Material Matters: Oil, Alumina & Base Metals

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A glance through the latest expert views and predictions about commodities. Oil; alumina & aluminium; and base metal miners.

-Are deflationary forces gathering in oil?
-Few reasons for a sustained increase in alumina prices
-US remains shy of meeting aluminium needs
-Despite pressure on base metals, Australian miners likely to outperform
 

By Eva Brocklehurst

Oil

Deflationary forces may be gathering in oil, despite the strength in the price. Morgan Stanley reviews the scope for oil prices to trend down over the medium term and notes some weakness in demand is developing while observable draws on inventory have been hard to find.

However, there are large downside risks to supply from Iran and Venezuela and the market is likely to be undersupplied by around 1.1mb/d by the September quarter. By the fourth quarter IMO 2020 regulation should boost refinery runs and the broker expects this will keep the oil market tight.

Alumina & Aluminium

Amid continued outages in China, Norsk Hydro has announced that the production embargo against its Alunorte alumina refinery has been lifted and it will rapidly increase operations to full capacity. Norsk Hydro has also announced a decision to re-start its partly-curtailed Albra aluminium smelter. Full production is expected in the second half of 2019.

Seaborne Australian alumina prices were set back after this announcement but the re-start of Albra and growing buyer interest from China are expected to support prices at elevated levels for the next two months.

However, the key issue is whether disruptions in Shanxi could continue, JP Morgan assesses. Other alumina capacity is also at risk in China, the broker points out, with disruptions caused by shortages of bauxite or technology issues. Still, outages at this stage in Shanxi are not expected to last longer than 5-6 weeks. Hence, JP Morgan does not find any strong reasons for a sustained increase in alumina prices.

Meanwhile, aluminium, as with other base metal markets, will remain receptive to developments in the US/China trade negotiations. The US administration has lifted the 10% tariff on primary aluminium imports from Canada into the US. Regardless, the US will be shy of meeting its requirements, JP Morgan calculates. US domestic aluminium stocks are quite low, meaning there is no longer a buffer when it comes to reduced imports.

Despite the exemption for Canada, marginal tonnage to fill the supply gap is still likely to come from non tariff-exempt imports. The broker suggests the reduced non-exempt supply gap warrants some discount in forward premiums as most risks are skewed quite steeply to the downside. The other three countries, besides Canada, that are exempt include Australia, Argentina and Mexico. Mexico is a small operator and Argentina's exemption comes with a quota.

While Australian exports to the US have risen, now around 3.5 times the level of a year ago, they remain far from potential, were Australian producers to aggressively divert exports. The broker addresses the question of why there has not been a larger amount of Australian aluminium being diverted to the US, suggesting this stems from long-standing contracts that Australian producers have with Asian consumers.

Over the last three years Australia has exported more than 50% of its aluminium by value to Japan and South Korea and another 30% to Taiwan, Thailand, Vietnam and Indonesia. There appears to be little attraction in the US market for Australian producers, as yet.

Base Metal Miners

Macquarie notes the US/China trade war has put pressure on base metal prices, with copper and nickel down -8-9% since April. Lead, tin and zinc prices are all down -9% and only cobalt has bucked the trend, rising 12%, largely on the back of concerns about supply from the Democratic Republic of the Congo.

For Australian base metal miners, there are a number of catalysts that should drive outperformance and high margins insulate the miners as well. The broker considers Sandfire Resources ((SFR)), OZ Minerals ((OZL)) and Independence Group ((IGO)) offer the best protection on near-term downside risks. OZ Minerals remains the broker's preferred stock in the grouping, with several material announcements due this year, culminating with the commissioning of the Carrapateena project.

Meanwhile, Western Areas ((WSA)) offers the most significant earnings leverage to a resolution of the trade conflict. The broker envisages limited risk to the near-term production outlook while the development of Cosmos is reliant on an assumed recovery in nickel prices. The poor performance at Nifty has weighed heavily on Metals X ((MLX)) and Macquarie expects a re-start will be a significant catalyst. Similarly, securing funding for Sunrise will be the key catalyst for Clean TeQ ((CLQ)).

The downside risk to earnings forecasts is significant for high-cost miners. For Panoramic Resources ((PAN)) the downside risk is over -50% in FY20/21 although a successful ramp up of Savannah will reduce the earnings risk in FY21. A similar downside scenario exists for both Western Areas and Metals X, in the broker's estimates.

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