Commodities | Jun 04 2012
– Europe's impact on global steel market now less important
– Commodity investment flows negative in April
– Chinese growth expected to pick up in second half
– Environment and community relations growing issues for miners
– Nickel forecast to pick up in final quarter of 2012
By Chris Shaw
The continued deterioration in the European macroeconomic situation is causing metals markets to batten down, Macquarie as an example noting marginal physical market demand in steel has come to a relative standstill.
Maquarie's view is while the magnitude of any risk to metals markets from various outcomes with respect to Greece is difficult to quantify, the fact metals demand is now highly focused on emerging markets means the global effect of any European pullback will be less than has been seen in the past.
In physical markets, the current issues seem strongest in steel, as prices have returned to around December lows post a rally in the March quarter. This reflects weaker consumption, Macquarie forecasting steel consumption in Europe will fall by 6% in 2012.
But the impact on the global market will be less pronounced given Europe's share of global steel output has dropped to around 16% now from around 30% in 1990. This implies a pullback in demand in line with previous historical pullbacks is likely to equate to less than 1% of global steel consumption. As Macquarie notes, this amount can be dwarfed by cyclical moves in Chinese demand.
Barclays Capital notes commodity investment flows remained negative in April, though the outflow of around $1 billion was half that recorded in March. The outflow can be attributed to the ongoing issues in Europe, as Barclay points out this is creating a macro environment less supportive in the short-term.
April flow activity took total commodity assets under management to US$429 billion, a decline of $5 billion in month-on-month terms. While total commodity assets under management are down by around US$28 billion since the highs of April last year, Barclays attributes some of this to more sophisticated approaches and active management in the sector.
For Barclays this change is a reflection of a maturing of both the asset class and investor attitude and sophistication towards commodities. As well, the change reflect evidence of an increased dispersion in commodity price outcomes year to date, suggests Barclays.
Looking at China, Macquarie notes a recent tour offered the reassurance that while the Chinese economy is slowing it is not falling apart and a pick-up in the second half of this year remains a possibility.
This is due to the expectation of easier monetary policy in the second half, which should boost growth and demand conditions in commodity end-use sectors. Macquarie notes the view is inflationary pressures will remain a medium-term challenge for the Chinese commodity sector. As an example, rising provincial power prices should necessitate higher aluminium prices in coming years.
Distribution issues are also likely to persist, though Macquarie notes there are also policies in place to deal with this as well, such as new rail lines for transport and importing labour to provinces where it is needed.
While a slower pace of growth from China is likely, Macquarie notes market participants are much more comfortable than the market with growth expectations of 7.5% per year. The key is such a growth level doesn't require all of the Chinese economy to be firing at full speed.
In general, Macquarie came away form its tour with the view the demand side of the Chinese commodities market has moved past the worst point as inventories for copper, aluminium, zinc, nickel, steel and iron ore all fell through May.
Spending year-to-date has been low relative to full year targets and Macquarie sees this as offering potential for a second half surge in government driven economic activity. Given budgets are effectively pre-approved, Macquarie notes no new policy decisions are needed to provide a boost for the economy.
Looking at the future for commodity markets, Barclays suggests while environment and community relations are seen as “soft issues” for the metals and mining industry, they are growing as a corporate priority and will at some point feed directly into the market's pricing mechanism.
This is because such issues can both increase costs and threaten the realisation of production expectations. As an example, Barclays notes some in the market estimate as much as 50% of what is being spent on upgrades in the commodities sector is related to environmental considerations. These include energy efficiency, water and waste handling.
Given a number of these environmental issues are prompting investigations and disputes, lead times for reaching commercial production are now increasing. As examples of this, Barclays points out the Tia Maria copper mine in Peru is currently two years behind schedule, while the Toquepala copper mine in Peru is now more than two years late.
While such factors are unlikely to impact on prices now, Barclays sees a cumulative effect from additional costs and delays. This implies higher incentive prices will be needed for producers to commit to what are increasingly capital intensive projects.
Among the base metals, nickel has been the worst performer so far this year as prices have fallen 30% since peaking in February. In the view of Citi, prices will continue to underperform through the September quarter.
Beyond this time frame Citi sees a more positive outlook, as Indonesian moves to limit and tax ore exports should constrain ore flows from this market by anything from 20-75%. Given Indonesia accounts for 23% of world mined nickel production and Indonesian ore accounts for 60% of Chinese nickel pig iron output, this has the potential to be significant for the market.
Official ore exports have stopped since May 6 and on Citi's numbers the ore export restrictions and taxation should push the nickel market into deficit by the final quarter of 2012. This is expected to support prices above US$20,000 per tonne during the period.
This leads Citi to favour bullish positions in nickel on a 3-6 month forward basis and in a December quarter context. Citi's nickel price forecasts stand at US$19.430 per tonne this year, rising to US$22,819 per tonne in 2013.
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