Commodities | Jun 03 2013
-Base metal prices outlook weak
-Gold volatile, but supported
-Coal pressures continue
-Natgas prices to converge
-Oil price growth slower than expected
By Eva Brocklehurst
Investors may be well advised to wait until early in the December quarter before contemplating a move away from yield sensitive stocks to resource cyclicals. That's the opinion of CIBC Markets. The analysts have made large reduction in growth expectations for China over 2013. CIBC estimates GDP will come in at 7.5%, about 2.0 percentage points below the historical average. The cautious outlook for 2013 is also based on expectations of fiscal restraint continuing over the next quarter or so in the US, while in Europe, the second largest market for industrial metals, there are few definite signs of recovery. CIBC expects the economy there to contract by just under 1% this year. A return to growth should eventuate in 2014.
National Australia Bank analysts also find sentiment is still bearish on the back of soft economic data. It appears that demand factors are driving the market, with growing surpluses pushing metals prices towards their lowest levels since the global financial crisis. The global economy has invested heavily in base metal mines over recent years and NAB analysts anticipate the investment yield will ramp up, culminating in a surplus supply of many metals this year.
The surging stockpiles, particularly those held in Chinese warehouses, are signalling weakness in end-user demand in the near term. This could prevent an abrupt recovery in prices once demand improves. The latest data from China shows current metals use is softer than JP Morgan had anticipated at the start of 2013, and JPM expects real GDP growth to be 7.6% for 2013 and 7.7% for 2014.
An ongoing scrap shortage and supply-side disruptions have been the primary fundamental catalysts behind recent strength in copper markets. JP Morgan thinks a recovery in global demand will drive higher prices into the end of the year and current scrap shortages will ease as prices recover. The analysts consider inventory developments in China as one of the brighter spots for copper – Chinese consumers have de-stocked substantially and inventory levels are close to a turning point. Nevertheless, copper mine supply is expected to expand by 3.2% in 2013 and JP Morgan has lowered average cash price forecasts to US$7,707/tonne in 2013 and US$7,675/t in 2014.
CIBC believes the pricing backdrop for nickel is likely to be challenging in the next few months as a number of new projects increases production. High inventory levels and potential supply growth are expected dampen aluminium prices as well. The shuttering of uneconomic supply is likely to support zinc. This base metal has the least bearish outlook in terms of price. Meanwhile, the Chinese lead market remains oversupplied and smelters are struggling against low prices. JP Morgan has also lowered nickel price forecasts, citing overhang in physical inventories, expansion of lower-cost capacity in China and the slower economic growth this year. Their average cash price forecasts for nickel is US$15,628/tonne in 2013 and rising to US$16,750/tonne in 2014.
Gold is entering a multi-year bear market, in CIBC's view, but the high volatility could present near term trading opportunities. The eroding US dollar was the main support over recent years and now that looks like reversing, as investors turn to US dollar assets instead. The analysts at NAB also note the volatility in gold but believe there will be some support. Despite market sentiment turning bearish, physical demand has picked up more recently with gold buyers taking advantage of relatively low prices. The reduction in the US Federal Reserve's bond buying program is inevitable but the analysts expect a stimulus will remain in place for the remainder of this year and into 2014. Further afield, the price is expected to moderate to around US$1,310 an ounce by the end of 2014, as growth in the major advanced economies regains momentum and investors increase demand for riskier assets.
NAB analysts have altered their views on the future path of natural gas prices as the US emerges as a potential global exporter. The fragmented natural gas market is likely to consolidate and prices paid by different regions could converge. The analysts suspect this will only start to happen in 2015 when Sabine Pass, the first export terminal approved in the US, starts operation. Henry Hub prices are expected to rise in the lead-up to this as more export projects are approved. On the other side of the equation, Japan is likely to be a beneficiary of the loosening of US export policy and this should see the prices Japan pays for imported natural gas moderate over the next few years. The imminent resumption of a number of nuclear reactors during the second half of this year is also likely to gradually reduce Japan's reliance on imported natural gas.
Australian thermal coal prices gained support over the last month from robust energy prices and speculation over China's ban on low quality coal imports. In contrast, coking coal has been affected by a softer outlook for the steel industry. Spot prices of thermal coal shipped from Newcastle (FOB) were broadly flat in May, following two consecutive months of decline, remaining around US$87 per tonne. At these levels, industry estimates suggest that almost a fifth of global production, and more than a quarter of Australian thermal coal production, is unprofitable. Cuts to Australian capacity may be needed to stabilise the market. The market supply has been bolstered by a rise in US coal exports, amidst a reduction in US demand. Persistently low prices for natural gas in the northern hemisphere will continue to encourage US coal producers to export into Asian markets, in the NAB analysts view.
Average spot prices for premium hard coking coal in May fell to US$142.3 per tonne FOB. Under old contract formulations, spot prices are pointing to a Q3 contract price of around US$150 per tonne (FOB), which is the lowest contract price since 2009/10. Steel demand has remained subdued, adding to the pressures facing steel producers and weighing on prices for raw materials used in production. Falling steel prices have forced producers to lower raw material costs. Consequently, coking coal prices have trended lower as mills look to use lower quality coal in preference to hard coking coal.
Brent crude prices have been lower than JP Morgan expected, averaging US$103/bbl in the quarter to date against forecasts of US$108/bbl. This is because of lower demand, coupled with heavy refinery maintenance that extended into May. In the second half, higher demand points to an increase in profitability. Against this, the rise in non-OPEC supply, driven by tight oil production in the US and Canada, will raise capacity. CIBC makes the observation that non-OECD demand is poised to overtake the traditional industrialised world for the first time later this year. Growth is still expected to be slow this year. The CIBC analysts expect US$93/bbl for West Texas Intermediate this year and US$98 over 2014, implying that prices will remain somewhat above the break even level for new oil sands projects.
JP Morgan also makes the point that market attention appears too biased to downside economic risks and has largely ignored the escalating tensions in the Middle East. A supply shock is possible. The European Union's lifting of its weapons sale prohibition to Syrian rebels increases the potential for the civil war to draw other countries into the conflict. Reviewing the above factors, JP Morgan has lowered second half price forecasts to US$115/bbl, with expectations that prices will be higher by July 1 compared with current levels.
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