Each quarter FastMarkets and Sucden Financial produce an analysis and forecast report on the precious and base metals – The Sucden Financial Metals Reports, April 2016.
Below is the aluminium report, to download a PDF copy of the full report covering all the metals in pdf form click here.
Subscribers have access to these reports before they are published through the research tab in FastMarkets Professional.
Iron ore and steel – A classic counter-trend move
Iron ore had a spectacular first quarter, with prices rebounding to $63.70 per tonne from December’s low of $38.30, a 66.3-percent move. The rally is a classic short-covering/restocking rally – a counter-trend move and possibly an accident waiting to happen. The fundamentals dictate that, with new low-cost iron ore coming on stream when demand is soft and there is a surplus of iron ore and steel, iron ore prices are likely to gravitate to the marginal cost of production, which is believed to be around $28 per tonne. With prices around $58, there is still plenty of room for them to fall once the restocking has run its course.
Overall trend – After the relentless downward trend in iron ore prices (see chart above), perhaps the market should not have been as surprised as it has been by the strong rebound. Restocking after the Chinese New Year, some optimism about a recovery in house prices in China, some pressure on holders of land-banks to build and a shift in speculators’ focus have all been reasons for the rally. Given the fundamentals, we see the rebound as a counter-trend move; unless there is a surprise and sustainable recovery in China’s economy, iron ore prices could easily retreat to test the lows around $38 per tonne again later in the year.
Iron ore seaborne supply to hold up in 2016 – Falling prices in recent years have led to production cuts, which are estimated to have pulled 230 million tonnes from the market. But the continuing ramp-up of new output should make up for any losses, keeping the seaborne market well supplied unless there is a sustainable recovery in demand, which seems unlikely. Weak global growth and China’s intent to cut excess capacity in the country, combined with anti-dumping measures against China, are likely to reduce its ability to export and in turn lead to lower domestic production. Less output may well mean less demand for seaborne iron ore.
New game in town – Speculating on iron ore futures seems to have taken off this year, with investors using the market as a call on how they see the health of China Inc. Average daily volume in the iron ore contracts on the Dalian exchange have increased to 3.48 million lots this year from 2.67 million lots in the fourth quarter and 1.95 million lots in the first three quarters of 2015. The increased speculation is no doubt partially responsible for how overbought iron ore prices have become. The danger is if marginal producers have taken advantage of the higher prices to hedge future production. If so, an already oversupplied market could become even more oversupplied, which would lower marginal production costs.
Steel output still falling – Global steel production in the first two months of 2016 was down six percent on the same period of 2015. This is after a 1.7-percent fall in 2015 compared with 2014. In the first two months, output dropped 15.8 million tonnes, for which China accounted for 9.5 million tonnes. The extent of the cuts seems to be tied to the pick-up in calls for anti-dumping measures against China. The fact that production has fallen so much makes it all the more peculiar that iron ore prices have managed to be as strong as they have. The combination of anti-dumping measures, Chinese policy to cut 150 million tonnes per year of excess steel capacity over the next three-to-five years and lower production has lifted prices, which in turn is helping to underpin stronger iron ore prices – the move seems unsustainable.
Prices rebound but not by much – Hot rolled coil (HRC) prices turned the corner in January and are up around six percent. Still, this is a fairly tame rally compared with the average rally of 24 percent in base metals prices. But steel rebar prices in Shanghai have rallied 49 percent from the lows in November. The run-up in Chinese prices seems unsustainable but, with fewer exports from China, steel prices in the world ex-China may well have further to climb, especially while iron ore prices hold up.
Iron ore market looks structurally bearish but market may be wrong-footed by China – With the iron ore majors intent on continuing to ramp up low-cost output, it looks as though prices will soon drop back below $50 and stay lower for a considerable time. We warned in our January report that restocking could well produce significant short-covering rallies once prices had stopped falling, which has been the case. What the market now needs is stronger demand out of Asia. We are disappointed that orders for the One Road One Belt projects have been slow to emerge but we still expect them to emerge. In the second quarter, we expect a $44-58 trading range.
Steel prices have turned a corner and are rallying strongly across all regions, especially in Asia. A pick-up in restocking on stronger iron ore prices and order books seems to be driving prices.
The run-up in iron ore prices at a time when large quantities of new production is coming on stream may well prompt some idled capacity to be reactivated. The fact iron ore can now be hedged may well mean oversupply extends.
The iron ore swap forward curve had flattened while prices had dropped. The sharp rally has now seen it steepen significantly (see red line) as forward selling pushes it into a backwardation.
Global steel output continued to fall in February but, with prices now rising sharply, production is likely to follow. The run-up in iron ore prices also suggests demand has picked up. We fear the run-up in steel prices may be more the result of restocking rather than improved consumption.
Download a PDF copy of the full report here.