Material Matters: Upgrades To Bulk Forecasts, Food Prices and PGMs

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– Tight market sees Macquarie lift iron ore and coal forecasts
– Changes to other metal price estimates less significant
– Goldman Sachs points out food commodities are a late cycle play
– PGM markets remain tighter than previously expected

By Chris Shaw

On the estimates of Macquarie, Chinese activity has grown strongly in the first four months of 2011 as most commodity end-use indicators have grown by better than 10%. Steel production has similarly been strong, while at the same time the market has stayed tight due to a number of supply challenges.

This strength in Chinese activity comes despite further tightening in monetary policy by Chinese authorities, last week's tightening move being taken in stride by base metal markets, comments Citi. This reflects expectations Chinese base metal demand will stay strong for some time.

The challenge for Chinese authorities is to balance growth and inflation and Citi estimates current policy is now on the restrictive side of neutral. As Citi points out, changes in Chinese monetary policy are taking on more importance for the LME complex now, as swings in Chinese consumption can overwhelm swings in Western World consumption and so drive prices.

Given currently tight bulk commodity markets, Macquarie has lifted price forecasts for both iron ore and metallurgical coal for both the short and longer-terms. For iron ore, Macquarie is now forecasting a price of more than US$160/t FOB Australia for the next three years, with prices to stay above US$150/t FOB through 2015.

Long-term Macquarie has lifted its price forecast to US$68/t FOB, up from US$59/t previously. This increase reflects growing capital cost pressures across the next wave of seaborne supply growth, including from new provinces such as West Africa.

In the met coal market Macquarie now forecasts premium hard coking coal prices of around US$290/t this year and around US$270/t in 2012. Average prices should stay above US$200/t out to the middle of the decade.

Increasing capital intensity and cash production costs have caused Macquarie to lift its long-term met coal forecast to US$145/t, an increase of US$10/t. Thermal coal expectations are largely unchanged, as the medium-term outlook is for only a slightly tighter market than previously forecast.

Changes to base metal estimates have been less pronounced, Macquarie slightly trimming its copper price forecast for 2011 while expecting an annual average peak of US$5.25/lb in 2012. While there is some substitution risk at prices above US$4.50/lb, Macquarie suggests the supply response appears inadequate.

The changes to estimates come despite what Macquarie suggests are signs the Chinese are again buying copper as consumer de-stocking appears to have run its course. This buying should support the physical market in Macquarie's view, especially given the near 10% falls in LME copper prices since early March. 

Macquarie sees the copper market as now moving into deficit, which suggests some upside risk to prices through the remainder of 2011 and into the first half of 2012.

In aluminium, Macquarie expects current spot levels will be sustained through 2011 given ongoing strong demand and constraints to Chinese production. Broader industry fundamentals should come to the fore in 2012, leading Macquarie to forecast prices declining to around US$1.05/lb next year. 

Elsewhere among the commodities Macquarie has made only minor changes to forecasts with the exception of uranium, where larger cuts to longer-term expectations have been made. Macquarie expects prices of around US$45/lb in 2013.

Given a view of sustainable iron ore prices, Macquarie suggests BHP Billiton ((BHP)) and Rio Tinto ((RIO)) are clear beneficiaries, while pure iron ore plays such as Atlas Iron ((AGO)) and Fortescue Metals ((FMG)) are also preferred. 

With scope for copper prices to move higher, Macquarie remains positive on Oz Minerals ((OZL)), while the key coal exposure is Aston Resources ((AZT)). Among the other commodity plays, Macquarie retains Newcrest ((NCM)), Perseus ((PRU)) and Aquarius Platinum ((AQP)) as preferred exposures.

Goldman Sachs has looked more closely at food prices, noting the first two weeks of May have seen some modest falls following a broadly steady April. There is some relevance for commodity markets generally, as Goldman Sachs notes after remaining broadly steady through the 1990s and early 2000s, key commodity group prices diverged from 2004.

Since that time food prices have doubled, while agricultural prices have risen by around 70%. In both cases the gains fall short of energy and metal prices, which have risen by around 2.5 times since 2004. Goldman Sachs sees the variation as representative of the industrialisation of China, as food is seen as more of a mid to late cycle play. 

Over the past three years food prices have risen more modestly than other commodities, now sitting 6% above their prior peak of June 2008 and 60% above the trough of December 2008. In contrast, commodity prices in other sectors are up by between 69% to 137% from their 2008 lows. 

In the platinum group metals, Standard Bank remains of the view both platinum and palladium will be in deficit through both 2011 and 2012. The deficit is likely to be most pronounced in palladium according to Commerzbank, which despite Russian sales ended 2010 in a deficit of around 490,000 ounces. 

This reflected both strong investor demand and industrial demand for autocatalysts in particular, factors Commerzbank expect will continue to drive prices higher. The other factor is wage inflation in South Africa continues to increase, which is important as that country is a major producer of both metals and is driving up production costs.

Macquarie also noted the PGM market survey presented by Johnson Matthey, which indicated markets were tighter in 2010 than Macquarie had expected. This is also likely to prove supportive to prices, Standard Bank forecasting platinum prices of US$1,900 per ounce and palladium prices of US$950 per ounce in the final quarter of this year.

With both metals likely to remain in deficit for the foreseeable future, prices should stay elevated. Macquarie favours palladium given slightly better market fundamentals. The stockbroker notes Johnson Matthey is forecasting price ranges of US$1,750-$2,000 per ounce for the remainder of 2011 and US$715-$975 per ounce for palladium.

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