Summer holidays keep prices suppressed

The deterioration in base metals prices continued across the board during the report period July 2-6. The only variation was the scale of price falls, which ranged from a 0.2% fall in aluminum cash prices to a 2.4% drop in nickel.

The southbound direction of prices coincides with the start of the long holiday season in the Western Hemisphere, when physical purchase volumes are thin and consumers of metals begin similar southbound journeys. This has been noticeable in terms of London Metal Exchange (LME) stock increases. Turnover at the LME during the first half of 2001 fell by 16%, compared with the previous six months, while options business fell by 48%.

What all this means is that unless turnover picks up significantly during the second half, 10 years of consecutive increases in business levels could come to an end as the whole 2001 period registers a year-over-year decline.

The economic backdrop to the current weakness remains bleak, though there are signs of encouragement emerging from the U.S. These signs came in the form of the National Association of Purchasing Management (NAPM) index, factory orders and housing sales data, all of which increased confidence levels. Nonetheless, the main manufacturing index in the U.S. suggests a contraction is still taking place. Given the state of the eurozone and Asian regions and the continued U.S. weakness, we have cut our main price forecasts and pushed the turning point to the fourth from the third quarter. It now appears that metals prices are likely to retreat further during the summer and will not experience a meaningful recovery until next year.

There are clear signs of upward resistance in copper. The more encouraging U.S. NAPM data, which triggered some profit-taking earlier in the week, briefly saw prices bounce back from US$1,560-per-tonne support to close at more than US$1,580 per tonne on July 3. During the rest of the week, however, prices gradually retraced their steps to bring fresh pressure to US$1,560 per tonne. Low volumes and a massive net speculative short position have slowed copper’s descent. Evidence of weakening fundamentals, together with indications that the period of expected recovery in global manufacturing is being pushed further back, suggests that fresh lows will be reached over the coming weeks.

Fundamental data continue to reinforce resistance levels. LME stocks are rising relentlessly despite a narrowing, for one week, of the July backwardation. The report period saw stocks rise by more than 50,000 tonnes. Meanwhile, data from the U.S. Copper and Brass Servicentre Association showed U.S. copper stocks rising at member centres by 60% year-over-year in May to 23,623 tonnes.

Although prices made some recovery on July 6, aluminum suffered a poor performance during the second half of the week. Resistance levels showed that attempts to move higher may be seriously hindered over the coming months. Prices earlier in the week made a brief foray into the US$1,480-1,500-per-tonne trading range (again on the back of better U.S. data and profit-taking). Two days later, however, prices dropped below US$1,460-per-tonne support and ended the week below US$1,460, the lowest closing price in more than 12 months. The disappointing price fall underscores the bearishness of current conditions, and our forecasts have undergone a similar downward shift.

These lower expectations reflect the bearishness of the overall market rather than bearish fundamentals. With confirmation that the Bonneville Power Administration is to maintain high power charges next year, the likelihood of major re-starts in smelter output in the U.S. remains slim. Going forward, we believe this will lead to a strong price recovery by mid-2002. For the time being however, fresh tests of support are likely.

Zinc prices continue to drift lower as the bearish sentiment softens support levels and indicate fresh lows. Prices are probing support at US$880 per tonne following a fund selloff that wiped more than US$10 per tonne off of zinc’s value. Forward-buying has so far prevented a fall through US$880 per tonne, leaving prices to consolidate in a narrow range of US$880-885 per tonne. At previous levels of support, however, forward-buying has only postponed further price falls. Ultimately, the combination of weak fundamentals, a bearish outlook and a softening base metals complex has increased downward pressure. Zinc prices are therefore likely to fall further before a floor can be formed and, in doing so, will form a record low since the inception of the current LME contract.

Workers at Cominco’s 120,000-tonne-per-day Cajamarquilla refinery in Peru have returned to work, bringing an end to the 3-week strike at the plant. The strike action is one of the sole pieces of supportive supply-side news in the zinc sector as hopes for a demand-led recovery continue to be pushed further back. With LME stocks climbing by 5,300 tonnes during the report period and with recent data showing another daily increase of 1700 tonnes, total levels have moved above 300,000 tonnes for the first time in more than two years. Production growth this year is expected to be almost four times greater than increases in consumption, so we do not expect to see a sudden turnaround in zinc’s downward progress.

Nickel established a floor at US$5,950 per tonne, enabling prices to consolidate around US$6,000. Technical indicators suggest nickel prices are oversold at current levels. In a market that is also dogged by weak supply/demand fundamentals, the oversold indicators have become one of the main sources of price support for nickel. They were an important factor in the report period’s price stability and should prevent price falls in the short term. However, as price consolidation returns the Relative Strength Indicator to more neutral territory, it is likely that prices will experience a break of support at US$5,950 per tonne to test US$5,800.

Nickel exports from Russia have fallen considerably this year. According to data from the Russian State Customs Committee, exports to countries outside the Commonwealth of Independent States fell by 23% year-over-year during the January-to-May period of 2000. Overall, exports from Noril’sk are expected to be around 20,000 tonnes lower this year at 155,000 tonnes. Year over year, this represents a drop of just over 12% from 2000 levels. Exports from Russia tend, on average, to be around 14% higher in the second half of the year than in the first, and so higher exports during the second half of 2001 are likely to shift the year-over-year fall to somewhere closer to expectations. The first ships recently left the port of Dudinka. Although this will add to the second-half export figure, a week-over-week fall in LME stocks of 726 tonnes suggests that the squeeze in short-term supply will remain a feature of the current quarter.

A steady downtrend in gold has taken prices to an important area of support. With all the major moving-average lines now lying above current prices, the short-term outlook for prices is one of vulnerability. Recent data from the Commodity Futures Trading Commission shows a slight reduction in the net speculative position. Despite the reduction, a net fund long position remains in place. The risk for prices, should they be unable to remain above support levels, is therefore one of liquidation as moves lower trigger funds to exit positions.

One note of caution, however, is precedence. The report period’s fall in price has left gold looking oversold. In early June, when prices were last at US$265 per oz. and had edged into oversold territory, a rapid bounce pushed them back up through the 200-day moving average toward US$280 per oz. The question is, Is the gold market still as nervous as it was two months ago? If it isn’t, consolidation at US$265 per oz. may be nothing more than a pause on a downtrend.

— The opinions presented are solely the author’s and do not necessarily represent those of the Barclays group.