Macquarie Commodities compendium

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Macquarie Commodities compendium

  1. 1. GLOBAL Commodities Compendium Spring shower, summer sizzle Traded commodity prices have sold off particularly sharply in May 2011, with some of the non-traded commodities, such as coking coal, also down over the same period. For the remainder of 2011 and into 2012 we have selected copper and zinc as the two most oversold base metals with the best prospects for improving fundamentals, and iron ore as the bulk commodity with the best prospects to surprise to the upside (i.e. we are neutral on the price outlook from recent record high price levels but this is substantially above consensus). We continue to recommend exposure to platinum and palladium in the precious metals space. In soft commodities, our preference is strongly towards corn and wheat, given weather risks for the 2011/12 crops and underlying tightness. Chinese tightening appears overplayed, and is almost done Most commodity end use indicators grew by 10%+ in 1Q11, with the strongest growth coming from floor space under construction – up 26% YoY – and consumer appliance output – up over 30% YoY. Other indicators that point to healthy growth in commodity end use demand in China so far in 2011 include strong power generation growth and the fact that steel inventories have been falling even in the face of higher than expected levels of crude steel production. Our China Economist Paul Cavey believes that the current tightness in credit availability and weakness in key leading indicators is enough to ensure that significant further tightening of policy is not needed, particularly as headline activity indicators and more importantly inflation start to roll over in 3Q11. Cavey expects policy will remain focused on squeezing lending in the remainder of 2Q, with slower growth promoting looser policy into 2H. Overall the recently released Chinese industrial output, inflation and new loans data for April showed that growth was a little softer, and price inflation at least wasn‟t accelerating, and that new loans were 5% lower YoY. End to QE2 and European debt issues not expected to Macquarie Capital (Europe) Limited Jim Lennon significantly disrupt commodity consumption +44 20 3037 4271 jim.lennon@macquarie.com Max Layton We would note that while a generally declining US dollar has been supportive of +44 20 3037 4273 max.layton@macquarie.com rising commodity prices in recent years, it is not a necessary condition for Colin Hamilton commodity price strength (indeed there are numerous periods historically where +44 20 3037 4061 colin.hamilton@macquarie.com Duncan Hobbs the US dollar has appreciated and commodities have gone up). However, the +44 20 3037 4497 duncan.hobbs@macquarie.com dramatic drop in exchange trade commodities in the past few weeks highlights Hayden Atkins +44 20 3037 4476 hayden.atkins@macquarie.com the vulnerability of prices to changes in sentiment towards the macroeconomic Kona Haque situation in the US/Europe. +44 20 3037 4334 kona.haque@macquarie.com Macquarie Capital Securities Limited The unpredictable nature of weather and tighter supply Bonnie Liu +86 21 2412 9008 bonnie.liu@macquarie.com chains means that the risks around our price forecasts are Graeme Train skewed to the upside +86 21 2412 9035 graeme.train@macquarie.com Macquarie First South Securities (Pty) Ltd While we aim to have evenly balanced risks in our modelling of commodity Justin Froneman demand and supply, the apparently increasingly unpredictable nature of weather +27 11 583 2293 justin.froneman@macquarie.com Macquarie Capital (USA) Inc. conditions and tighter supply chains (the latter in the face of lower credit Jan Stuart availability from banks and high commodity and input prices) mean that risks are +1 212 231 2485 jan.stuart@macquarie.com Meredith Somers actually likely to be skewed to the upside for our supply-demand balances and +1 212 231 2637 meredith.somers@macquarie.com thus price forecasts over the medium to long term. While such weather risks are clear for the softs, copper, coking coal and iron ore seem the most vulnerable 17 May 2011 hard commodities in this regard.Please refer to the important disclosures and analyst certification on inside back cover of this document, or on ourwebsite www.macquarie.com.au/disclosures.
