Material Matters: Nickel, Nickel Miners, Coal And Aluminium

This story features MINCOR RESOURCES NL. For more info SHARE ANALYSIS: MCR

-Nickel price set to rise again
-Macquarie downgrades SIR, MCR
-Coking coal cuts lag prices
-Oversupply weighs on thermal coal
-Aluminium supply to rise in second half
 

By Eva Brocklehurst

Nickel prices have stalled after a substantial rally in the first half of the year provoked by the Indonesian ore export ban. Macquarie observes this has occurred amidst rising inventory on the London Metal Exchange. In China, weaker nickel ore and nickel pig iron prices have prevailed and there has been a delay to the fall in inventory. Investors appear to have taken fright at this and prices are now around US$18,500/t, down from highs of US$21,200/t in mid May. Macquarie suspects the main reason the price has stalled is the surge in exports of medium grade nickel ore to China from the Philippines since April. These ores are being blended with higher grade material from Indonesia and this extended the life of stockpiles by around six months. Moreover, the expected collapse in Chinese nickel pig iron production has not taken place yet. Despite rapidly falling nickel cathode stocks, Chinese nickel prices remain below LME levels.

This does not mean the market has turned bad for nickel. Surging stainless steel production, combined with large production losses at many non-Chinese producers, has already pushed the market into deficit and Macquarie expects this to accelerate in 2014. At current prices, many Chinese nickel pig iron producers are out of the money. Once the high grade stockpiles run out and electric-furnace producers switch to using medium grades, operating costs are likely to soar. Demand for these ores will then rise sharply and this will push prices up. This is the reason Macquarie expects prices to home in on US$25,000t by mid 2015.

Meanwhile, Macquarie has downgraded earnings forecasts for Australian nickel miners after factoring in downgrades to the nickel price outlook. The emergence of mid-grade export ore from the Philippines has meant the broker's forecast supply/demand deficit has been reduced. That is not to say a deficit is still on the cards, and Macquarie expects no surplus until 2017, but forecasts are reduced by an average of 13%. In the light of this the broker is downgrading recommendations on two Australian nickel stocks to Neutral from Outperform – Sirius Resources ((SIR)) and Mincor Resources ((MCR)), given their greater leverage to near-term prices.

All pure play nickel producers are heavily invested in exploration with positive results from drilling having the potential to add material value. Macquarie believes Mincor offers the greatest leverage to exploration success because of a short mine life, while drilling of the deeper target at Nova could be a game changer for Sirius. The broker hastens to add, despite downgrading the outlook, nickel is one of its preferred commodities with prices expected to increase by 9%, 30% and 8% in FY15, FY16 and FY17.

Low prices and mounting losses have been themes in the seaborne coal market recently. Volume reductions lag the announcements of mine closures and inventory takes time to be liquidated. This means cuts to production take time to have an effect on prices. From 2012-2014 there has bee a 25mtpa reduction in production from mine closures in the metallurgical (coking) coal market, which has started to reduce trade flows. North American metallurgical coal exports have declined 6% so far in 2014. UBS models a further 5-10mtpa in production cuts which are needed to balance the market and this is a pre-condition for a price recovery. The broker expects top grade coking coal to price at US$120/t FOB in the spot market in the second half of 2014 and at US$131/t over 2015.

Cost deflation and rising productivity are lowering the pain threshold for many coking coal producers, in Goldman Sachs' view. Still, spot prices that are stuck at multi-year lows are putting even top tier producers under pressure. Goldman notes the production cuts since the beginning of 2013 have been equivalent to 9% of annual seaborne supply but not sufficient to balance the market and support a price recovery. As UBS also indicates, this reflects the time lag between production cuts and the final sale of coal to the market, and the cost of idling production which reduces the incentive to delay closure at loss making mines.

In Australia, production cuts and a downward trend in unit costs are pulling in opposite directions. Both these forces will strengthen in coming months, in Goldman's opinion. At one end, loss making mines will continue to close and the impact of prior closures be felt more keenly while, at the other end, the expected depreciation of the Australian dollar and other commodity currencies will compound the deflationary impact of rising productivity. Goldman considers current prices are unsustainable and a recovery to marginal production costs will occur by 2016. In the meantime, risks remain skewed to the downside.

In thermal coal, mine closures to date have been fewer, in terms of aggregate tonnage and proportion of the seaborne trade. Oversupply continues to weigh on prices. UBS forecasts a flat Newcastle spot thermal price of US$71/t FOB in the second half of 2014, lifting to US$77/t in 2015. Catalysts for change include new policies in China, which may mean an attempt to coordinate a 10% industry-wide reduction. Elsewhere, Indonesia plans to regulate to combat illegal mining and cap production at 400mtpa to support prices. UBS' coal price forecasts translate into modest earnings and returns for many coal equities, and most of the broker's global coverage is rated Neutral or Sell.

Aluminium prices are likely to remain range-bound for the rest of the year. At the same time, Morgan Stanley expects regional premiums to drop. Prices have been impressive since April, a consequence of robust demand at a time when production growth is flat or falling. The analysts suspect this mismatch has caused visible inventories to fall to two-year lows. Morgan Stanley expects a flatter forward curve will have a negative impact on yields in inventory financing deals and this will lead holders of the metal to release supply. Impending changes to the LME warehouse rules will also increase the availability of aluminium. Consequently, Morgan Stanley expects sizeable levels of inventory to arrive in the market place this year. Currently the analysts forecast an all-in aluminium price of US$2,274/t in the fourth quarter with a recovery beginning in 2015.
 

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