Material Matters: Metal Prices In 2011, Shell And Woodside, Coal And Gas

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By Chris Shaw

Analysts remain bullish on metals for 2011 according to the latest Reuters poll, RBS Australia noting consensus forecasts are for all of the major base and precious metals prices to average more in 2011 than current prices.

RBS notes the consensus results show the greatest upside for zinc prices at 17%, followed by lead at 11%, copper at 7%, aluminium at 6% and nickel at 4%. Palladium and palladium head the precious metals with consensus upside forecasts of 10% each, ahead of silver at 5% and gold at 3%.

RBS itself is positive on the outlook for metal prices as its price forecasts for 2011 are currently 7% above consensus on average, with the broker most aggressive in aluminium at 13% above consensus. This is offset by lower than consensus estimates for the precious metals, with the broker sitting 8% below the market with respect to silver, 3% for platinum and 2% for gold.

As RBS notes, the latest Reuters poll shows analysts remain positive even after revising down price expectations, as average consensus downgrades among the base metals over the last few months are around 5%.

RBS cautions the latest downgrades to consensus metal price estimates are yet to feed through to 2010/11 equity earnings downgrades for the miners. This means there could be some cuts to earnings estimates in the sector post upcoming profit results.

Turning to the iron ore market, Macquarie suggests the move to quarterly pricing in the sector on April 1 this year saw Australia as the major beneficiary in the three months to the end of June. Chinese data show average imports from Australia landed at US$145 per tonne during the period, up from US$93 per tonne in January. This was a larger improvement than that enjoyed by either India or Brazil.

According to Macquarie, the gains achieved by the Australian producers is likely to reflect a more rapid switch from the old benchmark pricing system to a mix of quarterly and contract selling. This leads the broker to suggest the equalisation in prices to account for different freight rates, long sought after by the likes of BHP Billiton ((BHP)), is now becoming a reality.

With respect to iron ore prices Commonwealth Bank notes spot prices have risen by almost US$20 per tonne from their lows of July 14. The bank is wary of the increase as there are doubts underlying steel demand is strong enough to justify the recent gains.

One factor supporting higher iron ore prices is related to Indian iron ore exports, as there continue to be calls for higher export taxes or a complete ban on exports from that market. This is tightening the market somewhat and could continue to do so if the uncertainty persists.

GSJB Were has turned its attention to the Australian energy market and more specifically the impact Shell has had on the local sector as the Anglo-Dutch company becomes more involved in developing new projects. Shell has been very active in the past year, acquiring Arrow Energy ((AOE)), partnering with PetroChina in the CSM sector, sanctioning the development of Gorgon and enjoying substantial exploration success.

In the view of GSJB Were it is likely Shell will be just as active in the next 12 months given it will drill a number of exploration wells in the Carnarvon Basin and may decide to enter the Wheatstone development project and support development of Trains 4 and 5 at Gorgon.

There is also scope for Shell to exit its Australian downstream operations if a suitable chance arises, while the broker expects it may try and expand its CSM acreage in Queensland. Longer-term, Were also expects Shell will re-evaluate its non-controlling position in Woodside ((WPL)), especially given in 2012 there will be a deadline for the Browse joint venture.

More activity in Australia by Shell is likely to have an impact on a number of Australian players, GSJB Were seeing those most impacted being Woodside, Santos ((STO)), Eastern Star Gas ((ESG)), Caltex ((CTX)) and Nexus Energy ((NXS)).

Of these, GSJB Were rates Santos and Eastern Star as Buys, while it has Hold ratings on Woodside, Caltex and Nexus. The FNArena database shows Sentiment Indicator readings of 0.6 for Woodside, 0.7 for Santos and Nexus, 1.0 for Eastern Star and 0.2 for Caltex.

Elsewhere, GSJB Were has been on a number of site visits, taking in the Nzema Gold Project of Adamus Resources ((ADU)), the South African platinum operations of Lonmin and the Central Ashanti gold project of Perseus Mining ((PRU)). None of the companies are officially covered by the broker.

The Nzema project is expected to produce around 100,000 ounces of gold a year for a minimum of nine years, at cash costs of around US$450 per ounce. GSJB Were has a net present value on the project of around US$197 million, which compares to a current market capitalisation of around A$195 million. None of the brokers in the FNArena database cover Adamus.

Lonmin is the world's third largest primary platinum producer and had output of more than 663,000 ounces of platinum in concentrate last year. What sets the company apart from the Australian platinum plays according to the broker is Lonmin has its own smelter and refineries, as well as it own employees.

The Australian plays, Aquarius Platinum ((AQP)) and Platinum Australia ((PLA)), in contrast both contract out their labour needs. GSJB Were rates Aquarius as a Buy and has a Hold rating on Platinum Australia.

Perseus' Central Ashanti mine is expected to produce around 190,000 ounces of gold annually, with GSJB Were noting there remains scope for upside to the resource both along strike and below the existing resource base. The broker's net present value of the project is US$240 million, which compares to a current market capitalisation for Perseus of $940 million. Only RBS covers Perseus in the FNArena database, rating the stock as a Buy.

Looking at natural gas, Barclays Capital notes the Environmental Protection Agency (EPA) in the US has proposed new regulations related to reducing emissions from the power generation sector beginning in 2012.

This is earlier than had been anticipated and is of importance in the US given coal fired power generation is the backbone of the US electric system, accounting for 48% of output in 2008. Assuming the new rule is implemented, Barclays suggests it is likely to spur the retirement of existing coal fired power stations where it is judged the cost of emissions upgrades is greater than the value of the plant.

Assuming this were to occur there could be a large amount of shuttered capacity, which Barclays expects would see a shift to greater use of gas fired power units. Any such retirements are likely to be concentrated in a few market regions, including the likes of Pennsylvania, Georgia, Ohio, Indiana and Alabama.

The issue for Barclays is that the retirement of coal fired plants is a difficult decision, so it expects plant retirements will actually lag expectations in terms of both scale and time frame. As an example, the equity analysts at Barclays suggest there could be 20-30 GW of potential coal plant retirements from the new emission regulations, while other industry forecasts suggest as much as 60 GW of capacity could be shuttered. This suggests the extent of any benefit for the natural gas market will take some time to become apparent.

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