Commodities | Jan 16 2019
A glance through the latest expert views and predictions about commodities. Resources outlook; iron ore; and copper.
-CLSA prefers resource equities with exposure to commodities supported by Chinese policy
-Pull back in grade differentials has helped Australian iron producers
-China's scrap import restrictions likely to support refined copper demand in 2019
By Eva Brocklehurst
CLSA expects a rebound from the pessimism experienced in the resources sector in December. The broker is cautious, given the macro uncertainty, despite strong profitability across stocks. Quality is preferred: equities with value and strong balance sheets as well as exposure to commodities supported by Chinese policies, such as rare earths, aluminium and iron ore.
The broker has made three changes to recommendations after incorporating its first quarter commodity price deck, upgrading Alumina Ltd ((AWC)) to Buy from Outperform and downgrading Rio Tinto ((RIO)) and Fortescue Metals ((FMG)) to Outperform from Buy.
Base metal price forecasts are lowered by an average of -10% for 2019 to reflect the macro headwinds, weaker sentiment and lower spot prices. This is countered by modest near-term upgrades for bulk commodities.
CLSA flags the defensive characteristics of gold and aluminium and continues to like copper for the medium term. The broker believes market concerns about growth, both globally and in China, are overstated, although acknowledges markets are forward-looking. Global growth in 2020 is expected to be at the slowest pace since 2015.
Macquarie reviews the iron ore industry's cost curve and notes costs for delivered ore have changed little. The seaborne marginal cost is still set by the low-grade producers in India, Iran and Australia. The broker calculates that, at US$50/t, up to 90% of the market remains cash positive. Macquarie calculates an average break-even price of US$51/t for Fortescue Metals in 2018.
Of note, a pull back in grade price differentials in the December quarter occurred and a correction in China's steel industry margins has benefited Australian producers at the end of 2018.
Macquarie also expects Fortescue to move lower on the cost curve in 2019/20 as its product mix improves, with the proportion of higher grade fines rising to almost 25% once Eliwana reaches full production. The stock is trading at a significant discount to Macquarie's spot price valuation with significant upside potential at current commodity prices and exchange rates.
Shipping rates for Australian iron ore miners have also improved in December, the broker points out. December quarter is historically strong for Australian exports and buoyant iron ore prices continue to drive momentum in the major iron ore producing stocks. Prices now centre on US$73/t.
Credit Suisse expects prices may hold up at around US$70-$75/t during the current quarter, as China's steel output has been surprisingly strong and port stocks are depleted. Once steel mills cease re-stocking the price is expected to slide and the broker maintains a forecast for US$61/t in the second quarter of 2019.
Port traders appear to have aggressively bid for spot cargoes to replenish holdings. However, Credit Suisse notes not all grades have been resilient, as 65% iron grades remains at the lower end of its 2018 price range and China's 65% blast furnace's pellet premium has halved since October. In contrast, 58% grades are near 2018 peaks.
Macquarie assesses Rio Tinto is on track to hit 2018 production guidance. Meanwhile, the train derailment has had a greater impact on BHP's ((BHP)) iron ore shipments than previously expected. Macquarie cuts BHP's December quarter shipment forecasts by -13% and does not expect a recovery in FY19, forecasting shipments to come at the lower end of the guidance range.
The copper price has recovered from recent lows, and Macquarie observes it moving back towards US$6000/t. The broker highlights a tendency for copper to trade sideways for a period before a sudden move to a new level.
As long as the US/China trade conflict does not worsen, Macquarier suspects the next move should be upwards at some point. Demand conditions appear less optimistic than they were 12 months ago, as Chinese growth has slowed and vehicle & white goods sales data have shown consumer spending activity declined.
However, grid investment has returned to an upward trend in recent months. Macquarie maintains a view that a shift towards rising late-stage construction activity will benefit non-ferrous metals. The risky area of demand for copper, in the broker's opinion, is consumer products.
Supply is expected to slip slightly in 2019, with refined output growing at 2.0% as opposed to the 2.8% in 2018. As a result, Macquarie believes there will be a slight deficit in 2019 which could mean the market would remain flat, even if Chinese demand turns out to be somewhat lower or there are fewer disruptions to supply.
Morgan Stanley points out China's copper scrap imports fell by a third in 2018 and this helped lift demand growth for refined metal. The shortfall emanated from regulations that were introduced throughout the year.
The government has stated it intends to ban all solid waste imports from 2020 and copper will be most affected. Although disruptive, the broker estimates the net loss of imported copper units in 2018 was just -60,000t, since falling scrap imports were partly offset by processing elsewhere.
Over time, China is expected to expand offshore processing and raise its domestic recovery rates. The current low price for copper is expected to continue to hinder scrap collection and distribution globally.
Import restrictions can also be expected to drive increased investment in China in scrap collection and processing. All up, Morgan Stanley believes the extension of the import ban will support refined copper demand in 2019 and offset some slowdown in end-use demand.
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