The View from London: This time might be different!

The View from London: This time might be different!

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Some say the copper price is too high and others say it is not high enough, but if the mantra of “the trend is your friend” is true, then the price trend is still pointing firmly up despite a recent dip on concerns that China is tightening policy and will crack down on speculative activity. Speculative activity is only serving to reinforce an already well established trend reflecting fundamental supply and demand imbalances. The same is true for most of the other metals. Whatever your view though, it is always worth asking: is the price rally in metals sustainable?

Is the price rally in metals sustainable?   

Iron ore, copper and palladium have spearheaded a broad-based rally in commodities over the past year, rising to record highs recently of more than $230/t, $10,000/t, and $3,000/oz, respectively. Not to mention tin, often the forgotten metal, which soared above $33,000/t. Some say the copper price is too high and others say it is not high enough, but if the mantra of “the trend is your friend” is true, then the price trend is still pointing firmly up despite a recent dip on concerns that China is tightening policy and will crack down on speculative activity.

Whilst traders and speculators/investors can have an effect on prices in the very near-term and do lift prices above fundamentally-justified levels, the reality is current price rises are driven by supply and demand fundamentals. In other words, fundamental supply and demand factors are in control and driving prices to sustainable, albeit elevated, levels. Speculative activity is only serving to reinforce an already well established trend.  Much reduced positioning on the exchanges implies that fresh length can be established or added to existing longs. The same is true for most of the other metals. Whatever your view though, it is always worth asking: is the price rally in metals sustainable? 

“The trend is your friend”

There is no simple explanation for the rally in metals prices over the past weeks, as in all probability, many factors are at work simultaneously. We can attribute these gains to strong demand in China, rebounding demand in the rest of the world as economies re-open, the promise of the “green” transition fuelling robust metals consumption in decades to come, and the ongoing shortfall in supply. By no means, an exhaustive list of factors, but a good place to start. As shown in the charts below, of the base metals complex, copper and tin are now officially in record territory as they wait for the other metals to catch up. Most of them have a long way to go, with aluminium being the closest.

Source: LME

It’s not all about China as the rest of the world is growing again

China’s growth is slowing due to an ageing population, high debt load, lower productivity and increasing international tensions will keep growth below the levels of the past 15 years. Although the overall first quarter growth was driven by production, more recent data suggests that services are taking over, while production growth is slowing. The expectation is that the recovery will lose steam as the initial pent-up demand dies out and because policy support is being scaled back and the government is unlikely to resort to more infrastructure spending because of the already high debt load.   

China is in its late industrialisation-urbanisation phase and, as highlighted in its 14th five-year plan, the long-term focus will shift from fixed assets investments into high tech, artificial intelligence, and green initiatives with a lower metals intensity per unit of GDP. China aims to peak its greenhouse gas emissions in 2030 and become carbon neutral by 2060. The steel sector, which contributes to 8-10% of carbon dioxide emissions is becoming a prime target for decarbonisation. The same could be said for the non-ferrous metals, particularly energy-intensive aluminium, but the green transition should mean that the likes of copper, nickel, cobalt, and lithium are clear winners and essential if energy transition requirements are to be met.

The future is bright, the future is green

On a more positive note, any weakness in China could be mitigated by stronger growth in the US and Europe as “green” stimulus spending gets underway. President Biden’s proposed $2.25tn infrastructure plan should see demand for industrial metals such as copper, aluminium, zinc, and nickel rise strongly. President Biden spelled out the details of a $1.8tn “American Families Plan” package, which will sit alongside a $2.3tn infrastructure package. This is in addition to the $1.9tn coronavirus relief package passed earlier this year and a $900bn stimulus bill passed under the Trump Administration. And so collectively, $7tn worth of either approved or proposed spending (over 10 years) is being front-loaded into the US economy, a third of total GDP (which totals $21tn). For the first time in two decades the US economy seems likely to grow faster and contribute more to global growth this year than China’s.

In the previous price cycle, China drove the commodity markets because it was providing greater than 100% of the demand growth. In the current environment we’re likely to see a much more coordinated, global impact on demand, which makes this cycle stronger.

Metals demand over the next decade will benefit as the greening of the global economy boosts demand and supply struggles to keep up. As reported in the Financial Times, Trafigura said that capacity utilization rates of its customers are the highest in a decade and that’s before stimulus money both in Europe and the US has started to flow. The US and Europe were becoming significant factors in the consumption of copper for the first time in decades. Before, it’s effectively been a China-only story. That is changing fast.

Supply response remains challenged

Rebounding economic activity is driving demand for many industrial commodities, which will leave miners challenged to meet supply needs. Buoyed by government stimulus efforts around the world, a surge in electric vehicle interest and the energy transition is also pressuring supply chains for other metals such as nickel, lithium, and cobalt. At the same time, miners are under pressure from investors and governments to reduce emissions, be environmentally responsible and more culturally aware.

ESG issues are to the fore

Addressing these ESG concerns while meeting rising demand will require significant transparency and flexibility going forward. These concerns are being seen most markedly in copper and tin prices. Copper is central to the infrastructure needed to support the electrification of transportation and the broader energy market over the next two decades. Tin is vital in solder to join things together and a lynchpin for the so-called fourth industrial revolution – existing and new technology, green or internet, seems to have a place for tin. The energy transition will transform demand for copper and other key metals, exposing a lack of supply by mid-decade.

Difficult investment = higher prices

Metals prices need to rise further to encourage enough new supply to meet projected demand from the global green revolution and to meet many governments’ goals of reaching net zero carbon emissions by the middle of this century, yet most of the world’s easy deposits had already been mined. Higher prices are required to encourage a lot of this more difficult investment, with new projects often in riskier areas including Russia and parts of Africa. In the case of copper, there are only a few large projects in development, while most of the world’s easily produced copper has already been mined. Even existing mines are under threat of increased mining taxes/royalties in Chile and Peru, and resource nationalism elsewhere. The current pipeline of projects likely to start producing in the next few years represents only 2.3% of forecast mine supply. This is well down on previous cycles, including 2010-13 when it reached 12%. 

What about the role of recycling and substitution?

Playing devil’s advocate, could higher metals prices mean that increased demand will be met by a combination of increased recycling and/or primary supply, and is enough attention being paid to the risk of substitution associated with higher prices?

Aluminium is one of the most recyclable materials on the planet and the International Aluminium Institute (IAI) is campaigning to ensure end-of-life products are returned into the aluminium recycling loop given the economic and environmental value of the metal in the global economy. The IAI said that aluminium demand is expected to increase by about 80% in 2050 due to rapid population and economic growth and the drive for sustainable solutions for a low-carbon society. The IAI forecasts that recycled aluminium could meet half of that demand, based on 2019 collection rates for end-of-life products.

As copper prices soar the threat from aluminium as a cheaper viable energy transmission alternative should not be ignored. Copper is a scarce resource, but there is an abundance of aluminium. Replacing copper with aluminium means that manufacturers material cost will be significantly lower and might shield against dramatic fluctuations in the metal markets. Aluminium is a serious competitor to copper in a number of high volume applications such as high- and mid-voltage power cables, busbars, transformer windings and motor windings. Adoption of aluminium magnet and auto wiring, air conditioner tubes and heat exchangers has steadily gained traction.

Only time will tell if this time might be different!

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