Another poor week for base metals saw a slight reduction in the rate of inventory build-up in London Metal Exchange (LME) warehouses but no let-up to the steady downtrend in prices across most of the complex.
Once again the only exception was lead, which achieved an increase in the average cash price of just over 1%. However, the chances of lead continuing to forge higher are limited while other metals continue to perform so poorly. Nickel was the worst-hit during the report period July 30-Aug. 3, registering a loss of 2.4% in average cash prices, followed by tin at minus 1.4%, aluminum at minus 1.3%, copper at minus 1.1%, and zinc at minus 0.9%.
Recently released data confirm that a turning point in global manufacturing and industrial activity has yet to occur. The U.S. National Association of Purchasing Management index came in worse than expected, falling back to 43.6 in June; Japanese industrial production fell 0.7% in June; while the European Monetary Union’s July Purchasing Management Index fell to 47.3, its second-lowest reading since the series began. On top of all this, the composite leading indicators of the Organization for Economic Co-operation and Development (OECD) continue to disappoint. In the past, the OECD series has been a good indicator of turning points in industrial production up to six months in advance, but figures released late on Aug. 3 showed only a small upturn in June (+0.2%), following stability in May. Usually, three consecutive months of positive figures are required to signal a recovery in aggregate OECD industrial production, so indications of a turning point are still at least two months away. Although there are tentative signals that metals demand may be bottoming-out in the U.S., it appears that there may be worse to come in Europe, and certainly in Japan, over the next few months.
The fall in copper prices was arrested as the LME 3-month figure found support at the US$1,500-per-tonne level. However, this support was found in extremely low volumes, and a move upwards to test resistance at US$1,520 per tonne was easily rebuffed, so it is unlikely that the market has found a bottom. Technicians are finding it difficult to pick support levels since copper prices have not spent much time at these sorts of levels in the past few years. However, given the already-large size of the fund short positions, big moves lower are unlikely, and we expect support to kick in at a around US$1,480-1,490 per tonne if US$1,500 does give way, as it appeared to be doing late on Aug. 3. On the positive side, Grupo Mexico said it did not rule out making cuts to copper production. Furthermore, LME stocks climbed by just 300 tonnes during the report period, though more large deliveries could take place if the tightness building up around the September date intensifies.
We believe there are around 60,000-80,000 tonnes of material that could quickly be delivered into LME warehouses if required. However, we also feel that the large deliveries of metal from mid-June onward have flushed most of the other “hidden” stock out into the open and that off-warrant stock has been drawn down sharply as a result. Our reasoning is that the rise in reported stocks of copper over the past seven months has been much greater than one would expect, given the scale of the market surplus.
We estimate that the global market was in surplus by around 160,000 tonnes in the first half of 2001. However, reported stocks climbed by almost 200,000 tonnes, implying a 40,000-tonne fall in unreported stocks. Exchange stocks of copper then rose an unprecedented 208,000 tonnes in July. Even if the market surplus grew to 100,000 tonnes in July, this implies a further 108,000-tonne fall in off-warrant stocks, taking the total drawdown so far this year to around 150,000 tonnes. If we are right, then reported stocks, which are still relatively low, given the scale of the global slowdown, are probably giving a pretty accurate picture of overall inventory levels.
Another positive is the turnaround in U.S. leading indicators of copper demand, as published by the U.S. Geological Survey. These indicators have accurately predicted troughs in copper demand in past cycles, and the rule of thumb is that they signal changes 8-7 months down the road. The 2.1% rise in the May copper index was the largest one-month increase since January 1999. The 1.6% increase in the June primary metals index (reported one month ahead of the copper index) is also encouraging, but further increases in both are required before we can safely say that U.S. copper demand is growing again.
Aluminum prices found good support from forward-buying, enabling the US$1,400-per-tonne support level to hold. However, the short-lived, unsuccessful attempt to breach resistance at US$1,420 per tonne was ample testament to the lack of enthusiasm with which aluminum is regarded at present. In the short term, prices look set to continue testing support at US$1,400 per tonne. If the recent pattern of price moves continues to hold (with support holding for 7-10 days before moving lower by US$20-40 per tonne), then a move down to US$1,360-1,380 per tonne is likely.
Comalco confirmed it had cut production by 16,500 tonnes at its 335,000-tonne-per-year Tiwai Point smelter in New Zealand, ending its dependence on the spot power market, where prices have soared because of tight hydroelectric supplies and a lack of rain. We understand that the terms of the smelter’s power contract with the local utility from which it sources the rest of its power requirement does not allow it to sell power back into the grid. For this to happen, a change in local legislation would be required. Consequently, further cuts to output are unlikely, though the power situation in New Zealand should be monitored closely in case it continues to deteriorate.
Once again, there was little movement in zinc prices. The market appears to be in limbo at present, with prices low enough to discourage speculative selling (owing to the poor risk-to-reward ratio), but not low enough yet to induce any production cutbacks. For the short term, there appears little prospect of much movement in prices in either direction unless much-needed mine cuts are forthcoming. Consequently, US$860 per tonne should continue to mark the low point of the range for the LME 3-month price.
Outokumpu says it does not believe zinc prices can remain for much longer at current levels before mine cutbacks are made, bringing the market into better balance and pushing prices higher. Moreover, it expects this to happen in “the next few months.” However, the company highlighted the problem facing the zinc industry when it said it was protected from the weak zinc price by the strength of the U.S. dollar and that it still expected to post satisfactory results for 2001. This is precisely the reason why mine cuts are not taking place, despite inflation-adjusted U.S. dollar prices that are below even their mid-1980s lows.
Nickel prices continued the downtrend that has taken almost US$400 per tonne off 3-month prices since mid-July. Following a reversal of earlier losses in the previous week, downward pressure remained focused on prices from the outset, returning the next technical test to the support area of around US$5,600 per tonne. The sharp fall/sharp recovery price pattern that has developed in nickel over recent months continued as short-covering by speculative funds prevented a fall below support. However, evidence suggests that prices will fall below US$5,600 per tonne in the short term, as the metals complex continues to look vulnerable and LME stock levels rise to their highest levels of the year so far.
Since the start of the second quarter of 2001, nickel backwardation (in place for about two years now) has been decreasing in size. From its peak this year in January of more than US$500 per tonne, the backwardation had declined by Aug. 3 to around US$10 per tonne, a reduction of about 98% since the start of the year.
The deterioration in the backwardation towards a near contango by Aug. 3 coincided with a
n increase in LME stocks of 1,140 tonnes, taking total inventory in LME warehouses to 16,908 tonnes. This is the highest stock level of the year so far and the highest since mid-July 2000. Given the poor fundamental outlook for the nickel market, together with the weakened state of the global manufacturing and industrial sectors, this upward trend in stocks can be expected to continue throughout the rest of the summer.
Interest and activity in the gold market were thin, creating narrow price ranges and further falls in one-month lease rates to the lowest levels seen so far this year. Seasonally quiet markets continue to leave prices looking directionless and range-bound, with little indication of when the next price move will come. Further weakness in the greenback against the euro and Australian dollar has prevented any upward momentum, whereas, from a fundamental perspective, the end of strike threats in South Africa also denied the market some much-needed impetus. On Aug. 3, New York prices edged up a couple of dollars and attempted a test of resistance at US$267 per oz., the line of the 30-day moving average. However, lack of buying interest and movement in the technical indicators towards overbought territory prevented a break of the recent range. Prices therefore are now in much the same position: supported on the downside and capped on the upside.
— The opinions presented are solely the author’s and do not necessarily represent those of the Barclays group.
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