  2. 2. Macquarie Research Commodities Compendium Table of contents Executive summary and price forecasts 3 Copper “Deficit to bite in 2H11, 2012” 7 Aluminium “Significant underperformer in the face of solid global growth” 9 Zinc “Market rebalancing, price prospects” 11 Lead “Little slack in the supply chain” 13 Tin “Market deficits support higher prices” 15 Uranium “Market looking ugly, but China caking it on the make up” 17 Stainless Steel “Ongoing strong growth supported by China” 19 Nickel “Supply growth delayed....but its coming” 21 Ferrochrome “FeCr prices falling, despite strong demand and rising costs” 23 Molybdenum “Deficits delayed by renewed Chinese exports” 24 Cobalt “No stopping the supply surge” 26 Steel “Still playing the margin lottery” 28 Iron ore “Can’t ignore cost inflation” 30 Manganese “Prices fall under weight of strong supply, high stocks” 32 Metallurgical Coal “Easing back towards normal in a post-supply shock world” 34 Thermal Coal “China holds sway into summer” 36 Oil “More upside than downside risk to our bullish 2011-13 forecasts” 38 Gold “Biggest hurdle coming closer into view” 40 Silver “Speculative swings drives volatility” 42 Platinum and Palladium “Looking for a more sprightly performance in 2H11” 43 Wheat “Corn dominates grain complex, but concerning wheat conditions” 46 Corn “Large producer reaction, but strong demand limits recovery” 48 Soybeans “Short term fundamental weakness, but 2011/12 could be tight”........... 50 Sugar “Prices under pressure as market moves into surplus”........... 52 Coffee “High prices amidst very tight markets”.......................................... 54 Cocoa “Short term price weakness followed by a tighter 2011/12 market”......... 56 Cotton “Market reacts to high prices, but weather risks prevail”...... 5817 May 2011 2
  3. 3. Macquarie Research Commodities Compendium Spring shower, summer sizzle Chinese activity has been growing strongly in the first four months of 2011 - Most commodity end use indicators grew by 10%+ in 1Q11, with the strongest growth coming from floor space under construction – up 26%YoY – and consumer appliance output – up over 30% YoY. Other indicators that point to healthy growth in commodity end use demand in China so far in 2011 include strong power generation growth and the fact that steel inventories have been falling even in the face of higher than expected levels of crude steel production. While end use indicators have generally been strong, Chinese inflation also remains relatively high and sentiment has certainly weakened after months of tightening, with surveys suggesting that obtaining credit is becoming increasingly difficult. Indeed, the PMI data are suggesting activity is also struggling, and our China economist Paul Cavey expects the PMI will print at or below 50 in June. The only evidence of a slowdown in commodity use in China so far in 2011 has been some indications of relatively poor apparent demand / semi‟s output in some commodities such as copper (with high prices and a lack of credit squeezing supply chains and forcing severe de- stocking of inputs). A normalisation of apparent demand in these markets would imply the use of such commodities should rise very strongly sequentially through 2H11. Almost finished with tightening in China - Our China Economist Paul Cavey believes that the current tightness in credit availability and weakness in key leading indicators is enough to ensure that significant further tightening of policy is not needed, particularly as headline activity indicators and more importantly inflation start to roll over in the 3Q11. As such, the second derivative of tightening is unlikely to get worse from this point. Cavey expects policy will remain focused on squeezing lending in the remainder of 2Q, with slower growth promoting looser policy into 2H. Overall the recently released Chinese industrial output, inflation and new loans data for April showed that growth was a little softer, and price inflation at least wasn‟t accelerating, and that new loans were 5% lower YoY.Fig 1 Leading indicators in US and Europe to roll offa high base Fig 2 China PMI has been weak.... Puchasing Managers Index (PMI) - Index Index 65 65 China PMI Manufacturing 60 60 60 60 55 55 55 55 50 