Material Matters: Supply Discipline, Oz Nickel Equities, Thermal Coal And Zinc

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-Lower costs a relief to miners
-Upside for nickel stocks
-2016 tough for US coal miners
-Zinc prices to head higher
 

By Eva Brocklehurst

Commodities Supply

Falls in oil prices and commodity currencies are underpinning sharp reductions in costs for resources companies. The situation is allowing producers more scope to ride out the weakness in commodity prices. ANZ analysts find it difficult to envisage any supply discipline will be forthcoming. Evidence was on display with the Fortescue Metals ((FMG)) December quarter report. The company was considered the most exposed of the big iron ore producers to falls in the commodity price but all-in delivered costs were down by 9.0%. Fuel and energy costs make up around 12% of the company's total cash operating costs, although the analysts observe the single largest contributor to the cost reductions was the Australian dollar exchange rate.

The analysts observe the currency impact is not isolated to iron ore. The Russian rouble has fallen against the US dollar by over 50% in the past six months and this could have implications for energy markets, as Russia is the single largest supplier of crude. The country is also a significant exporter of coal. Russian coal exporter costs have fallen 35% in US dollar terms while exports have risen over 10%. ANZ analysts cannot envisage the market rebalancing in the short term as demand remains tepid, while voluntary supply reductions are looking less and less likely.

Nickel Equities

The year started strongly for nickel stocks, thanks in large part to the decline in the Australian dollar. Mincor Resources ((MCR)) stands out, having surged 22% in 2014, while Western Areas ((WSA)) and Panoramic Resources ((PAN)) have lifted 8.8% and 8.3% respectively. UBS analysts forecast a nickel price of US$8.50/lb in 2015 and US$9.35/lb in 2016. Upside is envisaged coming from the depletion of Chinese high-grade stockpiles in 2015, while a stronger US dollar and lower-than expected spot pricing pose some obstacles.

The broker's analysis suggests an average implied nickel price of US$6.78/lb is being factored into the Australian nickel equities. Western Areas remains the prime nickel producer on the back of operational stability, low cash costs and a net cash position. Sirius Resources ((SIR)) remains a compelling 2016 investment in the broker's view because of its long-term value and strategic positioning. Both Mincor and Panoramic have significant leverage to exploration success.

Thermal Coal

Citi is lowering US thermal coal forecasts to bring expectations in line with recent reductions to its natural gas and seaborne thermal coal outlook. The broker expects to witness coal-to-gas switching as operators run their gas fired operations harder but shipments and realised pricing for coal miners could be less affected because of contractual purchase obligations. The most likely outcome is that coal inventories will build throughout the year if natural gas prices remain low, implying 2016 will be tough for coal miners.

The broker observes that in 2012, thermal coal consumption dropped significantly in the US as utilities and merchant power suppliers opted to run gas-fired generators. Shipments were not as affected because of the contractual obligations.The similar scenario playing out this year is likely to mean an earnings hit for US miners in 2016, when lower spot prices will feed into new contracts and customers commit to lower volumes because of high inventories.

Zinc

Zinc is an exception in Macquarie's basket of commodity price forecasts, with a major upward spike expected. The reason is inadequate supply over the next five years. In early January China's physical import arbitrage opened, as the more extreme selling on the London exchange meant prices were compressed more so on the LME than on the Shanghai exchange. This opening act has provided support for the Asian zinc premium and produced evidence that support for the metal exists in China. Smelters should also now be more motivated to import concentrate from outside China, in Macquarie's opinion.

Zinc was an accessory to the copper sell-off earlier in January. Macquarie suspected the lower levels became a useful entry point for a solid fundamental zinc story. Prices have recovered strongly since the low of US$2,005/t and have regained US$2,100/t. The analysts expect prices will be modestly higher in 2015. Zinc metal deficits have deepened in Macquarie's latest calculations, because of weaker refined output. Output has been more modest in countries such as China, Australia and the US. The deficits erode stocks to less than a week of consumption by 2018, with the analysts expecting more extreme price responses to market tightness.
 

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