BASE METALS
DIVERGENT PERFORMANCE
Winners and losers in the base metals market

Views on the prospects for base metals from Natixis Commodity Markets – the London based commodities research arm of French Bank Natixis
Author: Natixis
Posted: Wednesday , 06 Aug 2008

LONDON -



The recent divergent performance of the LME metals raises the obvious question of whether the performance of the laggards - lead, nickel and zinc - will be duplicated elsewhere in the sector. The bottom line is Natixis Commodity Markets is looking for prices to continue trending lower; however we doubt whether the correction of the aluminium, copper or tin markets will approach the 50% plus level. One by one, the factors that have supported the bull market are slowly being removed.

Will investment interest be maintained?

The fact that some base metal prices have fallen by over 50% highlights that investment activity in the market can quickly turn from being bullish to bearish. Increased fears of stagflation are ultimately bearish for base metals and we are likely to see more fund selling than fund buying over the next eighteen months.

Supply growth starts to accelerate

Against a background of weak demand, the tight supply position has played an increasingly important role in supporting prices. Although we expect that output will continue to be affected by strike action and power-related problems, we believe that production growth will begin to accelerate. We note the double-digit gains in Chinese refined output so far this year. With the exception of the copper market, the tightness at the raw material stage appears to be easing.

Downstream activity is hit by the credit crunch

While the supply-side is improving the demand side is deteriorating. Much of the weakness is focused on production destined for the residential construction sector - aluminium extrusions, copper tube and wire are particularly exposed. However, the downturn in auto sales in the mature economies and the slow spread of the weakness in residential to non-residential markets is also affecting aluminium flat-rolled markets, galvanized steel and lead demand. All in all, the demand environment, as the industry enters a seasonal slowdown in offtake in the northern hemisphere, is not particularly positive.

Aluminium

Once again support for prices has come from an external source rather than a change in the fundamentals. Rising power costs and their impact have continued to set the direction for the aluminium market. With continued investor interest in the energy-intensive commodity, there is potential for new highs in the short term. From a fundamental perspective, demand remains weak and is being outpaced by higher output. LME inventories are also continuing their upward trend and look set to remain above 1m tonnes, which should put a cap on any rallies. Natixis Commodity Markets forecasts average prices of around $3,000/tonne in both 2008 and 2009.

Copper

The projected scenario for the copper market remains more or less the same. In the short-term, there is the potential for new highs as tight supply and continued investor activity may overshadow the effects of weak demand primarily in the mature economies. Supply tightness was the key driver in the first half of the year. In the second half, the weak demand environment is more likely to come into play. As such, Natixis Commodity Markets is projecting a slightly higher surplus of 75,000 tonnes, up from our previous forecast of 25,000 tonnes, supporting an average price of $8,250/tonne in 2008. In 2009, we expect the market to move into a larger over-supply position at 175,000 tonnes, which should drag the average copper price down to $7,250/tonne.

Lead

Our supply-demand balance analysis suggests that the lead market has been in deficit since 2003. The key driver in this period was the shortfall of concentrate rather than strong demand. However, a supply response has started to emerge which has returned the market to surplus. We expect the availability of lead concentrate to improve as the year progresses. Overall, Natixis Commodity Markets is projecting the market to be in a surplus of 65,000 tonnes in 2008 and 85,000 tonnes in 2009. We expect that higher Chinese refined production will filter through to higher exports from this source. This, in turn, should keep LME lead cash prices below $2,000/tonne for most of next year. We forecast an average annual price of $1,750/tonne compared to this year's likely outturn of $2,200/tonne.

Nickel

Last year saw the nickel market in oversupply - largely the result of the surge in Chinese nickel pig iron production at a time when demand from the stainless steel sector (outside of China) was weakening. However, with the decline in the nickel price, we are now seeing growth in Chinese nickel pig-iron output slowing down. However any reduction in output in China is likely to be offset by higher production outside of the country - Goro and Ravensthorpe, etc. On the demand side, the improvement in offtake from the key stainless steel sector has been slow to emerge. As a result, we expect that the market will remain in modest surplus in both 2008 and 2009. Our average annual forecast for this year of $24,600/tonne implies an average of around $22,000/tonne for the remainder of the year. Our projection of $21,000/tonne for 2009 implies that prices may spend some time below $20,000/tonne.

Tin

In the short-term, we believe the tin cash quote will remain above $22,000/tonne on the back of the market's positive fundamentals. However, despite a fairly upbeat assessment of the fundamentals, we doubt whether prices can be sustained above $23,000/tonne. We have seen most of the base metals fall sharply from their bull market peaks on the back of only a relatively minor deterioration in the fundamentals. Natixis Commodity Markets is projecting an average price of $20,500/tonne in 2008 followed by $18,500/tonne next year.

Zinc

In our previous Quarterly Review, we suggested the zinc market to be in a surplus position at 145,000 tonnes, the result of rising mine output filtering through to higher refined output. Our view on the market is largely unchanged. Although Teck Cominco has announced that the Lennard Shelf mine will close, our analysis suggests that much larger reductions are required to tighten the concentrate market, and subsequently restrict the growth in refined output. The increase in the level of treatment charges, the low level of physical premiums, plus the rise in LME inventories, point to zinc being in adequate supply right along the production pipeline.

This should put a cap on prices for the remainder of the year. As such, we are now forecasting an average annual price of $2,100/tonne in 2008, in comparison to $2,350/tonne in our previous Review. For 2009, we expect the annual zinc price to drop to $1,875/tonne.
























Base metal price outlook 2006 to 2009






























Cash price $/tonne


% Change



























2005


2006


2007


2008


2009


08/07


09/08
























Al


1,898


2,567


2,640


2,950


3,000


11.7%


1.7%
























Cu


3,684


6,731


7,126


8,250


7,250


15.8%


-12.1%
























Ni


14,733


24,287


37,181


24,600


21,000


-33.8%


-14.6%
























Pb


976


1,288


2,595


2,200


1,750


-15.2%


-20.5%
























Sn


7,370


8,763


14,536


20,750


18,500


42.7%


-10.8%
























Zn


1,385


3,273


3,250


2,100


1,875


-35.4%


-10.7%