50 50 50 Index Index 45 45 Japan 45 2010 45 40 40 2009 Eurozone Median 2005-2007 35 35 2011 40 2008 40 China 30 30 USA 35 35 25 25 Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec 2005 2006 2007 2008 2009 2010 2011Source: ISM, Markit, Macquarie Research, May 2011 Source: NBS, Macquarie Research, May 2011Fig 3 ...but activity indicators in China have held firm Fig 4 Monetary conditions don‟t need to get any tighter Industrial production (LHS) YoY YoY 25% Floor space under construction (RHS) 60% 20% 40% 15% 20% 10% 5% 0% 0% -20% Jun 07 Mar 08 Dec 08 Sep 09 Jun 10 Mar 11Source: NBS, Macquarie Research, May 2011 Source: NBS, Macquarie Research, May 201117 May 2011 3
  4. 4. Macquarie Research Commodities Compendium World ex-China PMIs moderating slightly but still point to solid growth - After a strong finish to 2010, leading indicators and manufacturing activity have remained robust in the world ex-China. This surge, however, looks set to moderate. Leading indicators like the PMIs appear set to drop from their current very high levels. This is not particularly alarming given the PMIs are likely to remain in expansionary territory. Japan is the exception due to the impact of the Tohoku earthquake in March. We understand that the disruption to manufacturing shouldn‟t be too severe beyond June, with the power deficit likely to be more of an issue for residents rather than industry. Near term cyclical slowdown around strong long term trend - The near term inflection point in activity growth appears to be a normal part of the economic cycle rather than a deviation from trend. And it does appear that trend growth in industrial production remains healthy in the wake of the financial crisis (chart below). Since industrial production reclaimed its previous peak in early 2010, it has grown at around the same rate as seen prior to the financial crisis, to levels around 5% above the previous peak. Growth has been geared towards Asia and set to remain so - The growth in industrial output since the downturn has been driven largely by Asia. Indeed, industrial output in advanced economies is yet to reclaim the previous peak. This is no different to the period leading up to the pre-crisis peak, with Asian IP growing by 52% since the start of 2005 to early 2008, while advanced economy IP increased by 7% in the same period. Our forecasts assume these trends will continue over the medium term. Fig 5 Global industrial production is growing at around the same pace as pre- crisis since the previous peak in activity was reclaimed in early 2010 World industrial output in various 110 cycles Pre-crisis trend Index: At peak industrial output = 100 105 Pre-crisis peak reclaimed 100 95 Mid 1970s 90 Current Cycle 85 1 7 13 19 25 31 37 43 49 55 61 67 73 79 Months from peak 85 Source: CPL, Macquarie Research, May 2011 We assume the end to QE2 and European debt issues will not significantly disrupt commodity consumption, although they can impact sentiment - the dramatic drop in exchange trade commodities in the past few weeks highlights the vulnerability of prices to changes in sentiment towards the macroeconomic situation in the US/Europe. Our view is that the end of QE2 in the US will not be disorderly to debt or currency markets. We would note that while a generally declining US dollar has been supportive of rising commodity prices in recent years, it is not a necessary condition for commodity price strength (indeed there are numerous periods historically where the US dollar has appreciated and commodities have gone up). The unpredictable nature of weather and tighter supply chains means that the risks around our price forecasts are skewed to the upside – While we aim to have evenly balanced risks in our modelling of commodity demand and supply, the apparently increasingly unpredictable nature of weather conditions and tighter supply chains (the latter in the face of lower credit availability from banks and high commodity and input prices) mean that risks are actually likely to be skewed to the upside for our s/d balances and thus price forecasts over the medium to long term.17 May 2011 4
