Commodities | Mar 07 2016
-Debt burden may force action from miners
-Issue with base metal inventories
-Zinc demand starting to improve
-Risk of tin supply cuts reversing
-Indonesia would add supply options
By Eva Brocklehurst
Metals And Miners
Miners are traditionally poor at self-regulating supply, Goldman Sachs observes. During four of the past five price downturns supply actually went up. The broker believes low commodity prices and low cash flows are increasing the debt burden on the sector. Debt as a percentage of sector value in 2016 is 27%, the highest this century. Hence, the greater debt burden may force more action on loss-making supply this time around.
Nevertheless, the focus is squarely on China. Given China's proportion of global supply of most major commodities has doubled since the last downturn, any significant action taken in that region will be important in bringing the markets back to balance, especially for coal and aluminium.
Goldman Sachs expects the rate of mine closures in China may increase this year, but ultimately supply-side restraint is not expected to be enough the balance the market. Hence, the broker believes commodity prices will remain under pressure. In particular there are downside risks to price envisaged for iron ore, copper and the coal complex, absent a recovery in demand.
Base Metals
Base metal prices did not keep up with iron ore and steel, which sustained small rallies after Chinese New Year. Steel and iron ore have adjusted to oversupply with sharp production cuts and few players in the supply chain have the working capital to hold much inventory. Macquarie suspects the malaise in base metals is caused by inventory levels.
With the exception of lead, which already had a rally ahead of the New Year based on inventory, the broker believes it will be hard for base metals to rally. Positive trends are forming but at the moment the market does not seem to be looking at a real shortage of refined metal. The broker will be looking for a draw down in zinc and nickel inventories in coming months, which should be supportive of prices through this year.
Zinc
After attending the International Zinc Association conference, Macquarie notes the tight market for concentrates continues. On the metal side the story is less comforting. There was no major annual term contract settled at the conference. Demand is not exciting the broker, although it appears to be better than this time in 2015, with improvements noted from both Europe and the US in the autumn.
Hence, Macquarie suspects recent price strength is likely to fade until there is real tightness in supply. The most positive aspect of the conference was that treatment charges in the concentrates market remain under pressure.
Given a closure of two exhausted mines, Macquarie continues to believe in an ultimate return to a deficit and the right signals over the next few months should produce a sustainable rally in the price. The broker maintains a forecast for prices to achieve US$1,900/t and US$2,050/t as averages for September and December quarters respectively.
Tin
The smallest base metal market has also been one of the best performers this year, Macquarie contends, although tin has slipped below the radar relative to zinc. Production cuts – China’s nine major producers reduced output in January by 17,000 tonnes – and low exchange inventories have meant prices have risen 12% in the year to date.
Indonesian supply has been disrupted as well. Still, supply is running strongly from Myanmar and global demand remains weak. Moreover, the broker suspects, with the market generally trading out of the cost curve, there is a risk that some of the supply cuts will be reversed.
Many of the supply reductions are easily reversible in a higher price environment. Hence, the recent price rally is not likely to be sustained. Liquidity remains an issue and speculators have had little interest in tin, although Macquarie observes money managers' net length has increased with the price rally and there are yet-to-be-answered questions regarding what is driving the rebound.
Indonesia
As the possibility emerges that Indonesia may reverse its ban on exports of unprocessed minerals, Morgan Stanley takes a look at the new risks to existing commodity trade flows. Resuming exports would help the country's weakened economy and boost tax revenue. Its key exports are bauxite, nickel, tin and copper.
The broker observes, as the country implemented the ban in January 2014 to force change, investment in capacity elsewhere was also slowing. A lack of incentives and the fact that China was obtaining supply elsewhere in the region — bauxite from Malaysia and nickel from the Philippines — meant Indonesia's goals of achieving increased investment appeared even more unlikely.
If exports return to pre-2014 levels Morgan Stanley suspects China would probably prefer Indonesia's bauxite and nickel-bearing laterites. Assuming no change to demand growth, and given the diversity of supply options, the broker expects downward pressure would build on global bauxite and nickel prices. However, actual downside is probably limited, Morgan Stanley adds, given the current lows in prices.
Find out why FNArena subscribers like the service so much: "Your Feedback (Thank You)" – Warning this story contains unashamedly positive feedback on the service provided.
