Material Matters: Ongoing Price Revisions, Gold-Oil Relationship

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– Commodity prices forecasts lifted by ANZ and Morgan Stanley
– Bulks receive largest portion of the increases
– Gold traditionally a beneficiary of oil price spikes
 

By Chris Shaw

In the view of Morgan Stanley, growth momentum continues to support the commodities complex, to the extent the expectation is for an extended period of high prices. At the same time volatility is likely to increase, Morgan Stanley seeing this as a reflection of investor perception with respect to enhanced growth risks and changing supply dynamics.

To reflect their view, Morgan Stanley has revised commodity price forecasts. The changes leave the broker most favourably disposed to copper and iron ore among the industrial commodities and gold among the precious metals.

In terms of how this plays out for companies in Morgan Stanley's coverage universe, key Overweight ratings remain in place for BHP Billiton ((BHP)), Rio Tinto ((RIO)), Equinox Minerals ((EQN)), Western Areas ((WSA)) and Newcrest Mining ((NCM)) among the Australian plays.

In coal, Morgan Stanley prefers Whitehaven ((WHC)), with other coal plays being seen as fully valued. In steel, the broker continues with an Overweight rating on OneSteel ((OST)). BlueScope ((BSL)) is rated as Equal-Weight given ongoing potential for margin compression.

Elsewhere, Morgan Stanley has Overweight ratings on Alumina ((AWC)), Oz Minerals ((OZL)) and Panoramic Resources ((PAN)), while Riversdale Mining ((RIV)), Macarthur Coal ((MCC)), Gloucester Coal ((GCL)), Fortescue Metals ((FMG)), Beach Energy ((BPT)) and Minara Resources ((MRE)) are rated as Equal-Weights.

Looking at the coming quarterly production reports for Australian resource companies, Morgan Stanley suggests wet weather is likely to impact on output, especially with respect to the coal and iron ore plays.

Further disruptions to supply in already tight markets could see prices move above Morgan Stanley's forecasts, though in earnings terms this could be offset by higher operating costs and lower grades.

ANZ Banking Group has similarly revised commodity price expectations, this largely a marking-to-market exercise to reflect prices from the first quarter of 2011. The changes mean modest gains for most commodities, with iron ore and coal prices enjoying more substantial increases. Oil price expectations have also risen given ongoing issues in the Middle East.

Overall, ANZ has lifted commodity price expectations by 2-25% over the next five years, with the bulks enjoying the major portion of the increases thanks to improved expectations for Indian demand. Changes to bulk price forecasts also reflect the view the earthquake and tsunami rebuild in Japan will be positive for demand for both coal and iron ore.

What also helps coal in ANZ's view is markets are already tight, especially in coking coal thanks to flooding in Queensland reducing supplies. As well, the bank suggests while there are a number of large expansions planned in iron ore, delivery remains a risk.

Base metal estimates have risen by 0.3% to about 8% growth, with the largest revisions in lead and nickel as these metals have bucked the trend of higher supplies in recent months. ANZ expects copper will remain the bellweather among the base metals and notes there are signs of trend towards falling stockpiles starting as seasonal demand picks up.

ANZ's silver forecasts have also risen substantially and are now as much as 37.5% higher than the bank's previous numbers. This reflects growing Asian investor interest and increased demand for the metal in solar panels. Also in silver's favour is an inelastic supply side response to higher prices given the metal is produced as a by-product of lead and zinc mining.

For gold, ANZ expects prices will peak late this year at around US$1,500 per ounce. This reflects the bank's view the strong upward momentum of the past two years has now peaked. In contrast, oil is expected to continue to play catchup to other commodities, helped by a geopolitical risk premium the bank expects will linger for at least the next 12 months. ANZ expects improving US demand will soon return as a major driver of the oil price as well.

The current geopolitical issues in the Middle East have, in the view of Citi, heightened the risk of a supply driven spike in oil prices. As Citi notes, historically the biggest beneficiary in such an environment is gold, as large amounts of petro dollars tend to be recycled into the metal.

Citi also notes while market perception is gold typically performs well in periods of high inflation, there are times when this correlation doesn't apply. What has stood up better over time is gold prices gaining during oil price shocks, with Citi suggesting entry into such a period may be underway.

A final note related to the bulk materials space comes from Commonwealth Bank, which notes India has lifted a ban on iron ore exports effective from April 20. The ban had applied to the state of Karnataka and the Supreme court ruling means the Karnataka government also has 15 days to put in place necessary infrastructure to enforce new rules to prevent illegal iron ore mining and transportation.

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