Commodities | Jun 18 2009
By Chris Shaw
The strength in commodity markets is, according to Danske Bank, confirmation the market is pricing in expectations the global economy will recover from its current problems, especially given lean inventory levels in many industries and record fiscal stimulus measures.
In the group’s view, this combination means global leading indicators should improve over the course of the year, most likely by more than market consensus currently expects. Assuming this scenario plays out as expected and the global recession ends in the third quarter of this year, the group sees a positive outlook for commodity prices, though it
concedes this could already be at least partly priced in
given the current levels of financial markets.
In other words, while commodity market fundamentals have improved in the past few months given an apparent commitment by OPEC to cut oil production and strong Chinese buying of metals, prices in some markets appear to have moved ahead of fundamentals as prices are being pushed higher in anticicpation of tighter market balances in coming months.
This implies increased risk as current prices are based on expectations and not fundamentals, as in Danske Bank’s view any return to a focus on current market fundamentals, or if there is any setback in investor attitude to risk, then commodity prices are more exposed to a correction.
Any such correction is unlikely to last long in the group’s view as it suggests if further hard economic data follows the more positive lead of recent PMI numbers globally there is further upside risk for commodity prices in the December quarter of this year and into 2010.
With respect to specific markets and looking firstly at oil the group suggests while in recent months OPEC had accepted the era of very high oil prices had ended, it is now appearing more confident and so acting more hawkishly.
Production is expected to be kept low and with signs demand is recovering the group suggests the cartel is trying to target US$80 per barrel for oil prices, an outcome made more likely by the potential of non-OPEC production to actually decline this year given falling investment levels.
Short-term, a lack of compliance by those within OPEC with respect to production quotas and scope for a bounce in the US dollar make a pullback in prices possible, especially given global oil stocks remain high. Danske Bank suggests a correction of 5-10% is in order but it sees prices at around US$80 per barrel by year end, which implies an average of US$73 per barrel in the December quarter.
The group suggests the base metal story is relatively similar to the oil market one in that while stocks remain high there are some supply constraints in place and the general improvement in market confidence in the outlook for the sector is pushing prices higher.
China remains the key to the demand side however, and so the recent signs domestic demand in that economy is improving is a positive sign. Also, fixed asset investment is rising strongly and car sales are higher, but as the group points out exports are yet to pick up to any significant degree.
The domestic strength has seen the Chinese as aggressive buyers of copper and this has pushed down stockpiles of the metal, but Danske Bank suggests the copper market globally remains susceptible to any weakening of this buying in the shorter-term, meaning prices could drop to around the US$4300-$4,500 per tonne level. However, the improvements in economic data globally mean a further leg-up in prices could begin in the December quarter and the group expects prices could end the year at close to US$5,400 per tonne.
For aluminium the picture is a little weaker, reflected in the fact the metal’s price is up just 5% this year against the 63% gain in lead prices and 68% for copper. As Danske Bank notes, this reflects poorer fundamentals, which in turn reflects weak demand and ongoing increases in aliminium stockpiles. Year-to-date aluminium stocks have increased
by 86% and are up 300% from this time a year ago.
While demand should improve eventually it currently remains weak and the group suggests while low prices offered some downside protection given high production costs the gains in the price of the metal in recent weeks have weakened this argument as production cuts appear to have ended. In the group’s view, current energy prices suggest downside in aluminium is limited to around US$1,450 per tonne, meaning while the lows have been seen a strong recovery in the short-term is unlikely and prices should end the year at around US$1,600 per tonne.