Commodities | Feb 09 2017
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A glance through the latest expert views and predictions about commodities. China and coal; ASX gold sector; outlook for energy sector; iron ore prices.
-Re-introduction of China's 276 work-days rule may underpin coking coal
-Rising oil price supports a better outlook for energy stocks: Deutsche Bank
-More growth than investors allow for in Woodside: Morgan Stanley
-Iron ore price likely to incentivise additional supply
By Eva Brocklehurst
The question of whether the Chinese government will re-impose the 276 work-days rule for Chinese coal mines is an important one for coking coal prices, Credit Suisse attests. Prime hard coking coal has fallen to around US$170/t, around US$35/t below Tangshan in price parity terms. Stronger steel production, as China enters its spring construction season, and the work-days rule being imposed at the end of March, are two factors that may help the price.
The thermal coal price is not yet in the government's target range, having hovered close to RMB600/t since the start of the year. For China to impose the 276 work days rule, the broker expects thermal coal would need to enter its targeted price range which is believed to be RMB500-570/t FOB.
Thermal coal is not yet abundant in China, with Credit Suisse noting stocks at the port in Guangzhou were depleted to 900,000 tonnes in the first week of February, the lowest level in the broker's eight years of recording the data.
The ASX gold sector has reported strong production in the December quarter, leading the way on cost improvements with 75% of miners, overall, beating Deutsche Bank's forecasts. The broker notes the sector has increased 12% in the last month, which compares with the US dollar gold price being up 4% and the Australian gold price being flat.
The best performing equities were St Barbara ((SBM)), Newcrest Mining ((NCM)) and Regis Resources ((RRL)). The broker expects the sector to be focused on organic growth and exploration over the next three months. Deutsche Bank updates its models following the December quarter production reports, downgrading Evolution Mining ((EVN)) and OceanaGold ((OGC)) to Hold and Regis Resources to Sell on valuation.
Deutsche Bank has become more constructive for the near-term outlook in Australian energy coverage, supported in its view by a much firmer and rising oil price. In 2017 the broker expects demand to outstrip supply on forecast, which underpins a forecast for US$55/bbl Brent oil for 2017, as excess inventory is a gradually depleted. The degree of adherence to OPEC's production cuts remains the key swing factor.
Longer term, new production is likely to be necessary from higher-cost regions and a price signal will be required for such projects to proceed. While spot LNG markets have recovered in recent months from stronger demand, the broker expects a medium-term oversupply as the build up in new LNG capacity accelerates.
The broker's top pick in the sector remain Oil Search ((OSH)) because of its high quality assets. Santos ((STO)) also features in the broker's preferred exposure, with its exposure to PNG LNG and strong leverage to a rising oil price. The broker also likes Caltex ((CTX)), which it believes is currently pricing in unrealistically low expectations.
Morgan Stanley believes there is more growth than investors allow for in Woodside Petroleum ((WPL)). The growth plans that are underway are likely to exceed expectations over time. The broker notes the company's low-cost and low-capex LNG assets have enabled it to re-position its portfolio over the past 12 months. These projects should drive production and cash flows from the beginning of the next decade. Production is set to grow to 96.1mmboe in 2018 and 100mmboe by 2019. This should lead to higher operational earnings (EBITDA).
The projects become key drivers of value over the next 12 months, in the broker's view, as the market is applying little value to them. Capital expenditure is expected to be stable, meaning free cash generation will improve. There is also spare debt capacity of over US$1bn in 2018, providing potential for capital management and this should become a focal point for investors in the latter half of this year.
Moreover, the broker believes the company's M&A strategy over 2016 was right and expects Woodside will focus on oil opportunities outside of Australia that are either producing or have near-term development potential. Morgan Stanley upgrades its valuation for Senegal, Scarborough, Myanmar and North West Shelf backfill. The broker has an Overweight rating and $40.00 target.
Ord Minnett observes the drivers of the recent iron ore price rally to US$80/t appear to be a combination of Chinese demand, solid consumption in the rest of the world as China reduces steel exports, and relatively flat supply. The broker expects tight conditions to persist through the first half of FY17 but the price will eventually provide incentives for additional supply to come on line, and this could remove some of the current pricing tension.
Ord Minnett raises its 2017 forecast for iron ore to US$73/t but still expects a downward trend towards the year-end as supply grows. Overall, the broker expects major miners to add 71mt in 2017, with global demand growth of 43mt expected. While viewing the market as broadly balanced, the broker acknowledges a risk in the growth in non-traditional supply, with the incentive of higher prices.
Macquarie observes iron ore is the only steel-making ingredient for which prices are still holding up, as coking coal, manganese and steel scrap prices have all weakened from recent peaks. The broker expects prices will ease for iron ore now that the Chinese new year holidays are over, as supply is clearly abundant. Steel mills are expected to pressure iron ore sellers, despite the traditional post Chinese New Year pick up in steel output and demand.
Full year Chinese trade data shows total iron ore imports rose 7.5% in January year on year, while the broker estimates iron ore consumption rose by less than 1% last year. Indian iron ore exports also show the biggest response to higher prices, Macquarie observes, aided by the removal of low-grade export taxes and export bans last year.
While the Indian government has maintained export taxes of 30% on fines above a 58% iron grade in the February budget, the broker envisages India could still export 30m tonnes or more of iron ore at current prices.
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