Material Matters: Copper, Gold, Oil And Bulks

This story features SANDFIRE RESOURCES LIMITED, and other companies. For more info SHARE ANALYSIS: SFR

-Emerging tightness in copper
-Gold demand easing back
-Upside potential in Cooper oil & gas
-Coking coal moving to oversupply
-Iron ore producers slash break-even levels
 

By Eva Brocklehurst

Copper

Questions prevail around both global and Chinese growth at present but a stabilisation of London Metal Exchange stocks and continuous drawing down of Shanghai stocks appear to Macquarie to be among the most supportive indicators for copper. The draw-down in China is a symptom of deficits in the marketplace kicking in, amid a seasonal ramp-up in industrial activity. Cathode imports have picked up but remain off the previous year’s first half highs. Concentrate imports have also grown as smelter capacity expansion continues. Macquarie observes Chinese orders for construction have stabilised after months of declines which leaves only orders from transport contracting.

On the supply side, high levels of disruption to global copper mining persist. There have been recent downgrades for Sierra Gorda and Caserones production and Macquarie notes further disruptions are likely in Zambia, where low rainfall may prompt the government to cut hydro power generation. in Peru, local protests over the Tia Maria project threaten to spill over into operating mines. Ultimately, the broker still expect a copper deficit in 2015.

For UBS the picture is one of emerging tightness in the copper market. Cancelled warrants are lifting, exchange inventory is falling and there is increased supply disruptions.The broker considers the market is balanced, with deficits forming beyond 2016. UBS believes Sandfire Resources ((SFR)) offers a low cost exposure to copper and rates the stock a Buy. The broker is drawn to the stock for its strong free cash flow and 7-year mine life.

The broker has a Neutral rating on OZ Minerals ((OZL)), given the short mine lift before reversion to a less economic underground project. The company is also seeking alternatives for Carrapateena as the project is too big to develop internally. UBS looks for operational stability in Tiger Resources ((TGS)) despite its strong March quarter. The stock is rated Buy.

Gold

A low volatility environment in equity and commodity markets over April and May has helped maintain gold prices in a range. National Australia Bank analysts note May prices averaged around US$1199/oz. The stability in gold prices is largely stemming from a gradual recovery in major economies, while deflationary risks in the euro zone have receded from the peak at the start of the year. The faltering US dollar index, the analysts observe, has provided limited impetus to the gold price. An abundance of cheap liquidity is fuelling equity market growth, restricting the appetite for gold as a safe haven asset.

Ultimately, the analysts envisage gold demand is easing back to pre-GFC levels, indicative of improved investor appetite for riskier assets. In the March quarter there were notable falls in jewellery demand in the US and Europe with only marginal increases in China and India. The analysts note the rallying trend in Chinese equity markets since the beginning of this year has diluted the attractiveness of gold as store of wealth to some extent.

Oil & Gas

Morgans has met with the major players in the Cooper Basin and returned more confident in the opportunities for growth. Santos ((STO)) expects GLNG will arrive on budget in late September with the final phase of construction helped by sizeable upstream cost savings. After start up, the company intends to focus on its debt levels and get the gearing down to 20-30% by 2017-18 from the current 45%. Santos has approval to expand Darwin LNG to 10mtpa and envisages further upside in the Cooper Basin, with potential in the Carnarvon and McArthur Basins.

Beach Energy ((BPT)) meanwhile is undertaking a review of its assets and the broker note the Cooper Basin oil business is favoured, given its low cost. Morgans would not rule out Beach Energy making acquisitions to expand and diversify the gas assets. Emerging gas producer Cooper Energy ((COE)) has made progress with the recent farm-in for 50% of the Sole field and Orbost gas plant. Morgans considers this project will be transformational for Cooper Energy and believes it could result in corporate interest from other oil & gas companies. The company is targeting a final investment decision in the September quarter 2016.

Bulks

The bulk commodity outlook is dominated by demand from China but the changing nature of China’s growth towards services rather than heavy industry means it is less commodity intensive. National Australia Bank analysts note China’s apparent steel consumption has fallen early this year, reflecting weaker demand from construction. The analysts expect steel demand to remain subdued over this year.

Demand from key thermal coal consumers is also lower, with China addressing its pollution problems and Japan nearing its phased re-start of nuclear capacity. Spot prices for thermal coal were relatively stable in May and while coal remains the dominant fuel in China’s energy mix, consumption is falling, the NAB analysts maintain. The recent price trends in metallurgical (coking) coal indicate the market was oversupplied early this year following a balanced market in 2014. Reflecting softer conditions the analysts expect further cuts to metallurgical coal production will be necessary, given sharp falls in prices.

Higher cost iron ore production is finally exiting the market but excess supply – Australian exports continued to increase in early 2015 – is still expected to limit any significant upward pressure on prices. While China remains the key market for global iron ore , the rate of growth has slowed considerably, the analysts observe. China’s domestic production of iron ore appears to be responding to weaker prices while stocks at the ports are also falling, reflecting weaker imports and slowing domestic production. While this appears to indicate supply has slowed more rapidly than demand, supporting the slight uptick in prices, the analysts note prices are still about 40% below a year earlier.

With the fall in iron ore prices UBS observes cost cutting has become the name of the game for producers, aided by lower energy prices and weak producer currencies. Major Australian projects are all forecasting C1 costs below US$20/wmt FOB for the second half of the year. The broker’s break-even analysis shows the price at which a company would need to re-evaluate its operations.

For example, Atlas Iron ((AGO)) suspended operations when the iron ore price fell to US$47/dmt CFR as it was losing US$15/t. Now, with the help of suppliers and contractors, Atlas Iron has lowered its break-even price to US$50/dmt CFR. UBS calculates the break-even price is now US$28-56/dmt CFR across producers versus US$45-107/dmt CFR in September 2014. Freight and foreign exchange have each contributed around US$5/t of this saving.
 

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