We expect base metal prices to continue to perform strongly over the near term, even though we have already seen multi-year highs. We also believe the rising price cycle will turn after this year.
In the analysis that follows, we offer an overview of aluminum, lead and tin markets.
Aluminum
Rising input prices for primary aluminum smelting against a backdrop of improving Western World demand have set the scene for higher aluminum prices on the London Metal Exchange (LME). Prices are now 16% higher than they were at the start of the fourth quarter of 2003 and 25% higher than at the start of last year. We expect annual average cash prices to reach US$1,665 per tonne (US75.5 per lb.) this year, which would be the highest for aluminum prices since 1995.
Alumina shortages are primarily affecting Chinese operations, which are largely dependent on spot purchases. As a result of inflated freight rates, spot alumina prices are trading toward US$450 per tonne (cost insurance freight) with renewed upside pressure after the Chinese lunar new year, while Chalco in China has maintained its selling price at US$447 per tonne since mid-December 2003. Chinese smelters are operating under thin profit margins, and we estimate that despite the rise in primary aluminum prices, most are now losing money. Regional energy shortages have fuelled operating problems and are contributing to governmental attempts to restrict overcapacity in the aluminum sector.
Of key importance to the outlook for LME aluminum prices is the amount of aluminum flowing out of China. The factors discussed above are likely to feed through to lower net export volumes to the Western World. In 2003, the country was a net exporter of 493,000 tonnes, after a sharp rise in shipments in December (at 126,000 tonnes). With domestic operating difficulties, we believe Chinese net exports will fall in 2004 because domestic demand remains strong and export tax rebates are lower from the start of this year.
Although Western World primary production continues to reach record highs, several smelter closures have been announced. In response to negative exchange-rate effects and high energy prices,
However, we stress that the global aluminum market balance will be largely unaltered by these closures because released raw material will be easily absorbed elsewhere, given the tightness of the alumina market.
Lead
Lead prices are at their highest in almost eight years and rallied above US$800 per tonne in early February, after posting average price gains of 14% in 2003. Sharp falls in inventories (minus 90,000 tonnes in 2003) and prospects for further falls amid a high level of cancelled warrants suggest that refined capacity closures of almost 300,000 tonnes per year in 2003, together with stronger demand, have helped tighten this market significantly.
Reflecting other metal markets, a weaker U.S. dollar has helped raise lead prices, for it has supported consumption outside the U.S. and pushed up regional production costs. We believe the U.S. dollar will depreciate further against major lead-consuming and -producing currencies during the first half of 2004. We also expect continued upside price pressure in the lead market during this period, and a second-quarter peak of at least US$860 per tonne. Notably, and in line with the situation in the copper market, the lead forward-curve (which is in full backwardation) has made a parallel shift higher. This shows that consumer hedging has been strong in relation to producer forward-selling activity.
The outlook for lead in 2004 remains strong. Although secondary supplies have picked up since the end of 2003 and Western World lead demand is likely to remain relatively lacklustre, a lack of supply from new mines and strong Chinese demand for refined lead will ensure the deficit persists for another year before the surplus returns in 2005. Chinese demand growth will remain supported by battery exports to the Western World, and so exports of refined lead should remain relatively subdued this year, after 410,000 tonnes of net exports in 2003.
Still, the replacement battery business outside China remains slow, particularly because stocks are still available to draw from. The latest statistics from the Battery Council International show replacement battery shipments were 1.4% lower, year over year, from January to September 2003, and total battery shipments were 2% lower during the same period. Although lead demand is less correlated with the economic cycle than the other base metals (but more seasonal, because of the replacement battery sector’s large share of demand), we still expect Western World lead demand to improve in 2004 amid stronger economic activity.
Tin
In tin trading on the LME, much of the market’s recent attention has been focused on the movements of the cash 3-month spreads, which have been volatile over the past three months, trading between US$2 and US$83 per tonne (representing its tightest trading since March 1999, at one point). Meanwhile, there are growing concerns about the concentrate tightness in Asia, with the Indonesian export ban still in place in an attempt to quell illegal mining and help boost previously depressed prices. This will help widen the supply deficit this year, leaving the market short of metal for prompt delivery.
Recent trading activity in the tin market has also been heavily influenced by speculative decisions by funds. After reaching an 8.5-year high at US$6,615 per tonne at the start of the new year, prices corrected sharply by 7% in one day alone on Jan. 6. The move, triggered by fund long liquidation, coincided with a sharp fall in LME open interest. While leaving tin vulnerable to another technical correction, key support of US$6,140 per tonne has held, and we expect continued price support from strong fundamentals.
In fact, consumer buying of the metal has been firm in the recent uptrend, both on the LME and the Kuala Lumpur tin market, with high Malaysian premiums as a result. Record-high freight rates caused the cost of shipping Malaysian tin to Europe to rise to a staggering US$305 per tonne at the start of January, compared with US$200-250 per tonne at the end of 2003. Although much of the demand improvement in Asia has been centred on China, there is also ravenous appetite for the metal in Japan, which relies heavily on tin for solder plating in the electronics industry.
In price-supportive supply side developments,
Separately,
In the U.S., the Defence Logistics Agency has a total of 12,000 tonnes of tin stockpiled, which is to be sold this year.
— The opinions presented are the authors’ and do not necessarily represent those of the Barclays group. For access to all of Barclays’ economic, foreign-exchange and fixed-income research, go to the web site at barclayscapital.com. Queries may be submitted to the authors at kevin.norrish@barcap.com and ingrid.sternby@barcap.co
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