  5. 5. Macquarie Research Commodities Compendium Steepening cost curves mean prices higher for longer (with cash generation from low cost assets very strong and very high levels of capex) - With many high cost producers processing lower grade ore and/or utilising relatively inefficient equipment or process routes in the face of high commodity prices, the effect on higher cost producers (particularly from energy price rises) is much more notable than for low cost assets. Rising marginal costs of output (particularly in iron ore), together with RMB appreciation (for commodities where China is the marginal cost producer) are set to continue to steepen the overall cost curve in US dollar terms, supporting „stronger for longer‟ commodity prices, and resulting in particularly strong cash generation from low cost assets. Low cost miners or miners operating in particularly high margin industries (say, copper) are expected to deal with this cash flow in one or more of the following ways in 2011: 1. Capital return to shareholders, though miners have not engaged in this extensively in the past. 2. Increased M&A activity. 3. A large push in sustaining capital spending, particularly given that much was deferred from the crisis in 2009. This should provide yet another strong boost for the machinery sector. 4. A focus on the organic growth pipeline, with a potential implication an increase in the long run prices being used by miners to value projects. The upshot of 3 and 4 is likely to be a record year for capex in 2011, across a number of areas, as the need to source ever-more taxing commodity units sets miners an ongoing challenge.Fig 6 Base metals forecasts – short, medium and long term 2010 2011 2011 2011 2011 2011 2012 2013 2014 2015 Unit CY Q1 Q2 Q3 Q4 CY CY CY CY CY LT $2011Copper New c/lb 342 438 432 500 500 467 525 350 300 350 220 Old c/lb 342 420 480 550 550 500 500 350 300 350 220 %chg - 4.2% -10.0% -9.1% -9.1% -6.5% 5.0% - - - -Aluminium New c/lb 99 114 120 120 120 118 105 120 125 130 110 Old c/lb 99 120 120 120 120 120 100 120 125 130 110 %chg - -5.4% - - - -1.4% 5.0% - - - -Zinc New c/lb 98 109 103 102 108 105 111 120 115 100 85 Old c/lb 98 110 115 105 110 110 119 125 110 100 85 %chg -0.0% -1.3% -10.4% -2.9% -1.8% -4.2% -6.5% -4.0% 4.5% - -Nickel New c/lb 990 1,220 1,150 1,050 1,025 1,111 950 875 850 900 900 Old c/lb 990 1,175 1,150 1,050 1,025 1,100 950 875 850 900 900 %chg - 3.9% - - - 1.0% - - - - -Lead New c/lb 97 118 115 111 117 115 118 125 118 100 85 Old c/lb 97 115 118 110 113 114 119 120 100 90 80 %chg -0.0% 2.8% -2.1% 0.9% 4.0% 1.4% -0.9% 4.2% 18.0% 11.1% 6.3%Tin New c/lb 926 1,359 1,360 1,350 1,385 1,363 1,388 1,180 1,125 1,030 907 Old c/lb 926 1,200 1,175 1,125 1,100 1,150 1,000 800 650 700 500 %chg - 13.2% 15.7% 20.0% 25.9% 18.6% 38.8% 47.5% 73.1% 47.1% 81.4%Source: Macquarie Research, May 2011 17 May 2011 5
  6. 6. Macquarie Research Commodities CompendiumFig 7 Bulk commodity price forecasts 2010 2011 2011 2011 2011 2011 2012 2013 2014 2015 LT $2011 Unit CY Q1 Q2 Q3 Q4 CY CY CY CY CY Long termAust fines to Asia New c/mtu fob 80 183 239 278 270 255 261 270 267 245 232 110 % chge yoy 88.6% 42.4% 3.7% -1.4% -8.3% -4.9% Previous 183 183 250 250 250 250 237 224 194 181 94 % change - 30.8% 11.2% 7.9% 2.0% 4.2% 14.1% 18.9% 25.8% 28.1% 17.0%Aust lump to Asia New c/mtu fob 103 248 264 306 302 288 304 295 290 270 255 135 % chge yoy 121.1% 22.8% -2.9% -1.9% -6.8% -5.6% Previous 210 210 280 280 280 280 266 254 224 207 119 % change 18.2% 26.2% 9.3% 7.9% 2.7% 8.6% 11.2% 14.2% 20.7% 23.4%Brazil pellet to Asia New c/mtu fob 118 235 283 335 324 312 314 327 324 298 274 146 % chge yoy 112.4% 33.7% 4.3% -1.1% -8.1% -7.8% Previous 235 235 305 305 305 305 294 283 252 229 133 % change - 20.8% 9.9% 6.5% 2.5% 3.0% 11.3% 14.1% 18.2% 20.0% 9.8%Spot China cfr (62% Fe) New $/t cfr 115 147 180 176 168 187 178 178 176 163 155 80 % chge yoy 82.8% 21.1% 0.3% -1.1% -7.8% -4.6%Spot freight Aust-China New $/t 10 7 8 9 9 8 10 10 10 10 11Spot freight Brazil- China New $/t 21 19 22 22 22 21 22 23 23 24 22 2010 2011 2011 2011 2011 2011 2012 2013 2014 2015 LT $2011 Unit CY Q1 Q2 Q3 Q4 CY CY CY CY CY Long termThermal coal - Jap reference New $/t fob 98 98 130 130 130 130 120 100 95 95 80 Previous 98 98 130 130 130 130 120 92 92 95 80 % change - - - - - - - 8.7% 3.3% - -Spot thermal coal - fob RB New $/t fob 91 121 121 105 110 114 97 91 85 91 75 