Given the numerous positive factors that emerged during the report period April 16-20, price gains in the metals markets were modest. Nickel led the way, but the average cash price gained only 1.5%; copper and aluminum rose just 1%; and zinc lost more ground, falling 0.5%. More encouraging is the fact that metals prices closed in a generally strong position on Friday, April 20. The resulting strong technical picture suggests that further gains are likely early in the short term, particularly in aluminum and copper, even though these may be short-lived.
Given the weight of recent positive developments — a surprise rate cut, recovering stock markets, better-than-expected U.S. economic data, a stronger euro, and the largest fund short position for many a year — copper‘s brief foray to a peak of US$1,730 per tonne for the London Metal Exchange 3-month price (a rise of just over US$40 per tonne) was disappointing. For the time being, as far as the red metal is concerned, the negative continues to outweigh the positive. The much-bigger-than-anticipated fall in the U.S. trade deficit for February heightened fears concerning the impact of a U.S. slowdown on Asian exporters. Deficits with Japan and China contracted 6.1% and 5.1%, respectively. In addition, the steady rise in exchange stocks (an additional 10,200 tonnes in the report period) continues to underline the weakness of global demand. In the short term, the potential for fund short-covering remains a positive factor, but, in order for this potential to be realized, the LME 3-month price needs to climb above US$1,730 per tonne. On the downside, if recent support at US$1,700 per tonne gives way, the US$1,650-per-tonne target will come back in play.
The consensus among analysts seems to be that the copper price will average somewhere around US$1,820 per tonne for the year, rising to around US$2,000 in 2002. Our comparatively bullish forecast is for US$1,950 and US$2,300 per tonne, respectively. Bull markets in copper tend to develop rapidly, and there is still a strong chance we are on the verge of one. On the other hand, the global economic slowdown is turning out worse than expected, so a downgrade is still possible if conditions do not improve soon.
Copper prices are sensitive to the liquidity cycle and tend to fall when liquidity is being eased, as it is at present. They also have a notable relationship with U.S. interest rates, and a necessary precondition for a sustained price rally is a period of stability in rates. The bull markets of 1986-88 and 1994-96 and the mini-rally of 1999 all coincided with a stabilization in rates followed by a tightening of liquidity. Although there are some signs of stabilization in the U.S. economy (for example, positive construction data), the U.S. Federal Reserve Board is focused on deteriorating corporate profits, particularly in the technology sector, so further rate cuts are widely expected, possibly as early as the May meeting of the Federal Open Market Committee (a policy-making body of the Federal Reserve System). Under these conditions, a turning point in copper prices appears to be still some way away.
Despite more negative news on the consumption front, aluminum prices maintained their upward momentum, ending at a 5-week high of US$1,535 per tonne. Nearby spread tightness and an improving technical picture were welcome news. With the May-June spread moving into a small backwardation, cutting the cash to a 3-month contango by US$10 to US$6 by the end of the report period, shorts are now nervous of being squeezed. The urge to cover short positions will have been further strengthened by the crossover of the 10 and 30-day moving averages of the week under review. The developing technical tightness enabled the market to shrug off comments from Alcoa and Alcan downgrading consumption prospects and data from the U.S. Aluminum Association showing that new orders in March were 22% down, compared with a year ago. If the US$1,540-per-tonne level is hurdled convincingly, a move back up to US$1,600 per tonne for the LME 3-month price looks likely.
The International Aluminum Institute (IAI) continues to report that primary production is contracting, year over year. On a global basis, however, we still expect growth of around 0.5% in primary production in 2001, mainly because output is expected to grow strongly in China, a country not currently reporting to the IAI.
During the first few days of the report period, zinc trading was moribund, with prices sticking to a tight US$10-per-tonne range of between US$980 and US$990 per tonne, and by Friday, trading had practically ceased altogether. In a painfully quiet day, prices reached a high of US$983 per tonne and a low of US$982, effectively creating a trading range of US$1 per tonne. The result of such trading — coming, as it did, in a week that witnessed a surprise U.S. interest rate reduction and a growing sense of “rally potential” in all the other major base metals — is to reinforce zinc’s isolation from both consumer and fund interest. The market is left to wonder at the metal’s ability to remain at current levels.
Nickel prices remained relatively constant, with the 3-month price hovering around US$6,400 per tonne in an attempt to break resistance, and we would not rule out the possibility of further progress, to US$6,450 per tonne. Also, whereas copper and aluminum prices managed a sharper break and move away from areas of technical vulnerability, nickel has been more successful at consolidating gains.
Rather surprisingly, the interest rate cut that benefited copper and aluminum completely bypassed nickel, as prices failed to break US$6,500-per-tonne resistance. The failure to benefit from the rally in other metals and the rate cut is a telling one, and displays the extent to which the current nickel market is driven almost exclusively by technical factors. With little fresh fundamental news emerging from the nickel sector, the ability of technical influences to affect price movements has increased.
The few pieces of fundamental news that have emerged also reinforce prices. On the back of the reduction in Russia’s Noril’sk exports this year, which could amount to 30,000 tonnes, a spokesman for the company confirmed that the export cut will not lead to production cuts. Although he claimed the company would seek ways to reduce the excess supply by using domestic markets, this may prove difficult, as nickel consumption in Russia remains weak.
Considering the generally healthier commodities complex, it is not surprising that the gold market also improved. With prices reaching up to US$265 per oz. on April 19, the yellow metal hit its highest level since mid-March. However, the latest survey of Gold Fields Mineral Service (GFMS) indicates that despite short-term short-covering rallies, market fundamentals remain poor. Consequently, follow-through buying and fresh interest remain absent from the market, leaving higher prices untenable.
Data from the Comex division of the New York Mercantile Exchange go a long way in explaining recent price behaviour. The previous week’s net fund short position reached almost 60,000 lots after growing consistently throughout the year to date. As we have argued, this scenario leaves prices exposed to rapid and sudden price rallies, owing to the risk of short covering. If both markets are short, what is possible for one is therefore possible for the other. However, there are key differences in the gold market, which hold prices back from sustaining a short covering rally.
The disadvantage for gold bulls is the absence of fresh fund and speculative interest. Whereas, with copper, we expect certain price areas to trigger waves of fresh fund or other speculative interest, the gold market lacks this source of impetus. With such a dominant fund short position (45% of open interest, on April 10), areas of immediate resistance prove easier to hurdle, making higher price levels more difficult to reach.
Apart from technical and fund activity, the fundamental picture continues to look weak. The key aspects of the latest GFMS gold survey are:
– the resumption of producer-hedging from the final quarter of last year;
– continued high levels of central bank sales;
– declining levels of gold consumption;
– high levels of net disinvestment; and
– the lack of opportunity for gold production levels to be lowered as cash production costs continue to decline.
Add to this our own view that the U.S. dollar is set to remain strong throughout this year, resulting in high local gold prices, and the 2-year outlook for the yellow metal looks poor.
— The opinions presented are solely the author’s and do not necessarily represent those of the Barclays group.
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