Commodities | Aug 01 2017
A glance through the latest expert views and predictions about commodities. Thermal coal; oil; copper scrap.
-Disruptions ahead for China's thermal coal markets?
-Oil price not factoring in increased potential for sanctions
-China to limit category 7 copper scrap imports from late 2018
By Eva Brocklehurst
Coal
Shifting government policy in China may herald further disruption to international thermal coal markets, ANZ researchers suggest. As a result, they believe the downside risks to prices is increasingly significant over the next few months. Constraints on key producing provinces signal production may struggle to pick up as the country enters its normal peak heating season.
Moreover, recent floods in southern China have forced the closure of a significant amount of hydro power capacity, placing more reliance on coal-fired power. These short-term supply issues continue to support strong import demand for thermal coal, but this could be unwound by the announcement that coal imports will be banned from small tier-2 ports in China.
The analysts suggests there are signs the recent tightness in the seaborne market, which pushed thermal coal prices up 20% over the past two months, may be coming to an end. Major ports can still import coal in China but have been warned they could face delays in getting cargoes cleared by authorities because of increased coal quality inspection times.
This suggests that importers will face higher costs to purchase coal from the international market and the arbitrage will need to widen to allow imports to grow in the second half of the year. The analysts suggest the latest policy changes significantly increase the risk of Asian prices weakening over the next 2-3 months.
On the other hand, Macquarie observes the port restrictions appear to be having little impact on the appetite for coal imports among Chinese buyers and, given China's domestic prices are above the government's targeted range, imports are expected to be allowed to continue unchecked until coal prices ease again when power demand passes its seasonally strong period.
Macquarie points out the slowing of thermal power generation growth in China since the New Year has been quite mild while coal production has continued to lift in response to higher prices and government encouragement.
Recent strength in the coal price has been led by demand rather than influenced by any major supply issues and the broker expects prices to fade naturally as peak demand fades into September. Thermal coal prices are expected to fall back into the government's targeted range by late in the September quarter and, as this occurs, the broker expects a renewed clamping down on coal imports.
Oil
July has turned out to be a month of sanctions, including pending and recent sanctions against Iran, North Korea, Russia and Venezuela, yet Citi finds no sign of a risk premium for disruption in oil prices. In the case of Venezuela, US sanctions under consideration could eventually prohibit Venezuelan exports to the US and payments for Venezuelan crude in US dollars.
Given the position President Trump has taken, Citi believes it worth considering the potential extent and consequences of deep sanctions against Venezuelan oil production.
Added to this, the broker continues to be wary about the durability of the former administration's deal with Iran. While this has survived two reviews so far, President Trump continues to be highly critical of the legislation. The potential introduction of additional sanctions on Iran also raises the risk that under increased pressure, Tehran walks from the deal.
At a minimum, new sanctions are expected to be imposed on individuals, following a traditional path, whether in respect of Venezuela, Iran or Russia. Moreover, the severing of diplomatic ties between Qatar and Saudi Arabia, UAE, Bahrain and Egypt clearly stepped up the disruptions risk, given the five countries produced around 18% of the world's crude during June.
On the other side of the coin, the main surprise to the 2017 crude oil market has been the return of Libya and Nigeria and none of the signatories to the OPEC/non-OPEC agreement to production reductions believed this return of output was on the cards.
Their return, along with growth in US shale and other light sweet crude, have affected not just supply but the quality balances as well, Citi observes. While the prospects exist for Libyan and Nigerian production to hold steady there is also a chance that total production will slip rather than rise.
Citi notes, after surprising calm earlier in the year, crude oil price volatility has increased significantly, and suggests investors should not interpret this as a sign of quiet trading over the northern summer and muted price moves ahead.
Instead, the broker believes this is an opportunity to add to long exposures with cheap options, especially as global oil inventories continue to tighten and geopolitics comes to the fore again. The implied volatility can re-price sharply higher as supply disruptions rise meaningfully or if the bearish market sentiment reverses quickly.
Copper
The copper price jumped 4% in response to the Chinese government's notice that category 7 copper scrap imports will be limited from late 2018. These materials include motors, machine parts and sheathed wiring that need disassembling. Companies that want to import category 7 must in future own environmentally-compliant disassembling yards. Imports of ready-for-use scrap and brass can continue.
Credit Suisse calculates that copper supply and demand should be largely unaffected by this development, so the price hike appears overdone. If 50% of category 7 imports were affected by the restriction this would represent 4% of China's copper supply.
However, the broker observes the change is likely to mean faster migration of Chinese disassembling yards to other Southeast Asian countries over the next 18 months. Chinese consultancy BGRIMM has pointed out that Chinese scrap merchants have been leaving China because of wage inflation and environmental pressure.
Migration of scrap disassembling yards offshore and increased domestic scrap generation are likely to see the percentage of imports affected shrink by 2019, when the policy is to be implemented.
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