Previous 91 121 118 95 100 108 97 85 83 91 75 % change - - 2.5% 10.5% 10.0% 5.3% 0.5% 7.4% 2.4% - -Semi-soft coking coal New $/t fob 164 180 264 250 222 238 204 179 162 155 95 Previous 141 180 270 200 175 206 157 179 139 128 90 % change 16.9% - -2.2% 25.0% 27.0% 15.4% 30.0% - 16.8% 20.8% 5.6%LV PCI coal New $/t fob 171 180 275 262 234 250 217 194 178 173 115 Previous 149 180 275 210 185 213 168 194 154 146 110 % change 15.1% - - 24.8% 26.6% 17.6% 29.4% - 15.6% 18.3% 4.5%Hard coking coal New $/t fob 215 225 330 315 285 303 264 236 223 215 145 Previous 191 225 330 260 235 263 221 234 208 178 135 % change 12.6% - - 21.2% 21.3% 15.2% 19.2% 1.1% 7.2% 21.1% 7.4%Coke - spot fob China New $/t fob 453 473 458 442 439 481 455 435 438 423 330 Previous 453 470 485 480 460 474 433 450 415 378 300 % change - 1.6% 5.2% -3.3% 5.4% 11.9% 10.0%Manganese ore New c/mtu fob 7.3 5.8 6.5 7.0 7.0 6.3 5.5 Previous 7.2 7.7 8.0 7.0 6.5 6.5 5.5 % change 1.7% -24.9% -18.8% - 7.7% -3.8% -HC FeMn New $/t 1,382 1,300 1,250 1,250 1,300 1,275 1,400 1,450 1,450 1,300 1,100 Previous 1,382 1,300 1,450 1,550 1,550 1,463 1,450 1,350 1,300 1,300 1,100 % change - -12.8% -3.4% 7.4% 11.5% - -Steel - Average HRC New $/t 653 800 826 785 766 794 802 808 780 768 590 Previous 653 799 788 729 711 757 720 808 744 746 570 % change - 0.1% 4.9% 7.7% 7.7% 5.0% 11.4% - 4.8% 2.8% 3.5%Source: SBB, Platts, globalCOAL, Macquarie Research, May 2011Fig 8 Precious metals and uranium forecasts Unit 2010 2011 2011 2011 2011 2011 2012 2013 2014 2015 LT $2011 CY Q1 Q2 Q3 Q4 CY CY CY CY CY Long termGold New $/oz 1225 1384.3 1525 1575 1475 1490 1350 1219 1088 1050 850 Old $/oz 1225 1365 1435 1550 1475 1456 1350 1219 1088 1050 850 % change - 1.4% 6.3% 1.6% - 2.3% - - - - -Silver New $/oz 20 31.66 37 33 29 33 18 20 18 17 13 Old $/oz 20 28 28 26 24 27 17 20 18 17 13 % change - 13.1% 32.1% 26.9% 20.8% 23.3% 5.5% - - - -Platinum New $/oz 1605 1794 1825 1850 1900 1842 1850 1750 1850 1900 1650 Old $/oz 1605 1750 1800 1850 1900 1825 1850 1750 1850 1900 1650 % change - 2.5% 1.4% - - 1.0% - - - - -Palladium New $/oz 524 792 760 850 1000 851 750 744 750 750 700 Old $/oz 524 750 760 850 1000 840 750 744 750 750 700 % change - 5.6% - - - 1.3% - - - - -Uranium spot New $/lb 46 64 57 58 60 60 56 45 60 65 50 Old $/lb 46 68 75 75 70 72 70 65 65 65 50 % change - -4.9% -24.0% -22.7% -14.3% -16.8% -20.0% -30.8% -7.7% - -Source: LME, Macquarie Research, May 201117 May 2011 6
  7. 7. Macquarie Research Commodities Compendium Copper The market is tightening up and deficit will bite in 2H11, 2012 The bull market is From current spot prices, our most bullish call in base metals is copper, notwithstanding our on, with 2011 and short term copper sell call we put in place on March 7th and re-iterated on April 12th this year. 2012 likely to be the After a period of scrap and consumer de-stocking and weak Chinese semi‟s output (high peak years prices and tight credit), the fundamentals in the copper market are starting to turn and we see this continuing for the remainder of 2011 and into 2012. In particular, May has seen scrap discounts narrow, TCs fall, SHFE stocks falling sharply, LME stocks start to decline, Chinese physical premiums rise, the Chinese forward curve move into backwardation, the Chinese import arbitrage go from negative to slightly positive, and semi‟s output show signs of improving in China. Ex-China continues to recover, with consumption less than 10% below the level it was in 2007/1H08 before the financial crisis. We expect that a 350-400,000t deficit in 2011 will see total global copper inventories in terms of weeks of consumption fall to low levels (similar to those seen in the last boom period), and we continue to forecast a 200,000t deficit in 2012. While our base case is that very strong mine supply growth on a two-three year view will move the market into small surplus in 2013/14, inventories are not expected to rise much above critically low levels (about three weeks of consumption) and as such, prices are forecast to remain >US$3/lb over the period.Fig 9 Global copper supply and demand balance000 tonnes 2008 2009 2010f 2011f 2012f 2013f 2014f 2015fWorld Consumption 18108 17416 18961 19821 20650 21489 22370 23295% Change Y-o-Y 0.1 -3.8 8.9 4.5 4.2 4.1 4.1 4.1World