Commodities | Jun 12 2013
-What's the impact of the low CV coal ban?
-Recovery in Chinese steel demand
-Record iron ore imports for China
-More aluminium output cuts needed
-Check on copper supply disruptions
By Eva Brocklehurst
China is proposing a restriction on low calorific value (CV) coal. At first sight this seems a logical way to tackle a growing problem with carbon emissions. The timing and restriction level of the ban looks uncertain. The largest negative impact is for Indonesian coal producers, the biggest exporters of low quality thermal coal to China. Australia's high quality exporters could benefit, but there's a catch. Chinese utilities will likely consume a greater level of domestic supply. The bans could end up simply propping up domestic producers that are less affected by competitively priced coal imports, in the view of ANZ analysts.
The desire to make China's power supplies cleaner and more efficient underpins the restriction. ANZ analysts believe coal will stay the main supplier of power because it's cheap and abundant. They anticipate little change in the ratio over the next four to five years and thermal coal will still account for 65% of power consumption by 2015, from 70% currently. This is mainly because of bottlenecks in renewable energy developments, stemming from safety concerns surrounding nuclear power after the Fukishima meltdown in Japan, and higher costs. Softer demand conditions are weighing on Chinese coal producers and coal companies are facing significant pressure from imported coal, such as low-priced coal from Mongolia. Domestic inventory levels are high. These may be the other reasons behind the planned restrictions.
The bans on low CV coal is unlikely to hurt Australian producers, in the analysts' opinion. There are lower quality limits for domestic suppliers. US coal exports with higher sulphur content may be at risk but the US has only recently become a meaningful coal exporter to China, with exports in 2012 representing only 0.8% of total US coal output. Vietnam is more exposed, with about 70% of exports potentially affected. The analysts do make the point that Chinese traders in low quality coal are protesting about the bans and five of the country's largest power utilities are also opposing any restriction on low quality imports, in order to maintain supply diversity. So it's hardly a done deal yet.
Strong production and continued de-stocking of steel product inventory suggests to Morgan Stanley that a recovery in Chinese domestic demand is underway. China's finished steel imports contracted 5% year-on-year in May after growth of 12% in April. Year-to-date imports are down 2%. Export growth was 3% year-on-year in May from 19% in April and year-to-date export growth slowed to its lowest rate this year, at 6%. This is in stark contrast to production volumes which are up 11.3% year-on-year in May and set a new record for the month at 91.2m tonnes.
Chinese iron ore imports were 68.6m tonnes in May, representing an all-time monthly record. The 2% month-on-month increase reflects a very high level of domestic pig iron and blast furnace steel production in May. This also helps justify the relative strength in iron ore prices over the period, in Morgan Stanley's view. The analysts expect iron ore price and imports to ease in the coming months, given the announcements about reduced capacity utilisation and lower production.
The global aluminium market remains constrained by excessive expansion in output from China. Demand is still robust, as Chinese and US economic growth is picking up. Nevertheless, CIMB notes the market is moving into an even bigger surplus this year, forecasting 1.7m tonnes in 2013. Chalco plans to temporarily shut down 380,000t of aluminium production capacity, equal to around 10% of current annual output. This may be well received by the market in the short term but a more sustainable reduction in capacity in China is needed before CIMB analysts are more positive on the aluminium price. Smelter cut-backs have not solved the oversupply problem. China's total aluminum smelting capacity is still likely to rise by 8mt in 2013 and this additional capacity is likely to come from the northern and western provinces, supported by low-cost coal-based power.
Even with the cut-backs there is still the problem of excessive accumulation of stock. Another year of supply surpluses of more than 1mt and the analysts suspect global inventories will be nearing 15mt, sufficient for more than 110 days of consumption. Inventory financing deals may disguise this fact, but they won't make the surplus disappear. The analysts are actually surprised at how well the aluminium price has withstood this situation. Moreover, in China, with the added benefit of higher domestic prices, the analysts calculate that only 7mt of capacity is uneconomic, explaining why production reductions have been relatively limited. Prices need to fall much further in order to trigger meaningful cuts in output.
Disruptions to copper supply have increased. There is uncertainty over the duration of the outage at Freeport's Grasberg mine in Indonesia, after production was recently suspended following a tunnel collapse. Macquarie expects a force majeure declaration or third-party purchases by Grasberg are inevitable in coming days, as the concentrate stocks held before the closure were enough to fulfill around 12 days of exports. Looking at other major supply points, stronger performances from Escondida in Chile and Tenke Fungurume in Democratic Republic of Congo cancelled out supply reductions in the first quarter this year. Moreover, Chinese concentrate imports increased by 40% year-on-year through to April.
The combination of a protracted outage at Grasberg and re-start of Sterlite's 400,000 tonne smelter in India should be first felt in the balances in the concentrate market, which has been well supplied so far this year. Macquarie is hearing initial reports of spot tenders equivalent to US$60/t and US6c/lb CIF China. If reports of falling utilisation rates at Chinese smelters are accurate, and the analysts doubt this, then further declines in treatment charges should occur in the near term. Due to lower sequential mine production in Q1 against Q4 spot smelter charges typically fall, yet, in 2013 treatment charges rose for the second time in seven years. While the outage at Grasberg and Bingham Canyon in the US have delivered the largest share of Macquarie's disruption allowance for copper mines, as yet they only add up to 44% of the output disruption that has been allowed for in forecasts.
Find out why FNArena subscribers like the service so much: "Your Feedback (Thank You)" – Warning this story contains unashamedly positive feedback on the service provided.
