Zinc, nickel hold on to gains

The Americans’ Independence Day fell on a Monday this year, and so, with the report period June 26-30 leading into a long weekend, it is not surprising little out-of-the-ordinary occurred in metals markets. Copper and aluminum traded within their recent ranges, though zinc and nickel prices bucked the trend, holding on to gains made earlier in the week.

As the market heads for the quieter summer period, the pace of stock withdrawal is starting to slow in both copper and aluminum, though not yet in nickel or zinc. Although copper and aluminum exchange stocks fell by 234,000 and 275,000 tonnes, respectively, in the first half of 2000, global demand remains strong. Also, there has been a build-up of off-warrant stocks in recent months.

Copper prices remained trapped within their familiar US$1,770-1,820-per-tonne during the report period. With Northern Hemisphere summer holidays beckoning, the market lacks both volume and direction. A long period of range-trading has led to a convergence of technical indicators, giving little direction for momentum funds to trade on, while producers and consumers are also inactive.

In this environment, positive fundamental news has little impact. Phelps Dodge’s announcement that it will cut annual output at its former Cyprus Miami solvent extraction-electrowinning operation from to 40,000 from 60,000 tonnes in 2001, and by a further 20-30,000 tonnes in 2002, was shrugged off.

So was brass mill data from Japan, which points to an 11.1% increase in May production. Taken together with recent wire and cable data showing an increase in May order levels of 7.8%, this is evidence that, for the time being at least, Japanese copper demand is firing on all cylinders.

However, we remain cautious about the extent of Japan’s economic recovery. The bond-rating service Fitch IBCA recently downgraded Japan’s long-term sovereign currency rating, raising concerns about the country’s chances for an economic recovery. Fitch cited several factors: private demand is not showing self-sustaining recovery; the corporate sector continues to compress its balance sheets; more time will be required before the jobs market recovers; and unemployment and job anxieties are causing the personal savings rate to rise. We wait to see if the apparent recovery in Japanese copper demand will be sustained.

A slowdown in the rate of withdrawal from Comex and Shanghai copper stocks means that the overall decline in global exchange stocks eased in June. We estimate that, so far this year, 100,000-150,000 tonnes of the total decline in exchange stocks have gone into off-warrant stocks in China and the U.S.; as a result, the actual deficit between supply and demand in the first half of 2000 was about 100,000 tonnes. Demand is expected to weaken in the second half, so the copper market appears likely to register only a small deficit for the year as a whole.

Like copper, aluminum prices are trading in a narrow range with little direction at present. The US$1,600-per-tonne level provided solid resistance during the report period, with support in the region of US$1,550-1,560. The week’s major news came on June 28, when the Aluminum Co. of America (Alcoa) announced it would shut down its Troutdale smelter, in Oregon, which had been running at the annual rate of 74,000 tonnes. Prices climbed briefly to US$1,600 per tonne on the news but soon fell back to support at US$1,580.

Troutdale’s closure brings the total amount of power-related smelter production losses in the U.S. to 375,000 tonnes on an annual basis. With power prices still climbing in parts of the country (California Oregon Border prices are touching US$150 per megawatt-hour for August), further closures cannot be ruled out. However, given the market’s present mood, it will take something very substantial to move prices into new territory.

Following June 23rd’s close of US$7,600 per tonne (the lowest since October 1999), nickel prices looked as though they had turned the corner and bottomed out. The upside was driven by technical factors and by fundamentals as stocks figures put a positive sheen on the metal. After closing near the day’s high of US$7,720 per tonne on June 26, prices continued to strengthen for the rest of week, following through on the upside, as most of the rest of the base metals complex shifted back down.

Against this backdrop of more positive news and signs that prices have passed their low point, market participants became less complacent, and the effects of short-covering could be seen by mid-week. With nickel showing signs that it might move higher in the near- to medium-term, short positions began to look exposed, prompting covering to take place. This manoeuvring prevented prices from edging downwards later in the week, when copper and aluminum came off a little in trading. Prices finished at a 2-week high on June 30 of US$8,020 per tonne.

Technically, the charts provide support for nickel and suggest that a bottom has been put in place. However, a close above US$8,200 per tonne is needed before many participants, who exited the market when nickel’s bubble burst, are convinced they should re-enter.

The steep increase in cancelled warrants in the previous report period (June 19-23) suggested an increase in the rate of stock withdrawal, and so the recent decline in London Metal Exchange (LME) stocks by 1,380 tonnes — the largest weekly withdrawal since late May — came as no surprise. The stock decline has supported a widening in the backwardation, and the cash-to-3-months spread is currently trading at US$230-380 per tonne.

Zinc prices continued to consolidate in the range of US$1,150-1,160 per tonne. In thin trading at the start of the report period, prices rose strongly to close at US$1,152 per tonne — the second-highest close since late May. Unlike copper and aluminum, zinc held on to its early gains and, following the crossing of the 10- and 30-day moving averages early in the week, looks positive from a technical perspective.

LME stocks continued to fall despite concerns, prompted by data released in the previous week, that their daily consecutive decreases may have come to an end. Stocks shed 5,850 tonnes, above the average weekly decline of 5,000 tonnes, bottoming out at 224,850 tonnes. The last time zinc stocks were at this level was early April 1992.

Meanwhile, data released by Japan’s Ministry of International Trade and Industry confirm that off-warrant stocks are also low. Zinc stocks at the end of May were down 18.5%, compared with the corresponding period in 1999. Nonetheless, premiums have remained stubbornly unchanged in most regions, and, as we enter the summer downturn in demand, the situation can be expected to change but little in the months ahead. Growing demand in late third and fourth quarters may serve to add some momentum to zinc prices.

The long weekend in the U.S. and the Northern Hemisphere’s entry into the summer months of July and August should dampen activity, and so, in the short term at least, trading is expected to be thin. Zinc prices enter this “quiet period” looking, on the one hand, vulnerable in the face of their inability to overcome overhead technical resistance, while, on the other hand, strong insofar as they are supported by increasingly positive fundamentals. If prices are to fulfil their upside potential, however, they must convincingly break out of recent ranges and move above the 200-day moving average at US$1,158 per tonne.

Gold trading in the early stages of the report period was subdued, partly because many market participants were attending the Financial Times gold conference in Paris. Following a weak performance on June 23, when gold had its lowest London close since early that month, prices continued to look vulnerable on June 26. They spent the day flirting with the US$280-per-oz. support level only, once again, to say “no” when the crunch came and prices enjoyed a stronger close at US$283.75 per oz.

This firmer close and successful attempt to move away from US$280 per oz., coupled with warnings from the U.S. Federal Open Market Committee (FOMC) that inflation is still a real threat in the U.S., gave gold prices a fillip upwards toward the middle of the week. In a thin market, prices rose to a high of US$292.80 on June 28 before spending the rest of the week trading quietly in the range of US$287-290.

The decision by the FOMC (a division of the Federal Reserve System) to leave U.S. interest rates alone for the time being provided some benefit to gold, but we are skeptical over just how supportive for gold prices inflationary pressures are likely to prove over the next few months. Technically, gold is looking weaker as its 10- and 30-day moving averages head for convergence. By the end of the report period, prices had moved back down, closing on the 200-day moving average at US$288.62 per oz.

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