Production 18389 18256 18815 19441 20464 21785 22710 23063% Change Y-o-Y 2.7 -0.7 3.1 3.3 5.3 6.5 4.2 1.6Balance 281 840 -146 -380 -187 296 340 -233World stocks (all) 1164 1921 1656 1276 1089 1385 1725 1492Stocks (Weeks global) 3.3 5.7 4.5 3.3 2.7 3.4 4.0 3.3---Including ETF holdings of 150kt end 2011, 200kt end 2012 -- -- 4.5 3.0 2.2-- --LME Cash Price (c/lb) 316 234 334 467 525 350 300 350LME Cash Price ($/t) 6968 5152 7361 10304 11574 7716 6614 7716Source: ICSG, WBMS, CNIA, Macquarie Research, May 2011 Our bullish 3-18 month copper view rests on three pillars: Chinese copper semi‟s output will „normalise‟. By semi‟s normalising, we mean, semi‟s output recovering from the relatively low levels seen in Jan/Feb/Mar 2011, to a level which gives 7% YoY growth for full year 2011. On this basis Chinese consumption of copper units (refined and scrap) should rise by around 10% from March levels through the remainder of 2011 (normally consumption is strongest in May/June but this may be delayed in 2011 owing to a temporary squeeze on semi- fabricators owing to tight credit and high prices). That global consumer de-stocking will slow /end, with upside from potential re- stock. Consumer stocks are very difficult to get data on. However, we do have significant anecdotal information to suggest that Chinese consumers have de-stocked from 10-14 days of stocks in mid 2009 to 2-3 days in 2H10 (voluntary de-stocking owing to higher prices), and practically nothing recently (hand to mouth stock levels owing to involuntary de-stocking following the tightening in credit conditions in 1Q11). Outside of China ,various anecdotes point to consumers consolidating their supply chains and reducing stocks, firstly in late 2008/09 (in line with lower demand) and then de-stocking further over the past six months (owing to higher prices and tight credit). On the one hand this consumer de-stocking has resulted in rising visible stocks (stock shifting, exaggerating the apparent global surplus in recent months), and on the other this de-stocking has reduced refined demand. As global de-stocking is largely thought to have finished, consumer consumption of refined copper should rise significantly over the coming months. To the extent Chinese consumers are underutilised owing to tight credit; they could raise output and restock at the same time over the coming six months, which would be particularly bullish.17 May 2011 7
  8. 8. Macquarie Research Commodities Compendium That global scrap de-stocking will slow / end. The increase in scrap availability evidenced by a sharp widening in scrap discounts globally which began in Sept/Oct 2010 and evidenced by the increased use of scrap by Chinese smelters and refiners through 2H10 is reportedly nearing an end. At the CESCO conference, we spoke with scrap market participants and heard that scrap de-stocking was well advanced in Europe, and to a lesser extent scrap de-stocking had taken place in the US. In line with this we have seen a significant narrowing of scrap discounts across the globe (particularly in China), as per Figure 11. In addition there are medium term supply risks such as unexpected weather issues (another La Nina in 2012 for example affected Chilean output from the SIC grid) or political issues (which could affect DRC output or Humala potentially winning the Peruvian election in June and nationalisation impacting future Peruvian copper supply growth). So far in 2011 we have used up over half of our 720,000t disruption allowance, and we are less than half way through the year. Although we cannot be certain, we continue to think it is more likely than not that the Blackrock (US$1bn) and JP Morgan (US$0.5bn) physically backed copper ETFs will be approved and will absorb at least the initial 150,000t of copper. In Fig 9, we show the impact on global stocks in terms of weeks of consumption if 150,000t of copper is “taken” from the market as at end-2011 and 200,000t as at end-2012.Fig 10 Treatment charges falling, set to continue Fig 11 Chinese scrap market tightening up Spot Treatment Charges Refined metal price (excl Vat) - LHS 50 70,000 No 1 Scrap copper (ex Vat) - LHS 5000 Scrap discount - RHS Scrap Discount to SHFE cash prices Rmb/t 2003 2004 2005 2006 2007 45 65,000 