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Material Matters: Outlook, Copper, Aluminium, Nickel, Iron Ore And Gold

Commodities | Apr 15 2015

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-Entry points emerging
-Copper bears back away
-Aluminium price to slump?
-Nickel crunch less likely
-Iron ore surplus key risk
-Mixed outlook for gold

By Eva Brocklehurst

Commodity Outlook

Citi suspects commodities may be reaching a short-term trough, despite soft markets amidst lacklustre growth and robust increases in supply. Four main factors that are weighing on commodity performance could be creating entry points into the asset class and become drivers of future growth. This could be as early as the end of this year.

The factors include loose monetary policies which could provide stimuli to restore macro growth. The analysts suspect that by the September quarter, the habit of revising expected global growth down might be reversed. Another factor is the US Federal Reserve’s recognition of US dollar strength, which should slow the pace of rate hikes and in turn moderate the pace of US dollar price appreciation.

Also, sub US$90 oil prices should remain structurally positive for most consuming countries. Lastly, supply cuts are coming in response to low prices, such as in oil production, interruptions to copper output and grain planting. This should shorten the commodity trough which is the dominating feature at present, in the analysts’ view. Citi has downgraded both base and precious metal forecasts, partly because of US dollar strength. The broker still holds a bullish view on base metals and prefers them to bulks, while being relatively neutral on gold.

Copper

The copper industry is gathering for the CESCO conference in Santiago this week in the midst of another year of lower prices compared with the year before. Macquarie is now calling a balanced market or minor surpluses in the years ahead. Given the event takes place in the number one copper mining country, Chile, the broker observes the miners will be mourning the weak price of the metal. Still, the broker suspects the bears have been sent packing for now, as widespread fears the price would drop to US$5,000/t or less did not come to fruition in March.

Supply outages have also increased, with Macquarie twice raising its disruption allowance after recent flash floods led to numerous shutdowns in Chile’s prolific copper producing region. The overall picture is that year to date, copper supply outages are annualising at 6.0%, the highest rate seen since 2009. As a result, for the first time in many years there is no looming surplus for copper on the horizon.

Weighing on the broker’s more balanced market outlook for copper in 2015 is further disappointment in Chinese demand. Macquarie has pulled back expectations to growth of 4.6% in 2015 for refined copper in China, with ongoing evidence of weakness in the construction sector. In contrast, robust demand from the power and infrastructure sector, means a pick up is expected from this month onward.

Aluminium

UBS expects the physical availability of aluminium will lift in 2015 for several reasons. China’s exports are surging, London Metal Exchange (LME) reforms are being implemented and US interest rates are on the rise. This may result in the vast inventory that has until now been locked up competing with primary production. Hence, the broker expects both lower premia and LME prices. UBS looks for the aggregate pricing of aluminium to fall below US90c/lb in 2015, a significant decline from current levels around US$1.00/lb. Aluminium’s headwinds and structural issues make it among the broker’s least preferred commodity exposures.

Nickel

UBS has changed its outlook regarding the forecast supply crunch for nickel. The Indonesian export ban was expected to tighten the market but this has been delayed. A moderation in stainless steel demand late last year and a surge in ore exports from The Philippines are the reasons. The basis for the prediction was a 2-3 year hiatus in exports from Indonesia. With the building of downstream capacity well underway the risk to this crunch thesis is that the market fails to generate sufficient tension before Indonesia begins ramping up its exports of nickel products.

The crunch window may be closing but UBS is not abandoning its expectations that China will still turn to alternative nickel products and the trade will tighten. Nickel is also exposed to a surprise in economic growth in Europe. The broker now forecasts a fleeting price surge to US$8.25/lb in the first half of 2016.

Citi has reduced forecasts but retains expectations of an erosion in nickel oversupply. The broker concedes the Indonesian ban did not lead to the drop in inventories or the price spike that was expected in 2014 and LME inventory is now the key metric. The broker expects the relatively weak Australian dollar will provide relief for Australian exporters. The relevant equities appear to be good value to the broker and multi-metal miner Independence Group ((IGO)) is upgraded to Buy from Neutral, with the Long nickel mine and its 30% equity in Tropicana (gold) the main drives of value. Citi also rates key Australian nickel stocks Sirius Resources ((SIR)) and Western Areas ((WSA)) as Buys.

Iron Ore

UBS observes many market participants were keen on describing the growth in Chinese demand for steel and iron ore as a “super cycle”, but the growth is now likely to be flat as the decade ends and a substantial building boom is absorbed. Against this backdrop, cheap iron ore supply will keep entering the market and drive ever higher surpluses. UBS now suspects a “super down cycle” is beckoning for iron ore. Markets are expected to be in significant surplus out to 2018. A persistent market surplus presents the largest risk to long-term iron ore prices.

The broker’s best estimate of the price required to balance seaborne supply and demand over the medium to longer term is US$55/t. Supply needs to do the heavy lifting to balance the market but the broker observes that cost deflation, producer FX tailwinds, loss tolerance and closure costs suggest producers will hang on longer than the economics dictate.

Citi is even more bearish, expecting prices of US$37/t in the second half of this year and US$40/t to the end of 2018. The broker forecasts incremental export production growth of over 110mt in 2015, of which 68mt alone will come from Rio Tinto ((RIO)). The broker has downgraded key stocks in the iron ore trade, BHP Billiton ((BHP)) and Rio Tinto to Neutral from Buy. Diversity had previously saved these stocks but now the broker is bearish on the big earnings drivers – iron ore, coking coal and oil. The broker has also ceased to provide a target price for both Atlas Iron ((AGO)), in recognition of its precarious financial position, and high cost producer, BC Iron ((BCI)). Both these stocks are now Neutral rated. Mt Gibson ((MGX)), also rated Neutral, is considered the best placed of the iron ore juniors, given is cash holdings and with Koolan Island now closed.

Gold

Citi has trimmed gold price forecasts to 2020, as fundamental tightness is outweighed by US dollar strength and macro investment headwinds. In the longer term the broker is relatively neutral on gold. The broker expects stable mine production will counteract reductions in price-led recycle rates, while Chinese buying may not be enough to instigate improvements in prices. Newcrest Mining ((NCM)) is downgraded to Neutral from Buy after a strong re-rating in its share price.
 

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