Material Matters: Coal, Steel, Metals & Oil

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A glance through the latest expert views and predictions about commodities. Coal; steel; metals and oil.

-Chinese coal prices diverge versus the seaborne market
-Alternative sources of coking coal may have covered Oz shortfall
-Steel demand in China expected to slow in the second half of 2017
-Deutsche Bank retains positive outlook for base metals
-Deutsche Bank scales back medium-term outlook for oil prices
 

By Eva Brocklehurst

Coal

Australian GDP in the June quarter may be weak because of the impact of Cyclone Debbie on economic activity. Yet, Commonwealth Bank analysts suggest that concerns about the large drop in coal export volumes in April may be misplaced. The reason is that production is what matters to GDP, not exports.

The cyclone hit the Queensland coast late in March and three of the four main rail networks were back up and running by mid April, albeit at reduced capacity. The fourth, Goonyella, was up and running at reduced capacity on April 26. This suggests that the economic impacts will largely be limited to the June quarter.

While, the analysts suggest that export volumes will be around 1.2% lower than otherwise, some of the decline will be offset by an increase in inventories, as coal production was less affected than actual exports. Coal accounts for around 12% of Australia's total exports yet the net drag on June quarter GDP is expected to be less than 0.13 percentage points. In contrast, Cyclone Yasi in 2011 is estimated to have subtracted at least 0.5 percentage points from growth.

Credit Suisse suspects, given the coking (metallurgical) coal price slipped in May-June despite strong Chinese imports and weaker Australian exports, that additional supply from other sources must have covered the shortfall. New supply appears to be primarily from Mongolia and the US. Credit Suisse suspects that US coal companies, crippled by Chapter 11 insolvencies in the first half of FY16, have been restructured and are now back in the market, lifting output.

Credit Suisse also envisages demand for coking coal will slow steeply in China. In 2018 stimulus for political reasons may not be required and, therefore, completion of current projects means steel demand will fall. Credit Suisse does not forecast any new stimulus and, instead, expects China to resume its long-term project of re-balancing the economy. Without infrastructure stimulus, the broker believes Chinese steel demand may fall steeply toward 650mt by 2020.

Macquarie observes coal prices in China versus on the seaborne market have diverged over the past month. Also, thermal coal prices started to rise early in June while coking coal prices eased. The broker attributes the rise in thermal coal prices to a sharp drop in inventories in China, which forced a re-stocking before the peak summer power consumption period. In contrast, coking coal prices continued to drop in June because of softness in the steel price.

Supply growth for coking coal has been slower than thermal, and the broker suspects the environmental inspections in China's Shanxi province have affected production of coking coal in that region. The falling price also discourages miners from lifting production.

In the seaborne coking coal market, meanwhile, buying interest from China has risen, as prices are now more than US$20/t cheaper than domestic annual contract prices and, if the domestic coking coal price holds up, Macquarie suggests demand for seaborne coking coal should rise.

In contrast, in the medium term, the broker believes Chinese thermal coal supply will grow, and demand fade, as will the company's appetite for imports. Hence, seaborne thermal coal prices are expected to follow Chinese thermal coal prices lower.

Steel

Macquarie's survey of steel mills and traders suggests opinions on the outlook for steel and iron ore have diverged. Mills and traders are more optimistic about steel prices and margins while iron ore traders are increasingly negative. Nevertheless, the broker finds a little more appetite for re-stocking of raw materials which could support iron ore and coking coal prices after recent falls.

Steel demand in China is holding up, especially for infrastructure and construction, which the broker suggests goes against the long-held expectation that demand would fade into the summer months. This bodes well for margins in the near term, although Macquarie expects a slowdown in demand in the second half of the year as investment in infrastructure and property fade.

Meanwhile, Chinese steel markets are less focused on export orders. As domestic demand slows in the second half and prices ease exports are expected to make a recovery.

Metals

Deutsche Bank remains positive on base metals, despite downgrading forecasts for nickel, zinc, and copper. Nickel price forecasts are trimmed around -6% but the broker's year-end target for nickel prices is 22% above the three-month forward price, as demand for stainless steel remain strong.

The broker remains convinced of longer-term deficits in copper after 2018, but is concerned that the metal may be in a holding pattern at present because of weakness in demand for grid investment and automobile manufacturing.

Zinc remains one of the broker's preferred metal commodities, given constrained mine supply over the next couple of years. Although demand indicators for China remain subdued, infrastructure investment and consumer exports are improving and this suggests the worst may have passed for the metal if automobile output can stabilise.

The broker raises aluminium forecasts and envisages prices will be supported by supply-side reform, environmental initiatives and rising raw material prices in China. Deutsche Bank remains neutral on gold.

Mining sector earnings are downgraded by -3-4% but valuations remain undemanding, in the broker's opinion, given the recent sell-off in the stocks. The broker upgrades Alumina Ltd ((AWC)) to Hold and downgrades Northern Star Resources ((NST)) to Sell.

Ord Minnett also updates long-term assumptions for copper, aluminium and the Australian dollar, now US$2.85/lb, US$0.85/lb and US$0.76 respectively. The revisions equate to reductions of around -15% to estimates for the metals and -5% for the currency.

Oil

Deutsche Bank suggests, despite the extension of OPEC oil production cuts, the likelihood of reaching the five-year average in inventories by the end of the year is diminished, without a deepening of the cuts. The broker envisages a shrinking market deficit this year and a return to surplus in 2018 on upgraded US supply growth and higher output from Libya and Nigeria. The broker scales back medium-term forecast by -15% to US$54-56/bbl for Brent in 2018-19.
 

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