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Commodities Upturn Seen By 2016

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Pacific Money

Commodities Upturn Seen By 2016

Australian mining analysts are surprisingly optimistic about the outlook for resources.

Commodities Upturn Seen By 2016
Credit: Ore yard via

The resources boom may have faded, but the “super cycle” is far from over. That was the message from the Mining 2014 conference in Brisbane, Australia, with analysts forecasting an upturn even as key commodity prices continue to slide.

On Thursday, the price of iron ore dropped to a five-year low of $75.38 per ton in China, continuing a retreat that has seen the key steelmaking ingredient lose nearly half its value this year on a continued supply glut and weaker demand from China. According to Morgan Stanley, oversupply will drive the price of spot iron ore to $70 a ton by year-end, with the world’s biggest miners continuing to expand output.

Thermal coal prices have also slumped to five-year lows around $73 a ton, compared to the $120 reached in mid-2011, with sentiment hit by new Chinese coal tariffs along with a U.N. report calling for an end to coal-fired power. Gold prices have dived to four-year lows around $1,137 an ounce amid a rising U.S. dollar, which has reduced demand for the precious metal as a hedge against inflation, while oil prices have slipped into bear market territory on increased U.S. production and reduced demand.

Despite the gloom, analysts including Westpac senior economist Justin Smirk told the October 29-30 conference that an upturn was still in sight, despite recent economic and geopolitical “shocks” including Ukraine, Japan’s consumption tax hike, China’s slowdown and the Ebola scare.

“2014 has turned out to be surprisingly weak – we thought the world economy would recover better but it hasn’t…but we’re still seeing a better outlook for ‘15 and ‘16,” Smirk said.

“Chinese growth will be looking better next year; Japan’s speed bump is over; Europe is looking better and anxiety will be lower around the world,” he added. “We are currently about six years out of the global financial crisis, and most economies usually take around seven years to recover. That’s why we think ’15 and ’16 are looking like better growth years.”

According to Smirk, the resources ‘super cycle’ “is not over but “it has matured and will continue to do so…supply dynamics are shifting and now focusing on minimizing costs rather than lifting production at any cost.

“Just now is 3 am in the morning for the commodity cycle. Just how much prices can rise in 2015 will depend not just on the supply outlook but also the demand cycle. While not all commodities are equal, 2015 should be a better year with 2016 in line to be a vintage one.”

Westpac expects Chinese gross domestic product (GDP) growth to slip to 7.4 percent this year due to a weaker manufacturing and housing sector. However, the Australian bank sees the world’s second-biggest economy expanding to 7.5 percent GDP growth in 2015 and 7.6 percent the following year, assuming it remains in its “development cycle” phase.

“[China’s] fiscal policy plus exports must share the burden till there is a lift in the domestic economy…Housing activity will gradually improve, but not consistently until next year,” he said, although he noted the effects of a corruption crackdown on consumption.

The bank expects the United States to be a key driver of world growth, rising from 2 percent GDP growth in 2014 to 3.2 percent by 2016, while the Eurozone is expected to stabilize at 1 percent growth in 2015 and 2016. Japan’s GDP is forecast rising from 1 percent this year to 1.6 percent growth by 2016, while India is expected to post a rapid pickup, from a 5.5 percent expansion in 2014 to 7.7 percent by 2016 thanks to the “Modi effect” and low developed world interest rates.

However, Smirk warned that the rebound could fade by 2017/18 as the effects of higher interest rates hit world growth. “The second half of 2017, first half of ’18 is one to watch, based on interest rates and policies,” he said. “And if China actually goes into a [normal] business cycle rather than a development cycle, watch out.

Stock Picker’s Market

The mining sector’s volatility has hit junior exploration companies hard, but Breakaway Research senior resource analyst Mark Gordon said there were still opportunities in specific sectors.

Noting that junior explorers had been responsible for “about 60 percent of non-bulk discoveries in Australia” over the past 20 years, Gordon said current challenges included tough market conditions, bureaucratic hurdles and community activism.

“Most commodities are now trading relatively flat, although we have had a structural rise in prices since the beginning of the cycle [in 2003],” he said.

“The increase in supply generated during the boom should be able to largely handle expected demand increases for major commodities for the next few years … however there is the potential for some minor and strategic commodities to experience significant demand increases or supply contractions.

“The next market run will be largely due to consistent recoveries in the U.S. and European economies, sustained growth demonstrated by China and a pick-up in growth in other underdeveloped economies, such as India and Brazil.”

Gordon predicted “depressed gold prices” at around $1,200 to $1,400 an ounce “for a few years,” while he saw a mixed outlook for bulk commodities. However, he pointed to opportunities in strategic and specialty metals due to users’ need for diversified supply sources.

CRU Consulting’s Allan Trench was more bullish, however, noting that by 2023 there would be an extra $600 billion of commodities production value from China. “Ten years ago, the whole sector was only worth $150 billion globally,” he said.

“The individual dynamics of certain markets are having effects…[but] looking forward it’s still the case that base metals will outperform bulk commodities,” he said, forecasting further gains in aluminium, copper and zinc through to 2017.

Trench reaffirmed his view that while China would continue to grow, the “next China” would be “western and central China.”

“Western and central China is starting to punch above its weight and grow market share in terms of total output…Over time, China’s eastern seaboard will get closer to the OECD level [of urbanization], while central and western China will get closer to eastern China,” he predicted.

Trench said China’s growing nuclear industry “may do for uranium what it has done for iron ore,” predicting a long run uranium price of $75 a pound, more than double the current level. He also said “coal-fired power is not going to go away any time soon so the future of thermal coal is still bright,” despite predicting China would cut coal-fired power’s share of total power generation from 76 percent in 2012 to 64 percent by 2030.

He was also bullish on zinc, predicting a price of $4,000 a ton by 2017 on strong demand and falling supply.

However, he said CRU forecast a “gradually falling” iron ore price to around $85 to $90 a ton in real terms, with the exit of higher-cost producers unlikely to spark an immediate rally.

Looking ahead, Trench said the “hot” commodities with a more than 15 percent average price increase by 2018 included aluminium, coking coal, nickel, tin and zinc, with lead and copper expected to see lesser gains.

CRU expects prices of iron ore and oil to “cool” while the gold price contracts another 5 to 15 percent, with the worst outlook for silver, down by more than 15 percent.

However, with the Australian dollar expected to depreciate by around 15 percent versus the U.S. dollar, Trench said local miners in the right commodities could expect profit gains.

With plenty of clouds on the horizon, Asia’s miners will be hoping policymakers from Beijing to Brussels apply more stimulus measures should the promised upturn fail to arrive.