, with Deutsche Bank expecting silver will outperform gold. Agricultural commodity prices should also continue to move higher into next year in Deutsche's view thanks to rising shortages in a number of markets, while the introduction of physically backed Exchange Traded Funds (ETFs) for industrial metals brings new price spike risks to these markets.

In oil, while Deutsche sees current equity market and foreign exchange rate trends as bullish for prices, any rally would be more sustainable and less likely to experience corrections if forward oil prices could move into backwardation.

In terms of price forecasts, Deutsche Bank expects an average oil price in 2010 of US$78.30 per barrel, up 3.1% from its previous estimate thanks to a forecast December quarter price of US$85.00 per barrel. In 2011 it forecasts an average of US$80.00 per barrel, rising to US$85.00 per barrel in 2012.

Following some modest changes to its base metal price forecasts, Deutsche Bank is now forecasting average prices for 2010, 2011 and 2012 of US$2,154, US$2,646 and US$2,866 per tonne for aluminium, US$7,357, US$8,267 and US$8,818 per tonne for copper and US$2,119, US$2,425 and US$2,646 per tonne for lead.

On the same basis Deutsche is forecasting prices for nickel of US$21, 657, US$25,353, and US$26,455 per tonne, for tin of US$19,262, US$18,464 and US$19,842 per tonne and for zinc of US$2,124, US$2,535 and US$2,866 per tonne for 2010 to 2012.

For gold, Deutsche Bank is forecasting prices of US$1,211 per ounce this year, US$1,450 per ounce in 2011 and US$1,600 per ounce in 2012, while for silver its forecasts stand at US$19.10, US$24.25 and US$28.00 per ounce respectively.

Still on industrial metals, Standard Bank notes copper prices have rallied strongly thanks to the latest quantitative easing measures announced by the US Fed, the moves bringing some fresh buying interest and some short covering activity to the market.

This was enough to push prices above US$8,700 per tonne last week. With tight fundamentals still in place in the global copper market and with the prospect of further US dollar weakness, Standard Bank suggests this rally could continue, with record highs a chance to be surpassed this quarter. This would be three months earlier than the bank had been forecasting.

While it is investor flows driving the market at present, which suggests any sell-off could be quite aggressive in nature given a lack of physical activity, Standard Bank suggests these investor flows can continue to support prices shorter-term.

Given an expectation physical activity will return to the market in the coming months, Standard Bank remains bullish and expects copper will push ahead through US$9,000 per tonne and beyond in coming months.

In the bulk commodities, Credit Suisse recently revised its iron ore and foreign exchange forecasts. Post this review, the broker has reiterated its order of preference among the Australian iron ore and steel plays.

On its current house view of iron ore prices, which is based on a long-term price of US$58 per tonne, Credit Suisse's order of preference in the sector is Mount Gibson ((MGX)), Gindalbie Metals ((GBG)), Atlas Iron ((AGO)) and finally Fortescue Metals ((FMG)). If the broker's long-term price assumption proves too low and US$100 per tonne is more realistic, this order would change to Gindalbie, Fortescue, Atlas and then Mount Gibson.

Among the Australian steel plays, the Credit Suisse order of preference stands at BlueScope Steel ((BSL)), OneSteel ((OST)) and then Sims Metal Management ((SGM)). The broker cautions as earnings volatility in the sector is high at present, this order is not a high conviction call.

In terms of how this stacks up with consensus views according to the FNArena database, Sentiment Indicator readings for the steel plays stand at 0.9 for BlueScope, 0.6 for OneSteel and 0.1 for Sims. Among the iron ore plays Sentiment Indicator readings range from a reading of 1.0 for Gindalbie to 0.8 for Mount Gibson, 0.3 for Fortescue and 0.2 for Atlas Iron.

Click to view our Glossary of Financial Terms