Material Matters: Thermal Coal, Battery Minerals

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A glance through the latest expert views and predictions about commodities: energy & metals, thermal coal; battery minerals; nickel; and alumina

-As mobility improves demand for energy will increase and spending on durable goods will soften
-Gradual decline in thermal coal prices expected, back to cost support by 2023
-Australian producers increasingly favoured for lithium supply
-Rise in nickel demand for stainless production turns market to deficit
-Alumina needs supply disruptions to keep pace with aluminium price
 

By Eva Brocklehurst

Energy Versus Metals

Morgan Stanley assesses the outlook for commodities favours energy over metals, a reversal of the relative performance since the outbreak of coronavirus. Metals have outperformed energy commodities as energy demand suffered considerably from a decline in mobility.

A surge in durable goods expenditure meant metals demand on the other hand was more resilient. As mobility picks up, spending on durables is softening and the broker expects when the world returns to normal this will continue.

As the under-supply ends in 2022, Morgan Stanley expects oil prices will need to rise to a level where demand erosion kicks in. On the other hand metals are in a period of supply recovery and now trading above incentive price levels, showing signs of under-investment.

Over the medium term the outlook is different, as shareholder pressure has already led to a sharp decline in investment in oil & gas. Moreover, in the longer term several metals will need to pay a critical role in the energy transition and this transition will eventually become a demand headwind for energy consumption.

Thermal Coal

Morgan Stanley emphasises the current elevated price for thermal coal is not the new normal, although it will take a while for the tightness in the market to unwind. The broker envisages a gradual decline back to cost support at US$75/t by 2023.

Power demand in China and constrained domestic supply is squeezing the coal market amid seaborne supply disruptions. Furthermore, demand from north-east Asia for the summer has pushed the Newcastle thermal benchmark to a 10-year high of US$135/t. Supply in the high energy segment is particularly tight.

Morgan Stanley expects it will take time for both China's domestic supply and seaborne supply to catch up with demand. At the current 70% premium the washing of high-ash coal has also become attractive. The broker expects modest surpluses in 2022 and beyond.

Seaborne supply is expected to gradually contract but the market remains sizeable, supported by new power plants in developing parts of Asia. Seaborne demand is expected to fall on average by -1% per annum during the 2020s.

This will be mainly due to a -3% fall in demand in the Atlantic basin with a shift from China in Northeast Asia to developing Asia and the Pacific basin. The main import growth markets are Vietnam, The Philippines, Pakistan and Bangladesh.

Nevertheless, the broker points out the rapid fall in renewable capital costs could put planned capacity additions in Asia at risk. This has played out in Vietnam already while plans for 10 coal-fired plants with a cumulative 6GW were recently cancelled in Bangladesh.

Battery Minerals

Macquarie has raised forecasts for battery materials demand by 13-17% over 2021-23 amid policy tailwinds and lower costs. As a result lithium carbonate and hydroxide price forecasts are raised by 6-13% for 2021-25 and spodumene prices lifted 7-30%. Spodumene prices have reached US$690/t and the price differential between lithium hydroxide and lithium carbonate has also widened.

The broker reports downstream enquiries for lithium hydroxide have increased in China and switches its preference to to Australian-based production, with IGO Ltd ((IGO)) and Pilbara Minerals ((PLS)) preferred over Orocobre ((ORE)) and Galaxy Resources ((GXY)) ahead of their proposed merger.

Credit Suisse agrees geopolitical trends towards supply chain security favour Australian producers, particularly Pilbara Minerals. Yet the broker believes it would take "modelling gymnastics" to justify valuations beyond the current share prices. Longer term projects and expansions remain at the tentative stage.

The broker incorporates some additional price upside from uncontracted spodumene volumes in a tight market amid merger synergies for Orocobre/Galaxy Resources and upside potential for Pilbara Minerals.

In graphite, Syrah Resources ((SYR)) is approaching ramp-up which if successful could mean a re-rating, Credit Suisse asserts.

Meanwhile, on the battery theme, Audi has announced it will introduce its last internal combustion engine (ICE) vehicle in 2026. Macquarie believes this is part of the company's preparation for the upcoming Euro 7 emissions standards that could be implemented as early as 2025.

The broker suspects other governments may follow suit, with most major car manufacturers having already set dates for cessation of ICE production, albeit commencing from 2030.

Nickel

The nickel market swung to a large deficit in the first half of 2021 because of growth in demand and slower than expected supply. Macquarie estimates, in the first half, nickel consumption rose by 21.4% while supply grew 6.6%, suggesting a deficit of 76,000t of nickel, equivalent to 5.5% of consumption.

This is because a significant draw-down on stocks. The rise in demand reflects a large recovery in stainless steel production globally and a more than doubling of demand from the electric vehicle market.

Oversupply is still expected to emerge because of a major increase in Indonesian capacity, with Macquarie noting there are over 2mtpa in NPI (nickel pig iron) projects likely to be in place by 2023. The broker suspects ore supply constraints could mean this capacity will not be needed, rendering obsolete the proposals by the Indonesian government to limit new project construction.

Alumina

The alumina price has been struggling to keep pace with aluminium, and Macquarie notes the price ratio is at its lowest since the fourth quarter of 2006. A surplus in the alumina market outside of China has increased, as import demand from within China has been affected by higher freight rates.

China's domestic supply has also grown strongly. Yet refining capacity continues to be added globally and because of a lack of capacity constraint the whole industry is expected to remain in surplus over the next few years.

In China the broker calculates1.6-2mtpa of new capacity will be added each year from 2021 to 2023. This year, supply growth reflected not just new projects but also re-started capacity.

Macquarie points out China has been the market of last resort for seaborne supply of alumina and global production is recovered from pandemic-related cuts. For prices to go much higher the market needs some disruptions.

There has been some discussion on constraining alumina capacity in China yet the country is a net importer, so there is still some room to domestic capacity to grow.

Potential risks to supply could come from environmental policy, as alumina does not emit as much carbon as aluminium but it does still pollute, and ore export restrictions from major suppliers if they were to encourage local refining/smelting investment.

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