2008 2009 2010 2011 4000 40 60,000 Spot TC/RCs (Combined) 35 55,000 3000 30 50,000 000Rmb/t 2000 25 45,000 1000 20 40,000 15 35,000 0 10 30,000 -1000 5 25,000 0 20,000 -2000 Nov 07 Nov 08 Nov 09 Nov 10 Jul 07 Jul 08 Jul 09 Jul 10 Mar 07 Sep 07 Mar 08 Sep 08 Mar 09 Sep 09 Mar 10 Sep 10 Mar 11 Jan 07 May 07 Jan 08 May 08 Jan 09 May 09 Jan 10 May 10 Jan 11 Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec May 11 Month of Calendar YearSource: ICSG, WBMS, CNIA, Macquarie Research, May 2011 Source: ICSG, WBMS, Brookhunt, Macquarie Research, May 2011Fig 12 Supply forecasts look ambitious Fig 13 Ex-China recovering solidly – YoY growth Copper Mine Supply Changes 20% 1500 Post-disruption 1400 15% 1300 1200 10% 1100 1000 5% 900 % Change YoY 000 tonnes 800 0% 700 600 -5% 500 400 -10% 300 200 -15% 100 0 -20% -100 -200 -25% -300 -30% 2011f 2013f 2015f 1985 1987 1989 1991 1993 1995 1997 1999 2001 2003 2005 2007 2009 Mar-07 Mar-08 Mar-09 Mar-10 Mar-11 Jan-07 May-07 Jul-07 Sep-07 Nov-07 Jan-08 May-08 Jul-08 Sep-08 Nov-08 Jan-09 May-09 Jul-09 Sep-09 Nov-09 Jan-10 May-10 Jul-10 Sep-10 Nov-10 Jan-11Source: ICSG, Macquarie Research, May 2011 Source: ICSG, WBMS, CNIA, Macquarie Research, May 201117 May 2011 8
  9. 9. Macquarie Research Commodities Compendium Aluminium A significant underperformer in the face of solid global growth Aluminium prices We have been „short-term‟ bullish on the prospects for aluminium from October 2010 but we will only hold up as turned neutral on aluminium last month as the price got into the high US$2600‟s/t. As at the long as LIBOR rates time of writing spot prices were trading at ~ US$2,500/t. remain low The bullish case for aluminium only lasts while interest rates remain low and bank/trader opportunity cost of capital remains low. This is because there is a vast amount of aluminium in warehouses, tied up, under financing deals that return only 0.5-2% annualised which will become available if the deals roll off (we estimate there is 3-3.5mt of off market, off LME, inventory that could fairly easily come to market). Until then, the aluminium price is likely to range trade between perceived cost support of US$2,400-2,500/t and US$2,700-2,800/t. The market balance is actually very tight ex-China, as evidenced by record high aluminium physical premiums. In China, the market has been in balance overall this year, but stocks are falling at present and this is set to continue despite a strong production rebound (following the efficiency related power cuts which disrupted industry output in 4Q10). In our view there will be a lot of noise surrounding power restrictions, rising tariffs and energy costs for Chinese aluminium smelters, however the base case is that production will continue to rise (assuming current prices) through 2H11 taking the Chinese market into small surplus by the end of the year. Our best guess is that interest rates will not rise significantly until 1H12, when we expect aluminium to trade on average at US$2,200/lb in 2012, following the release of up to 3-3.5mt of off market aluminium stock. Given rising LIBOR rates and opportunity costs of capital allocated to aluminium financing are most likely to occur in an improving global economic environment, aluminium is set to underperform in this environment (our base case). It is worth noting that we recently upgraded our 2H12 price forecast by 10% from US$2,200/t to US$2,420/t owing to our belief that a pullback is likely to be shorter and shallower than previous aluminium price corrections. The reasoning is two fold – firstly costs are rising sharply so the price doesn‟t need to fall as far for as long to lead to high cost smelter closures (in China), and secondly that Chinese smelters can shut and restart capacity more quickly than western smelters (meaning the costs of shutting are lower and there is less reluctance to hold of on shutting capacity in response to lower prices). Fig 14 Developed world physical premia point to an Fig 15 But reported stocks are still very high, and EXTREMELY tight physical market for aluminium off market stocks still very substantial 20 3200 160 Average premium, $/t (lhs) 3200 Producer - Consumer - Port LME cash Al price, c/lb (rhs) Exchange 18 Al price 3000 150 3000 2800 140 2800 16 2600 130 2600 14 Weeks of World consumption 2400 Average Premium $/t 120 2400 12 Al price $/t 2200 110 2200 $/t 10 2000 100 2000 8 1800 90 1800 6 1600 80 1600 4 1400 70 1400 2 1200 60 1200 0 1000 50 1000 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 Source: LME, CRU, Macquarie Research, May 2011 Source: LME, CRU, Macquarie Research, May 201117 May 2011 9
