Commodities | Jan 29 2014
-Aluminium to flow from cost-advantaged regions
-Likely aluminium market is in deficit
-Mineral sands to improve in 2014
-Diesel car usage wanes
By Eva Brocklehurst
The global aluminium market looks very well supplied, or is it? On the surface, JP Morgan projects primary demand will be 53.1m tonnes in 2014, implying the stock-to-use coverage on the London Metals exchange is 14 weeks or more. Nevertheless, a closer look at the fundamentals reveals a sharp divergence in the balance of aluminium stocks according to region. Generally, a surplus forecast for China in 2014 masks a forecast deficit elsewhere. JP Morgan observes local deficits are particularly steep in the US, Japan and Europe, all of which compete for the same supply from the Middle East and Africa.
Outside of China the latest data show production declines were most severe in Europe but also output was lower in 2013 in South America, Oceania and Asia ex-China. Capacity closures keep coming too. JP Morgan has adjusted production forecasts to allow for smelter closures but, with more capacity closures in Australia and South Africa in the near term, the forecast may require further adjustments over the next three months. The analysts note Brazil has a strong impetus to demand for construction for the upcoming World Cup and Olympics but has experienced an acute shortage of primary aluminum, while the US market has been in structural deficit for some time and is becoming more and more dependent on scrap and imports. Moreover, even though China has a domestic surplus it is still is a net importer of aluminium, signalling there are areas even within that country of scarcity and abundance.
JP Morgan expects the primary flow of the metal will continue to come from regions which have a cost advantage, such as the Middle East and Africa. The analysts expect rising aluminium premiums to be sustained in order to maintain international trade flows to consuming regions but believes production growth, ample inventory and a structural downward trend in global operating costs may eventually take a toll on pricing.
Macquarie considers the surplus/deficit story from a slightly different angle. The broker believes the market is in deficit but is not drawing down on LME inventories because these are locked away, hence the squeeze on premiums. Japanese and European premiums are now at record highs and this normally would indicate an acutely tight physical market but Macquarie does not think this is the case either. The Chinese market is functioning normally in Macquarie's view and shows no sign of a price squeeze. The analysts note a recovery in developed world markets is occurring, with orders up 7% in North America over December but this has been offset by drop in demand from new warehousing deals, following the potential rule changes at the LME.
On the production side, Macquarie notes an overdue reduction in supply but does not think the normal mechanics of drawing down inventory are happening. Cash and carry financing of excess inventory has been profitable both on and off the LME and this indicates to the analysts that no material is being delivered to the market. Macquarie is cautious about the risks in this market and concurs with JP Morgan that the current inventory levels will likely cap upside in cash prices. On the other hand, any rise at the front of the yield curve will provide the opportunity for these financing deals to unwind and create potential for downside to prices that could erode well into the cost curve.
The second half of 2013 revealed unexpected weakness in mineral sands. Prices for zircon and titanium dioxide fell. Despite this fall, JP Morgan sees no evidence of structural changes being significant enough to alter trends in demand. Rather, the broker puts the weakness down to seasonality, noting Chines imports typically fall by up to 30% between September and February. Better conditions in 2014 should result in higher price for both commodities.
The argument that there is a structural shift in demand, particularly in zircon, revolves around tile manufacturing in China. JP Morgan argues that, if this were the case, the evidence should largely be seen in a specific region and/or specific application. The analysts contend the fall in demand has been broad based. Hence, they expect demand will rebound to historical levels. The northern hemisphere winter, typically a seasonally weaker period for titanium dioxide feedstock, means that a recovery in demand is unlikely to gather pace until mid 2014. Furthermore, pigment producers are seeing some improvement in volumes and margins and JP Morgan thinks a recovery for feedstock is imminent.
The popularity of diesel powered cars has been forecast to decline for some time but Macquarie observes the trend has been quite slow to develop. Market share did fall in 2013 as the main advantage of diesel – cost savings for motorists – was reduced. Diesel fuel has become relatively more expensive, partly reflecting underlying commodity price movement, but also because governments continue to maintain taxes on diesel. The emission control systems have become more complicated, nonetheless, and this has implications for platinum demand.
Diesel fuel's efficiency advantage has narrowed over petrol cars as the latter became more efficient because of technology, such as hybridising and stop-start engineering. Macquarie expects the EU will continue to tax diesel more heavily on pollution grounds. Diesel cars still use more platinum than palladium and the European diesel sector is the second largest consumer of platinum after Chinese jewellers. Macquarie estimates that, for every 1% decline in the EU diesel share, platinum consumption is reduced by 20,000 ozs and only a smaller 5,000 ozs is added to palladium consumption.
It's not completely linear – sales volumes of diesel cars may still increase even as the use percentage falls – nor is it likely to make diesel a fuel of the past. Macquarie notes platinum is not only used in diesel cars. The vast majority of trucks are diesel, globally. At present there is little prospect of these changing to petrol.
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