Commodities | Oct 26 2011
– Oil market outlooks adjusted
– NAB updates base metal price expectations
– Stable thermal coal prices expected in coming months
By Chris Shaw
In the view of Citi, the oil market at present continues to be torn between current fundamental strength in the market and macroeconomic-pessimism, as well as between current supply and the potential for stronger production from Libya and elsewhere after the upcoming northern winter.
Given firm oil market fundamentals and some slight improvement in the macro environment in the US and China, West Texas Intermediate (WTI) has broken its downward trending channel. The market has moved into backwardation notes Citi, which means prompt prices are higher than deferred prices. There is potential for Brent crude prices to do the same.
The offset is a still bearish outlook for the global economy given European debt issues, though as Citi notes oil demand is a reasonable indicator of global economic activity and this remains in solid shape at present.
Citi suggests if macro bears sell flat price lower without any sharp reduction in demand, the oil structure will tighten as the market in general remains undersupplied. If prices do move higher it will likely be the result of some event that causes the oil market structure to strengthen.
Given a bearish view on the global economic outlook, Citi continues to watch for more severe demand weakness. A demand collapse as occurred in 2008 remains unlikely in the broker's view, especially as recent Chinese PMI data have dampened some hard landing fears.
For JP Morgan, the WTI oil market has spent the past several weeks trying to juggle falling stocks and future price convergence with Brent crude. At the same time, inventories at Cushing have dropped below the level traditionally associated with a backwardated structure.
JP Morgan points out markets are forward looking, with refiners looking to buy crude for delivery at the end of current maintenance operations. Given the transit time for some crudes to these refineries, buying would be expected around now as refineries prepare for start-up in December.
Increased movement of crude away from the WTI delivery point has generated some price volatility, JP Morgan noting last week the Brent-WTI spread flipped into backwardation. The changes also saw the spread come in to around US$17 per barrel.
A further narrowing in the spread to around US$10 per barrel is likely in the view of JP Morgan, as the market is communicating an under supplied situation at the Nymex hub. The target of a US$10 per barrel spread may prove conservative in JP Morgan's view, especially given growing transportation options out of the region over the next six months.
While global oil demand estimates were trimmed in October given ongoing economic weakness, National Australia Bank expects further downgrades in November given still relatively bullish economic growth assumptions by the International Energy Agency.
IEA estimates suggest total oil demand for 2011 is now expected to come in at 89.2 million barrels per day, rising to 90.5 million barrels per day in 2012. These forecasts are respectively 50,000 barrels per day and 210,000 barrels per day lower than previous assumptions.
The changes reflected cuts to global growth expectations, the IEA now forecasting growth of 3.8% this year and 3.9% in 2012, down from 3.9% and 4.2% previously. NAB sees these growth assumptions as optimistic, with downside risk for 2012 in particular.
NAB continues to expect a soft landing for the Chinese economy, which implies limited scope for any significant oil market demand destruction. But the question marks relating to global growth in general have seen the bank trim its oil price forecasts further.
In quarterly average price terms NAB expects Brent crude prices of US$113 per barrel for the September quarter and US$109 per barrel for the December quarter this year, with prices expected to trade in a range of US$106-US$109 per barrel through 2012.
For WTI, NAB's forecasts stand at US$90 per barrel and US$86 per barrel for the final two quarters this year and and range between US$89 and US$99 per barrel through 2012.
With respect to base metals, NAB notes in aggregate prices for September were 10% lower than at the end of 2010, this despite still sound Chinese apparent consumption. The falls can be partly attributed to questions with respect to any global economic recovery, as well as higher than long-run average stocks of all major metals in LME warehouses.
Stocks have risen in part to uncertain demand for metals, which is a consequence of Europe's sovereign debt issues weighing on the global growth outlook. NAB notes recent data indicate a slowing in activity levels in a number of emerging economies of late, reflecting both Europe's problems and ongoing flow on effects from Japan's natural disasters earlier in the year.
Chinese apparent consumption of base metals remains mixed, NAB noting for example copper consumption has remained solid while lead consumption has been soft in recent months. While Chinese demand implies relatively solid fundamentals for copper, NAB notes speculative demand for the metal has fallen sharply of late. This has contributed to price falls for the metal.
There remains potential for a re-stocking in China and so NAB expects copper prices should find support around current levels, especially given ongoing supply side issues in Latin America in particular.
For NAB, the near-term outlook for the commodity complex remains uncertain and highly dependent on developments in Europe. Fundamentals should help sustain prices close to current levels, though markets are likely to remain volatile in the shorter-term in the bank's view.
All in all, NAB's Base Metals Price Index is forecast to fall by around 13.5% in the final quarter of this year, before a modest rise of around 6% over the course of 2012.
According to Macquarie, demand in the thermal coal market has been as good as expected while supply has been even better. In coming months the market should remain underpinned by resilient Chinese pricing into the Chinese New Year period.
Macquarie does see some questions in 2012 if China enjoys more normal rainfall levels and hydro generation subsequently recovers by the middle of next year. This year Chinese hydro production has been weak, down 25% in year-on-year terms in September.
In contrast thermal generation is 21% in year-on-year terms for September, Macquarie expecting growth of at least 15% in year-on-year terms into the first quarter of 2012.
This strength in thermal generation has meant solid Chinese thermal coal imports in recent months, the last three months averaging 164 million tonnes on an annualised basis. This has allowed for some stock building, Macquarie noting stocks currently stand at around 20 days of average daily consumption.
Given solid stock levels there has been some impact on Chinese demand for spot cargoes, Macquarie noting there are reports of traders looking to sell back some coal into international seaborne markets. Even allowing for this the expectation is for relatively stable Chinese pricing in coming months.
The outlook for price indices is less clear, as implied freight has narrowed on June and September quarter contract pricing and current market conditions suggests this should narrow further. While the FOB spread between API#4 and Newcastle prices is still around US$8 per tonne at present, Macquarie notes paper markets are pricing in a spread of just US$2.40 per tonne by the middle of 2012.
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