  10. 10. Macquarie Research Commodities Compendium When the financing saga ends, that is the entry point: The first reason is fundamental – aluminium has the best demand growth prospects of any base metal we cover over the next 3-5 years and the largest producer (China) will find it very difficult to displace its high-cost capacity with lower-cost capacity AND raise supply to meet growing demand over the same period. The second reason is that the likely presence of a physical aluminium ETF will mean that the price rebound post correction will be accelerated by speculators buying the ETF, which has the pro-cyclical effect of helping tighten the market. How low could aluminium go in the worst case scenario? In our view, anything below US$2,000/t would be a good entry point.Fig 16 Refined aluminium supply and demand balance (price collapse see‟s China cut output within 12 months)000 tonnes 2008 2009 2010e 2011f 2012f 2013f 2014f 2015fWorld Consumption 36662 34160 40984 44976 48429 51226 54140 57251% Change Y-o-Y -3.5 -6.8 20.0 9.7 7.7 5.8 5.7 5.7World Production 39737 37634 41770 44258 47375 51626 55136 58506% Change Y-o-Y 4.0 -5.3 11.0 6.0 7.0 9.0 6.8 6.1Capacity Utilisation 90.1 81.9 83.4 85.5 88.4 91.6 93.2 92.9Global Balance 3075 3474 786 -717 -1054 401 997 1256PricesLME Cash Price (c/lb) 116.8 74.9 91.9 118.4 110.0 120.0 125.0 130.0LME Cash Price ($/t) 2575 1652 2027 2610 2425 2646 2756 2866Source: IAI, CRU, CNIA, Macquarie Research, May 2011Fig 17 Longer term financing no longer profitable – Fig 18 Chinese output ramp only just keeping up withonly just working on 3 month time frame consumption, and pace of ramp up set to slow Profitability on 12 month aluminium financing deals 19 Aluminium Production (Annualised Rate) 26.5 120 Assumes 1% cost of finance 18 100 China (LHS) 26.0 17 80 World Ex-China (RHS) 16 25.5 Annualised Production (m tpa) Profit or loss on financing 60 15 40 25.0 14 20 13 24.5 0 -20 12 ` 24.0 -40 11 -60 10 23.5 -80 9 LME storage costs -100 8 23.0 Half LME storage costs -120 7 7c/day storage costs 22.5 -140 6 Apr 09 Aug 09 Apr 10 Aug 10 Apr 11 Jan 09 Feb 09 Mar 09 Jun 09 Feb 10 Jun 10 Oct 10 May 09 Jul 09 Sep 09 Oct 09 Nov 09 Dec 09 Jan 10 Mar 10 May 10 Jul 10 Sep 10 Nov 10 Dec 10 Jan 11 Feb 11 Mar 11 5 22.0 2004 2005 2006 2007 2008 2009 2010 2011Source: IAI, CNIA, Macquarie Research, May 2011 Source: IAI, CNIA, Macquarie Research, May 2011Fig 19 Aluminium demand by region – growth to be Fig 20 Chinese output growth, largely from selfdriven by China generated power and relatively low cost (for China) 000 tonnes 2008 2009 2010f 2011f 2012f 2013f 2014 2015 Aluminium Production Growth by Region N.America 5620 4230 5060 5465 5683 5797 5913 6031 Japan 2310 1730 2175 2284 2375 2470 2569 2672 5 W. Europe 6785 4825 6160 6468 6597 6729 6864 7001 China 12202 14269 17188 19594 21946 23701 25597 27645 4 Asia (ex China, Japan) 5204 5381 6172 6574 7002 7459 7946 8466 CIS 1000 700 800 950 998 1047 1100 1155 3 Other 3541 3025 3429 3641 3828 4022 4151 4281 Total 36662 34160 40984 44976 48429 51226 54140 57251 2 Million tonnes World Ex China 24460 19891 23796 25381 26483 27524 28542 29605 1 % Change 2008 2009 2010f 2011f 2012f 2013f 2014 2015 USA -10.3 -24.7 19.6 8.0 4.0 2.0 2.0 2.0 0 Japan -4.1 -25.1 25.7 5.0 4.0 4.0 4.0 4.0 Europe -6.2 -28.9 27.7 5.0 2.0 2.0 2.0 2.0 -1 China -0.7 16.9 20.5 14.0 12.0 8.0 8.0 8.0 China Middle East Asia -1.3 3.4 14.7 6.5 6.5 6.5 6.5 6.5 -2 India CIS Oceania NAFTA CIS -7.0 -30.0 14.3 18.8 5.0 5.0 5.0 5.0 Europe Japan/Other Asia -3 South America Africa Other 2.9 -14.6 13.3 6.2 5.1 5.1 3.2 3.1 Total Total -3.5 -6.8 20.0 9.7 7.7 5.8 5.7 5.7 -4 World Ex China -4.8 -18.7 19.6 6.7 4.3 3.9 3.7 3.7 2007 2008 2009 2010 2011f 2012f 2013f 2014f 2015fSource: ISM, AA, Macquarie Research, May 2011 Source: IAI, CNIA, Macquarie Research, May 201117 May 2011 10

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