Base metals: Consolidating recent gains, or a correction? In the Executive Summary of our July report, we questioned whether "base metals had got ahead of the curve" and whether the market would be able to rely on China in the second half of 2009 to the same extent that it had in the first six months of this year. Since that report, base metal prices continued to rally.
China temporarily takes a back seat. Certainly the support offered by China has begun to wane, with imports sharply down from their summer peaks. Despite the massive stimulus provided by the Chinese government, and to a lesser extent by the stockpile purchasing, the growth in apparent consumption of close to 50% in some cases was clearly unsustainable. The growth was far in excess of our preferred demand indicators such as non-ferrous semis output and the level of steel production. For example, aluminum and copper semis output up to August was up just 8.9% and 14.5% y-o-y respectively, while crude steel output was only 5.2% higher.
Apart from the build in inventory earlier this year, two other features are pointing to sharply lower Chinese imports of base metals over the remainder of the year. First, arbitrage opportunities have diminished as the gap between local and LME prices has narrowed. But, more importantly, from a fundamental standpoint, is the sharp rise in base metal production in the country.
Higher production raises the question whether China might revert back to being a net exporter of some of the base metals. Again this seems particularly relevant for aluminum. This, in part, will be a function of whether raw materials place a constraint on refined output. Obviously the raw material situation varies for each metal. For aluminum and nickel, Natixis Commodity Markets believes there is sufficient raw material availability. At the other extreme are copper and lead where treatment charges remain relatively low. Chinese huge import requirement for copper, lead and zinc concentrates should remain in place and provide some support to the fundamentals.
How robust will be the demand recovery outside of China? A key question is whether other countries will take up the slack following the decline in Chinese imports from the record levels seen earlier this year. As discussed below, there is certainly plenty of evidence that the global economy is emerging from recession. What is less clear is the extent to which base metals demand will benefit from this improvement. A lot of the semi-fabricating manufacturers, which ultimately set the demand for base metals, are still facing difficult conditions. They are experiencing sharply higher input costs, which is not generally being matched by a similar improvement in the demand for their products.
Aluminum. Prices did pull back over the summer, as anticipated, as the underlying weak fundamentals for aluminum took centre stage, briefly. This is reflected in the fact that LME stocks remain more than 50% higher than the record level in all prior cycles. Furthermore, even with restarts thus far, Chalco commented on there being 20-30% of capacity left idled in China. Consequently, it is our view that prices are likely to average close to current levels, although volatility is likely to remain high. This is due to the forces of improving demand, with consequent potential for base metal and equity rallies, counteracted by the supply conditions in aluminum and the fact prices are already 50% above their lows earlier this year. We forecast an average annual price of $1,600/tonne this year. Prices of aluminum briefly exceeded $2,000/tonne in 2009. General buoyancy in the base metals sector rather than aluminum's specific fundamentals may support an average of $1,875/tonne next year.
Copper. Although the copper market has been supported by the high level of Chinese imports and the tightness of concentrate market, Natixis Commodity Markets is still forecasting a surplus in 2009. Specifically, we expect supply to exceed demand by around 250,000 tonnes over the year, which is similar to that recorded in 2008. Moving into 2010, a strong recovery of consumption, coupled with limited gains in mine output, sees the market balance swing to a deficit of approximately 50,000 tonnes.
Although we are positive about copper's fundamentals in 2010, the current oversupply suggests that prices may fall further, having slipped back below the $6,000/tonne level. As such, we would expect the cash price to average around $5,600/tonne over the rest of the year, resulting in a full-year average of $4,885/tonne. As conditions improve moving into 2010, we expect that prices will regain the $6,000/tonne level. However, the relatively small deficit projected for next year suggests that prices will remain below recent bull market peaks. Natixis Commodity Markets forecasts that copper prices will average $6,200/tonne in 2010.
Lead. We believe that prices have raced ahead of the fundamentals. However, with demand set to recover in the typically strong fourth quarter, we can see lead clinging on to much of the recent gains. Encouraging this view is the fact that production restarts outside of China have been limited, and the recent closures in China may restrict any further large-scale increases to inventories within the country. On a global basis, we expect the market to be in a relatively small surplus of 100,000 tonnes in 2009. In line with recent developments we have raised our forecasts upwards, expecting an average price of around $2,025/tonne over the remainder of the year, leading to a full year average of $1,655/tonne.
At some stage, the resolution of the environmental problems in China that curbed output may trigger some price weakness. However overall, the expected recovery in demand, particularly from the auto sector, and the relatively low level of inventories on the LME, should see lead's fundamentals perform well over 2010. However, the exceptional price performance so far in 2009 may limit the potential for further gains. We forecast an average price of $2,050/tonne in 2010.
Nickel. Natixis Commodity Markets continues to forecast a market in overall surplus this year, as the recovery in consumption expected to continue over the rest of the year is met by higher output. This is the result of continued increases in China as well as some additions to capacity outside of the country. Our revised projections see global supply exceed demand by around 30,000 tonnes for the full year. Coupled with the substantial overhang in place in LME inventories, this should see prices average below current levels and around $16,200/tonne over the rest of the year, suggesting a venture below the $16,000/tonne mark.
We expect the market will swing into deficit next year, amounting to approximately 15,000 tonnes. Although we remain of the view that rising production will partly offset gains in consumption, as global economic recovery seems to be gathering momentum, we now expect that increases in the latter will overshadow those in the former. Despite this fact, reported stocks of the metal will continue to weigh on prices and our forecast sees the average far below recent peaks at $17,700/tonne in 2010. We would be surprised if ventures above $20,000/tonne over the course of the year were sustained for anything more than short periods.
Tin. Prices have remained relatively firm since reaching their yearly high in June. This has come despite demand being little improved, as consumption in the mature economies has waned over the summer slowdown period and Chinese imports have dropped back from highs. The major driver of price gains across the base metals complex has been speculative buying. In addition, the fundamentals will also lend some support into Q4 on an expected a pick-up in demand across the globe as the economic climate improves. On the supply side, the production problems in Indonesia will restrict any major growth in output, despite increases in Chinese production. Consequently, we have revised our forecast upwards, expecting an average 2009 price of $13,325/tonne, implying an average of around $14,200/tonne over the remainder of the year.
Due to the emerging surplus over the start of the year and improving Chinese production, we forecast a shift in the market balance to a surplus of roughly 10,000 tonnes in 2009. We believe the longer-term prospects for tin demand remain positive, with improving demand shifting the focus back to the lack of new projects in the pipeline. For 2010, we see an average price of $15,800/tonne and a return to deficit, of around 2,000 tonnes.
Zinc. ILZSG figures suggest the zinc market registered a surplus of 290,000 tonnes in the first seven months of the year, considerably higher on the year earlier period surplus of 112,000 tonnes. For the year as a whole, Natixis Commodity Markets is projecting the market in a surplus of 230,000 tonnes, supporting an average annual price of $1,560/tonne. In 2010 we believe this year's surplus will be reversed, which will see the market in rough balance. We expect "Western World" demand to rebound by +6.0%, while refined production grows by just +1.2%. Under our base case, we are forecasting an average annual price of $1,950/tonne next year.
Source: Natixis Commodity Markets Ltd., 25 Dowgate Hill, London, United Kingdom, www.natixis.com.
