The divergence between base metal and the economic leading indicators has been one of the major concerns participants have about the current level of high prices, defying the traditionally strong, pro-cyclical relationship between OECD industrial production and metal prices.
This divergence can be explained by three factors:
— the importance of Chinese growth to metals demand (not included in the OECD figures);
— relatively constrained level of supply growth for many of the base metals; and
— the low level of inventories and deficit markets of 2004, which mean that even modest positive growth is sufficient to maintain pressure on base metals prices, owing to physical tightness.
That said, it is true that a move from slower economic growth to actual contraction would obviously have serious consequences. Hence, we are relieved to see that the latest OECD leading indicators for both the OECD as a whole and for the U.S. specifically, are suggesting a modest bottoming-out of the growth slowdown.
Of course, it is too early to establish this as the clear trend, but should future indicators suggest that an absolute contraction will be avoided, then this will be supportive for our outlook for base metals over the coming months.
The base metals complex has pushed higher in recent sessions (buoyed by the falter in the dollar recovery, with the euro bouncing back towards 1.30) and triggered buying by funds that have used the dollar as a trading signal for their commodities position throughout this rally. Attention of the metals market will likely remain focused on foreign-exchange market developments over the short term.
At presstime, copper had risen back toward US$3,100 per tonne. The move in the dollar assisted a tight market, and Chinese demand is expected to resume following the end of the lunar new year holidays. On the other hand, increases in London Metal Exchange inventory have raised concerns about the extent of off-exchange inventories. Modest long liquidation continues in copper, with the net futures position falling by only 2,500 contracts, to 14,800 contracts, following a sizable 3,600 reduction in total speculative long positions that was partially offset by a 1,100 fall in total speculative short positions. We see this as a reasonable depiction of the current lack of conviction seen across many of the base metals, particularly given the Chinese new year holidays.
Aluminum prices have firmed back toward US$1,850 per tonne, though the metal did not receive quite the level of dollar-driven buying as seen in copper, arguably because it has also seen less short-selling interest in recent weeks. Estimated aluminum stocks at the Japanese ports of Yokohama, Nagoya and Osaka totalled 320,100 tonnes at the end of January, the highest since December 1998, and were up 8.7% from a month earlier and 28.5% from a year before, with officials citing early shipments from Venezuelan and Brazilian smelters as the reason. Reportedly, and more optimistically, Japanese buyers have also been building up aluminum stocks in line with rising domestic demand.
Zinc prices have firmed to US$1,330 per tonne, and we see this metal, along with aluminum, as benefiting from renewed fund interest generally across the complex. Both metals are also expected to having strong upward price potential for the rest of the year. The question for zinc remains, How much new supply will be activated by the rise in prices? We note, with some concern, recent statements from Andrei Kozitsyn, general director of Urals Mining & Metals Co., about plans to increase that company’s overall zinc production from about 130,000 tonnes in 2004 to 180,000 in two or three years’ time. UMMC is considering spending up to $250 million to build a zinc plant capable of producing 100,000 tonnes of the metal a year; it would be situated in the Bashkortostan region of the Urals.
Lead and tin also saw increases, to US$915 and US$7,995 per tonne, respectively. The only metal to buck the positive trend was
In broader industry news we noted that U.S. machine tool demand rose by 43.6% in 2004 to US$3 billion, compared with US$2.1 billion in 2003, according to a joint report released by the American Machine Tool Distributors’ Association and the Association for Manufacturing Technology. The Bush Administration has extended, to the end of 2007, a 50% expensing allowance that permits businesses to write-off a large percentage of the cost of a machine tool. The initial closing date was the end of 2004.
— The opinions presented are the author’s and do not necessarily represent those of the Barclays group. For access to all of Barclays’ economic, foreign-exchange and fixed-income research, go to the web site at barclayscapital.com. Queries may be submitted to the author at ingrid.sternby@barcap.com
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