Commodities | Dec 22 2008
By Andrew Nelson
Dan Smith and Judy Zhu of Standard Chartered Bank just took a trip to China, visiting various manufacturing plants and head offices to get some inside information regarding the outlook for some of the big base metals. Unfortunately, the news wasn’t great, with the pair noting high inventory levels of both metals and finished industrial products. This leads them to expect prices will remain depressed for the next 3-6 months.
The problem with being a Bull or a Bear is what do you become on the far side of that? Maybe the far side of a Bear is simply a bigger Bear. If that’s the case, then after their trip to China, the pair from Standard Chartered have gone from Black Bear, or maybe Asian Sun Bear to full blown North American Grizzlies and probably the big, giant ones that live out on Kodiak Island.
In their words “the market remains in worse shape than previously anticipated and there seems little prospect of an imminent pick-up in metals demand”.
The two note that the country is suffering from a sharp downturn in export orders, particularly in markets such as stainless steel and air-conditioner manufacturing. This has lead to inventory levels becoming extremely high in some cases. For both nickel and zinc, substantial levels of stock are also now being held outside LME warehouses, adding to the bearish view.
The team points out that economic indicators also support their bearish view. In fact, in their view, key economic indicators actually explain the accumulation of such large inventories. China’s industrial production growth slipped to 8.3% year on year on a three-month average in November. This is the lowest growth since January 2001 and indicates manufacturers are slashing production in an aggressive way.
At the same time, the Purchasing Managers’ Index continued to fall to 38.8 in November. The read is now well below a neutral level of 50 and is now at its lowest level since the index was first published in 2005. This, say the two, indicates the economy was contracting.
In the next 3-6 months, the pair expect manufacturers to continue aligning their production with weakening demand. This means any immediate pick-up of metals demand from the manufacturing sector is less likely in the short term.
The good news is that a large amount of this is already reflected in current LME prices as is most of the bad news about China. However, the team notes that while these problems in China may not drive down prices any further, based on the above, base metals prices are still expected to remain depressed for the next 3-6 months – at least.
The exception to this, think the pair from Standard Chartered, is copper. Inventories of this metal are not that great at present, which means that the market has the potential to recover earlier than other metals assuming that this remains the case.
But it’s not time just yet for that recovery, with the analysts noting that while major smelters are pretty much satisfied with their progress of sales so far, sales to home appliance makers, especially air-conditioning, are showing a marked decline in export orders. In fact, the two note that some air-con manufacturers are reporting that copper tube makers were “desperate” for new orders at present.
With large stockpiles of copper-contained products (mainly AC units) and proof of weakening demand, the pair are sceptical about China’s ability to step up copper consumption any time soon.
Nickel prospects don’t look any better, with demand for stainless steel reported to be very weak at present, while stainless mills don’t seem to have any plans to restart idled capacity. In fact, one producer told the team that orders are currently down 50% from their recent peak.
At the same time, nickel inventories remain very high in China and it’s a simple fact that this inventory needs to be reduced before prices can recover. At least, points out the pair, production of nickel pig iron, a key replacement, has almost completely grounded to a halt in China. This has helped the oversupply picture, but prices are not likely to get any positive support from either the supply or demand side in the near-future.
Zinc demand is also weakening in China, with the team noting the galvanised steel market in particular remains very depressed. In fact, some smelters are said to be sitting on large stockpiles of inventory. Overcapacity is also a problem, with some sitting on increased potential because of poor market conditions. The team notes that many plan to not even look at increasing capacity until the end of 2009, with further cutbacks being considered due to poor demand.
This stance is in-line with what the team saw at another northern Chinese zinc smelter who has arranged maintenance to reduce production and help release pressure on stockpiles. The pair thinks that current consumption figures are presenting a misleading picture of the zinc market in China given that while consumption calculations show that demand is still growing, their visits to plants show that the underlying picture is much softer.