Material Matters: Iron Ore, Coal And Chrome

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A glance through the latest expert views and predictions about commodities. Iron ore; gold; alumina; metallurgical coal; and chrome.

-Tight supply/demand in iron ore could mean prices remain elevated
-Gold prices could stay higher for longer
-As inventory rises in China downside risk emerges for alumina
-Is a bottom finally emerging for coking coal?
-High chance of amount a market deficit in chrome
 

By Eva Brocklehurst

Iron Ore

Iron ore prices at spot have been just below US$130/dmt and have averaged US$96/dmt over the year to date. Why? On the demand side, there is a strong economic recovery in China, which has meant crude steel output has risen, and on the supply side there have been disruptions to production in Brazil and South Africa.

Economic stimulus in China is fuelling steel demand and UBS also notes vessel queues outside of China are growing. Extended customs checks related to the pandemic have materially slowed offloading.

This explains low port inventory and higher prices. Ship loadings are expected to increase in August-September and may weigh on futures prices. China is responsible for more than 50% of global crude steel output and makes up around 75% of seaborne iron ore demand.

UBS also observes the correlation between iron ore prices and the shares of the bellwether producer, Brazil's Vale, have broken down temporarily. The market has assigned limited upside to earnings drivers which are temporary, such as Chinese stimulus and supply disruptions.

UBS disagrees with the view that that Vale has structurally de-rated following the dam breach at Brumadinho. In the second half of 2022 Vale is expected to benefit from higher volume sales and temporary weakness in freight rates when the Chinese vessel queues ease, which would add capacity to the seaborne market.

UBS believes current prices are unsustainable over the medium to longer term but the tight supply/demand situation could mean prices remain elevated for some time. The broker lifts 2020 price forecasts to US$98/dmt and adds US$5/t to the forward curve out to 2023.

Gold

UBS has re-jigged gold price forecasts, expecting these to stay higher for longer. For 2021 the broker now expects US$2100/oz and for 2022, US$2000/oz. This drives a substantial lift to the broker's net profit forecasts for the sector.

At present, the broker's valuations are based on a US$1900/oz price and no ratings have been changed. Most preferred stocks are Newcrest Mining ((NCM)), Saracen Mineral Holdings ((SAR)), Regis Resources ((RRL)) and OceanaGold ((OGC)), in that order.

Production growth is expected across most of the broker's coverage with Saracen the strongest and Newcrest perceived to be in peak production but with a growth path from development of both Red Chris and Havieron. Cost inflation is also likely and some of this is discretionary. As the gold price lifts managements often decide to exploit lower grade ore that may have been uneconomic previously.

Alumina

Output at the Norsk Hydro Alunorte refinery has been reduced to 35-45% capacity as a result of pipeline maintenance. This latest outage brings the alumina market ex-China temporarily into balance. As a result, Morgan Stanley points out the price has risen to cut off the flow of exports and preserve the supply outside of China. This is likely to then drive China's domestic price higher.

Morgan Stanley envisages further upside for the alumina price FOB Australia, which has already risen to US$280/t, with the possibility to extend beyond US$300/t. Once production is restored at Alunorte prices are likely to return to the mid US$200/t region.

Fundamentals continue to suggest to the broker a more bearish price outlook and, as visible inventory rises in China, there is downside risk. Still, a weak US dollar, stockpiling and speculative interest should mean the price trades well above production costs.

Metallurgical Coal

Is a bottom emerging for coking (metallurgical) coal? Prices have been depressed since April as a result of the pandemic which has affected manufacturing and negatively impacted demand. UBS believes further downside is unlikely though, as current prices put 23% of seaborne supply out of the money. Moreover supply restraint is being exercised along with a number of major mine outages.

The broker estimates seaborne supply will contract -8% in 2020 and just outpace the -7% decline forecast for demand. While China's economic recovery from the pandemic has supported the iron ore price, the country relies less on the seaborne market for metallurgical coal. Outside of China, production is improving but it is not expected to return to pre-pandemic levels until 2023.

However, steel production run-rates should lift and provide incentives for higher cost supply to re-enter the market. UBS notes Australia makes up around 58% of seaborne supply and Queensland exports were down -20% in July. Anglo-American has lowered 2020 guidance and BHP Group ((BHP)) has also indicated a small decline in production.

While less significant for the Asian market, US exports are also down -36% in the first half of the year. In contrast, China's domestic production has rebounded along with Mongolian imports. UBS envisages upside to spot hard coking coal prices and potential to reach US$140/t by the end of 2020.

Chrome

Macquarie points out ferrochrome is a key ingredient in stainless steel production and this accounts for over 80% of its use. With no domestic chromium ore production in China this should have been one of the commodities that benefited from a recovery in that country's economic and industrial production.

Moreover, virtual closure of the South African industry in April because of the pandemic would have greatly reduced supplies on the market. South Africa accounts for around 60% of world supply.

Yet, over the past couple of months Macquarie notes there has been a big fall, and chrome ore prices now stand at US$133/t, the same level as January and ahead of the coronavirus outbreak. This is well down from the peak of US$170 in early June. This slide is attributed to a strong recovery in South African exports, underpinned by a weak rand.

However, the strong bounce in exports comes despite mine closures and Glencore, the largest producer, reporting second quarter production of only 78,000t, down from 388,000t in the first quarter. Glencore is currently reviewing its South African ferrochrome operations and a decision on whether to reopen shuttered capacity will be made in coming months.

Permanent ferrochrome closures in South Africa could be a catalyst for higher prices, although Macquarie suggests this would be difficult to deliver politically. On the other side of the equation, in China, increased chromium ore imports have slowed the pace of stock declines and made it harder for prices to recover.

Macquarie calculates a high chance of a market deficit with a likely -10% fall in global production and -3% fall in demand. This reflects a recent upgrade to the broker's Chinese and Indonesian stainless steel production estimates.

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