Material Matters: Coal Juniors, Oil, Copper And Aluminium

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-Oz coal juniors underperform
-Coal price forecasts edge lower
-Oil price tightens as tensions increase
-Copper: Chile losing competitiveness
-China adding aluminium, alumina capacity
 

By Eva Brocklehurst

CIMB's collection of coal juniors have materially underperformed the broader market and the materials sector. The broker's Australian Junior Coal Index is down 19% for March after falling 11% in February. The only stock that was in positive territory was Carabella Resources ((CLR)), up 7.5%. After Carabella the best performers were East Energy Resources ((EER)), down 2.3%, Bathurst Resources ((BTU)), down 3.1% and NuCoal Resources ((NCR)), down 3.3%. The worst performers were Cockatoo Coal ((COK)) down 41.7%, Guildford Coal ((GUF)), down 32.6% and Bandanna Energy ((BND)), down 30.6%. The broker notes subdued pricing and declining share prices have made funding a challenge for these developers. Cokal ((CKA)) is the broker's preferred junior but this stock still has funding and liquidity concerns, although CIMB believes the share price significantly misrepresents these risks.

Thermal coal prices are not expected to sustain any upside until the traditionally subdued shoulder season in China ends in June, and a recovery in supply from Columbia and South Africa should cap any further upside for coking coal, in CIMB's opinion. Goldman Sachs expects thermal coal prices to trade between marginal cost of production and the Chinese import parity price – around US$90-95/tonne. The estimate for cost support for Newcastle coal is unchanged at US$90/t. A softer outlook for the Chinese market suggests to Goldman that the price ceiling for imported coal has shifted lower. On that basis there is potential upside to thermal coal prices. Even so, Goldman has downgraded forecasts to US$93/t for 2013 and US$95/t for 2014-15.

China's rapid transition from a mid tier exporter to the world's largest coal importer during 2007-12 lifted seaborne demand to an average annual growth rate of 7.2%. Now, 2013 is likely to reveal a contraction in import volumes for the first time since the GFC in 2007-8, in Goldman's view. Prospects for India and other emerging markets are positive but consumption in OECD markets continues on a downward trend. In the absence of Chinese demand growth Goldman expects seaborne growth to moderate towards 2% a year. It's the marginal suppliers that will be under pressure . Low cost suppliers of coal should retain healthy margins but Goldman believes it will be challenging at the higher end of the cost curve.

Commonwealth Bank analysts have returned from a visit to China and tweaked forecasts for the black stuff. Coking coal price forecasts are brought down 1-2% for FY13 and 1-3% for FY14. Thermal coal forecasts are down 1% for FY13 and 5% for FY14, as new domestic supply in Xinjiang, Inner Mongolia and Shanxi weighs on seaborne demand and pricing.

Taking into consideration the oil price required for the industry to be cash-flow neutral, Goldman has increased assumptions for Brent to price around US$100/bbl from 2016. The forecasts for 2014 and 2015 are unchanged at US$105/bbl and US$100/bbl respectively, as the analysts envisage a gradual widening of OPEC spare capacity until 2016. The 2013 estimate is US$109/bbl. Stocks which, in the broker's coverage, will benefit most from higher long-term Brent prices are those with exposure to LNG facilities. This is because of the long-dated and oil-linked nature of their sales agreements and gearing. Moreover, selected LNG expansion projects in Australia and PNG should remain competitive with North American LNG proposals. Existing Australian and PNG projects are also unlikely to be undermined by LNG exports from the US. Santos ((STO)) and Oil Search ((OSH)) are the broker's preferred stocks as they have the strongest valuation leverage to longer-term oil prices.

UBS has nudged up 2013 annual Brent and West Texas Intermediate (WTI) forecasts to US$109/bbl and US$91/bbl respectively. Support comes from tighter fundamentals and geopolitical tension. Long term, the broker maintains the view that Brent will be supported around US$95/bbl and WTI around US$89/bbl. Seasonal refinery maintenance was stronger than usual and a return to robust crude demand should make inroads into the overhang of inventory in the US, where inventory was swelled because of growth in shale oil output. UBS expects the narrow discount for WTI to Brent will not last. Brent came under pressure because of stronger North Sea production and the spread narrowed to average US$13 in early April. UBS expects it to get back to a relatively wide US$18-20/bbl in the second and third quarter as US production picks up again.

Macquarie attended the CRU/CESCO copper conference in Chile, an annual gathering that acts as a guide to the copper market. The analysts note the Chinese delegates were absent and this meant the bullish demand data seen recently from China was not underscored at the conference. Expectations for 2013 Chinese demand growth ranged from 5-8% and for global copper consumption growth from 3-6%. This is significantly higher than last year. Immediate supply/demand fundamentals in the physical market were considered reasonable and better than the short positions in the financial markets appear to justify. Macquarie found the most surprising news was regarding the market tightness in Europe. Demand may be seen as flat this year but this, in Macquarie's opinion, implies a sequential pick up. Southern European demand has stabilised at a low level and there are emerging signs of improvement in Scandinavia and Germany.

In terms of copper supply the biggest producer, Chile, is losing competitiveness. Contractor costs are falling in most regions but not in Chile. Coupled with peso appreciation cost inflation is gaining pace, although not to the extent endured by Codelco and Antofagasta last year. The general belief is that cost inflation will remain at an above-trend pace for up to two years. Macquarie found there was general agreement that Chile would be the highest-cost global producer from 2014.

To add to the challenges that mining faces in Chile there's another issue. It's an election year. Macquarie warns there will be disruptions and whether they are localised or co-ordinated will determine the impact. The analysts also note that allowances made for disruptions to mining so far this year have been lower than normal. Another item that Macquarie found interesting was the potential for currency intervention. Chile's Minister for Finance, Felipe Larrain, opposes quantitative easing and the effect it is having on high growth economies such as Chile in delaying structural reform. Chile intervened in the currency in 2011 and may do so again, according to Macquarie, while also making it easier to hedge currency exposure and open local bond markets to foreign companies.

Commonwealth Bank analysts have also marked down copper forecasts by 2% for both FY13 and FY14 because of strengthening inventories and oversupply concerns. Gold is marked down by 2% as well for both years as concerns mount that the US Federal Reserve will unwind its expansionary policy because of growing economic momentum. Aluminium prices have been ratcheted down 1% for FY13, 10% for FY14 and 15% for FY15. China plans to add 15Mtpa to 20Mtpa in aluminium capacity in the Xinjiang region by 2020 to take advantage of abundant and accessible coal. Accordingly, the analysts have lowered alumina price forecasts by 2% in FY13, 15% in FY14 and 19% in FY15. Again, China is also seen building alumina capacity with the province of Shanxi likely to see the most growth. The province has around one billion tonnes of high-quality bauxite and, combined with new technology and lower energy input costs, will lower the marginal cost of alumina production.
 

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