Commodities | Sep 09 2013
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-South Korea's thermal coal future
-Chinese thermal coal demand to peak?
-Mineral sands set for gradual recovery
-Riding out commodity price weakness
By Eva Brocklehurst
Macquarie has studied South Korea's role in the seaborne thermal coal market. The country is one of the top five importers globally but imports have been so flat over the past couple of years that few analysts bother to comment on the numbers regularly. Macquarie suspects the recent heat wave is one of the reasons. In periods of stronger electricity demand thermal coal imports are unresponsive as the coal-fired capacity is at its max. The remainder of 2013 or even 2014 is not expected to alter the situation, although Macquarie's analysts think prospects beyond are more positive.
A number of KEPCO subsidiaries have new units scheduled to come on line from 2014 to 2017 and the first non-KEPCO/privately funded coal units are joining the network. The electricity plan that was released in February points to another 8.74GW of coal capacity coming on line from 2018 to 2022, of which 6GW is from independent producers. Although concurrent expansion of both nuclear and gas capacities is taking place, and this should result in falling utilisation of coal units from current high levels, Macquarie suspects the base effect will still boost thermal coal imports to over 113mt by the end of 2016. By the standards of China and India this may not be much of an increase but it's a positive longer term driver for thermal coal demand, in Macquarie's view.
South Korea's previous plans for nuclear to be the number one generating sector have been thrown aside and, when contrasted with the EU where demand is on a downward path owing to regulation and Japan where just 1.6GW of new coal capacity is scheduled to be added until at least 2020, the future of coal in Korea appears to be brighter. Macquarie would not be surprised to see South Korean utilities become more aggressive in securing stakes in overseas coal mines in the coming years.
On the bearish side, Citi has taken issue with the assumptions regarding the trajectory of Chinese thermal coal demand. The outlook for Chinese demand, which accounts for more than 50% globally, has been so strong that the International Energy Agency has called for coal to surpass oil as the leading global fuel before 2030. Citi thinks disruptive changes in technology costs and fuel markets are will ensure that the next 10 years will be unlike the last 20. US shale gas is just beginning to show its hand and the high skew towards Chinese demand has affected globally-traded coal, and the countries and companies reliant on coal production. Then there's the carbon emissions story.
Citi expects these factors will slow the power sector's use of coal and there'll be a flattening, or peaking, before 2020. The opinion is based on a detailed, top-down study of electricity supply and demand in China. The outcome is a recommendation by Citi that investors price in higher probabilities of lower coal demand. Optimistic long-dated coal prices may not be supported. Although lower prices may support demand elsewhere, the demand slowdown in China should more than offset this. Coal exporting countries that have been counting on strong future coal demand could be most at risk.
Moreover, the outlook for alternative, non-coal power generation supply continues to surprise on the upside. Mounting environmental pressure and increasing willingness to prioritise cleaner growth suggests these alternatives will meet an increasing share of China's electricity demand. Thermal coal prices have maintained an almost steady descent throughout the year, hitting US$76-78/t FOB at the end of August; near the lowest levels seen this year. Prices have fallen about 17%, due to a combination of abundant supplies and soft demand. Demand from China and India remains soft and the market is extremely well supplied. A cut in prices by Chinese coal producers this week highlights this weakness in market fundamentals, according to Citi. The cut in Chinese domestic prices is also likely to provide a fresh incentive to procure supplies domestically, potentially removing an important source of support for the seaborne trade.
Goldman Sachs expects global inventories of mineral sands to decline to 299,000t in 2013 (down 43% year on year), equivalent to three months of global consumption and roughly in line with 2008-11 levels. Efforts to reduce zircon use in ceramic tiles appear exhausted and intensity of use has bottomed. This should set the scene for a gradual recovery in zircon prices, albeit from a lower starting point. Goldman has downgraded 2013, 2014 and 2015 zircon price forecasts by 3%,12% and 9% respectively. Longer term price forecasts are unchanged. The primary driver for the downgrades is price deterioration, which has effectively lowered the starting point for a recovery.
The price correction in the first half of 2013 was more severe than anticipated. Zircon prices have stabilised but the near term outlook for titanium feedstock remains subdued and any price recovery will also start from a lower base than Goldman had previously forecast. The titanium feedstocks sector does not benefit from the same degree of supply discipline as zircon, while demand has been impacted by de-stocking among pigment producers. Demand growth in 2013 is expected to be marginal, around 1%, before resuming a trend rate of 5% for the period 2014 to 2017.
The impact for Iluka Resources ((ILU)) and Base Resources ((BSE)), the two Australian stocks most exposed to near term mineral sands prices, is negative. Goldman has downgraded earnings estimates for both companies for FY13, FY14 and FY15 by between 20% and 35%. Mineral Deposits ((MDL)) has generally agreed on pricing for sulphate slag and is therefore insulated from price changes in in the second half of 2013 but the broker's price forecasts change from FY14 onwards. Accordingly, FY14 and FY15 estimates are cut by 32% and 20% respectively.
The mineral commodities industry seems to be preparing to ride out any current weakness in prices. To CIMB there's not much talk about cutting production. Increasing supply was the reason used by many as to why prices might stay subdued in the second half of 2013. Cost cutting has been achieved by actually increasing supply to reduce unit costs. The major copper producers believe price is being driven by supply-side issues. The de-stocking cycle evident earlier in the year has now stopped and China is relatively low in inventory. A scrap shortage is also starting to affect demand for refined copper. Growth in production continues to be interspersed with disruptions and CIMB thinks much of the growth in supply has already been obtained. It likely to slow in the second half of 2013.
Iron ore prices are holding up relatively well and a common theme among producers is that supply growth will be constrained. Prices are expected to settle around US$110/t and there's no mention of prices collapsing, as happened last year. CIMB's observations suggest lower-than-normal inventories will support prices in the normally weak third quarter. There's also evidence of demand returning to normal levels in the rare earths market as a de-stocking cycle comes to an end. In the potash market, there seems to be some ambivalence, in CIMB's view, about the short-term implications of the move by Uralkali to exit from a marketing agreement and increase supply. Concerns remain over short term pricing but there is confidence about stronger long-term demand.
Nickel retains poor short-term fundamentals and prices have pushed well below the cost of production. Large inventories have formed across the industry according to some producers, which CIMB doesn't see boding well for prices when demand does pick up. There was also concern that, as depressed prices delay future projects, there will come a time when the market goes into deficit and prices will then jump. CIMB notes, unfortunately, this has been a recurring theme in the nickel market for many decades.
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