NAB Reassesses Commodity Price Forecasts

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-Oil market balance expected
-LNG price pressure mounting
-Strong coal supply to continue
-Seaborne iron ore price favourable
-Gold price remains edgy
 

By Eva Brocklehurst

Over September commodity markets were increasingly volatile, underpinned by the uncertainty about when the US Federal Reserve is going to start tapering its asset purchases and the looming showdown over the US budget bill. The most volatile were the energy markets. Energy prices rose at the start of the month as the Syrian crisis escalated, then unwound as the military strike was averted. Subsequently, the decision to delay Fed tapering of bond buying mid month sent oil and precious metals higher, before that spike ebbed as well.

Despite the price volatility and some market tightness, analysts at National Australia Bank believe the global oil market outlook is probably going to be relatively balanced over the next year. Medium-term oil demand should be supported by the recovery in advanced economies and a continuation of loose global monetary conditions. The US political impasse is considered more likely to limit upward price potential for crude oil than exert a major downward force. The NAB analysts expect oil prices will become more aligned with fundamentals and have tweaked near-term forecasts at the margin. Brent and West Texas Intermediate are expected to average around US$106 and US$100 per barrel respectively by the end of this year.

In Asia the LNG market continues to be quite tight as the re-stocking for winter continues. The analysts note, in the last few months, India and China have increased domestic prices for natural gas. This stems from reforms of the natural gas market, which were kept artificially low and resulted in massive losses for state-owned LNG-importing utilities. To increase their bargaining power, Japan and India agreed to set up a multilateral buying group for LNG to push for lower prices.

The analysts suspect this action from two of the world's largest LNG importers may exert price pressure on the Australian LNG operations which are currently under construction. Woodside Petroleum ((WPL)) is reported to be under increasing pressure from two major buyers, Tokyo Gas and Kansai Electric. The pair are citing price pressure for long-term contracts due for renewal in 2015 created by the boom in US shale gas. The analysts forecast the price to ease gradually in the medium term, as US shale gas exports play a prominent role as a cheaper alternative to traditional sources of LNG exports.

Thermal coal prices remain soft. Increases in thermal coal supplies from Australia and Indonesia have kept inventories elevated and prices suppressed. Spot prices for coal shipped from Newcastle have been below US$80 per tonne (FOB) since late June. This is well below the contract price for the Japanese fiscal year that settled at US$95 per tonne (FOB) earlier in the year. Higher cost production is being shut down in response to falling prices and while the fall in the Australian dollar supported some mining operations it has not prevented others, such as Yancoal's ((YAL)) Stratford operation being shut down as unprofitable.

Despite environmental policies planned to discourage coal consumption, emerging economies are still expected to drive demand growth in thermal coal. The International Energy Agency has stated coal will replace natural gas as the dominant fuel for producing electricity in Southeast Asia as the region almost doubles energy consumption over the next two decades. The analysts not price differentials in the region currently favour coal by a significant margin. The agency has also observed that geological and logistical constraints mean output from shale will not be significant in China before 2020.

Coking coal prices have taken a while to rally but resilient Chinese steel production has led to some re-stocking, while the suspension of marginal coal production is bringing the market back into balance, in the analysts' view. Improving prices helped coal producers settle higher December quarter contracts. Nippon Steel and BHP Billiton ((BHP)) settled the Q413 contract price for premium coking coal at US$152 per tonne (FOB), which the analysts observe was US7c higher than the September quarter contract. Even so, this is the second lowest contract price since quarterly contracts commenced in 2010. Although conditions are better, there appears to be adequate supplies of coking coal and these are keeping spot prices more than 15% below this year's high, according to the analysts. Moreover, strong increases in Australian supply are likely to continue to dampen prices.

Steel input markets have been relatively firm as Chinese production held up. The most recent rally in iron ore prices has stalled and prices have edged lower as Chinese import demand has eased. Spot prices are currently around US$131 per tonne (CFR Tianjin), having peaked at US$143 per tonne in mid August. The analysts note that stocks of iron ore at ports are at low levels and the re-stocking has more to run, supporting prices to the end of the year. Demand for seaborne iron ore is also receiving support from a favourable price differential to Chinese domestic ore, although this has narrowed from earlier in the year. Expansions in global iron ore capacity is still expected affect seaborne prices and provide some disincentive for re-stocking in the near term. This is evidenced by Rio Tinto ((RIO)) loading the first shipments from expanded capacity in September. This year, Rio Tinto has targeted an increase to output of 65 mtpa.

The NAB analysts suspect China's gradual shifting from a heavily investment focused growth model will mean steel demand will increase at a slower pace than in previous years. Prices are expected to be range-bound at US$120-140 per tonne FOB during the remainder of 2013. Rising supply and modest demand growth are expected to induce a structural decline in prices towards US$100/tonne over the next 12-18 months.

The imminent tapering of US Fed stimulus will keep the gold price on edge but the NAB analysts expect prices to gradually soften. The price of the precious metal edged up as concerns mounted over the US government shutdown. Now the shutdown has been in place for a week the analysts suspect investors have re-assessed the value applied to gold in terms of its safe haven status and the price has pulled back. This outcome is consistent with the realisation that the shutdown will only be short-lived. Demand for gold could be variable over the remainder of 2013 but prices are expected to moderate to around US$1,300 an ounce by the end of the year and then decline further to around US$1,100 an ounce by the end of 2014. The 2014 scenario is based on improving momentum in advanced economies and increased demand for riskier assets.

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