Material Matters: Equities, Precious & Base Metals And Grains

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-Citi now bullish on metals equities
-Risks to resource dividends?
-Softer outlook for Oz gold producers
-Supply crunch lasting in nickel
-Relative tightness in copper
-Modest 2016 recovery in aluminium
 

By Eva Brocklehurst

Equities

Metals prices have been slammed in the past few weeks, affected by movements in FX, lower demand and deflation. Citi now believes resource sector stocks have overshot the downside and the broker moves back to a bullish six-month stance after being neutral earlier this year. The commodities team expects Chinese demand to remain under pressure in the September quarter, as China's economy is in transition and credit is tight. An improving real estate market and additional efforts to loosen monetary policy could yield benefits later this year and in early 2016, the broker contends, particularly for copper and some other base metals.

Nevertheless, in a weak global economic environment consumption is likely to be challenged, offsetting any boost to demand from lower prices. Citi finds it hard to envisage a strong reason for higher growth in commodity demand.

Goldman Sachs notes the fall in the Chinese equity market over the past two months has coincided with a 27% fall in the iron ore price and associated pull-back across Australian resource equities. The broker does not consider this correction presents a buying opportunity, yet. The risk/return is still considered to the downside. The broker considers FY16 may represent a base for mining profits but the potential of a strong recovery is not so assured. The benefits of cost cutting achieved by miners is expected to ultimately pass to customers in the form of lower commodity prices, as producers remain price takers at this point.

Goldman's analysts expect dividends across major companies will be maintained in the short to medium term through operating expenditure cuts and increased gearing and pay-out ratios but risks have increased, with the sector's pay-out ratio at 95% and potentially set to go higher. The broker's base case is that the sector will struggle to grow dividends materially on a multi-year view.

Precious Metals

Canaccord Genuity has revised forward pricing assumptions to capture the recent decline in gold prices. The broker downgrades estimates by 2.8%, 4.3% and 4.2% respectively for 2015, 2016 and 2017. The broker now expects 2015 prices to average US$1,185/oz, 2016 to be US$1,171/oz and 2017 to be US$1,183/oz. The outlook for Australian producers has also softened on weakening Australian dollar forecasts. The broker downgrades OceanaGold ((OGC)) to Hold from Buy, while Saracen Minerals ((SAR)) and St Barbara ((SBM)) are the brokers' top picks.

Citi notes eurozone risk has kept precious metals' prices within a tight range but US dollar strength will affect further downside pressure in the third quarter. The broker remains bearish on the short-term outlook for gold. Citi revises platinum the most among its precious metals coverage, adjusting price forecasts down 3-12% through to 2020. Platinum continues to trade at a discount to gold as oversupply pressures erode sentiment. Citi expects prices to struggle to stay above US$1,100/oz in the September quarter, especially as scrap levels rise. Palladium estimates have been reduced by 5-11% over 2015-17. Improving global supply from a low base in 2014 adds to price concerns although growing global vehicle demand has lifted prices this year.

Nickel

Citi believes price support will only be likely when London Metal Exchange nickel inventories begin to be drawn down on a sustained basis. While a supply crunch is taking longer to play out, Citi is positive on nickel prices on a six to twelve month basis as tightness in scrap and ferronickel finally rotates into a tightening of the LME market. The broker forecasts a US$6.33/lb price in 2015, US$8.22/lb in 2016 and US$10.43/lb in 2017. In contrast, Canaccord Genuity sharply downgrades estimates for nickel prices. New estimates are for US$6.00/lb in 2015, downgraded 25.0%, US$6.50/lb in 2016, downgraded 27.8%, and US$7.50/lb in 2017, downgraded 16.7%.

Copper

Citi expects mounting supply issues to maintain the relative tightness of the copper market in 2015. The broker expects further reductions to supply given persistent issues of ore grade and site maintenance problems in Chile. There are fewer copper projects in the pipeline globally, as copper prices are around 10% below those of a year ago. The broker expects the market will move into a deficit of around 109,000 tonnes in 2016.

Aluminium

Bullish projections for aluminium penetration in motor vehicles will not be enough to make inroads into the current surplus, Citi maintains. Strengthened emission regulations are driving the use of lighter weight materials, not sustained low fuel prices. Nevertheless, the broker considers demand expectations are optimistic, because of recycling and substitution via plastics. Citi expects LME prices to average US$1,720/tonne in the September quarter and US$1,770/t over 2015. The price outlook is expected to recover modestly next year with productions cuts most likely in the US and western Europe.

Grains

Oil seeds and grains rallied in June, Citi observes, as the threat of an El Nino event, worsening crop conditions and tighter balances led to heavy covering in a market that set a record for being net short in May. Despite this, the broker suspects confirmation of better weather in July could weigh on prices again.

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