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Edward Bell - Senior Director, Market Economics
Published Date: 09 June 2021
Industrial metals prices have taken a beat in recent weeks, slipping from their year-to-date highs seemingly as financial markets in general temper their expectations for inflation. The LMEX index of base metals has fallen around 3% from its ytd high but is still up a strong 24% since the start of the year. Those gains have come in fits and starts, however, with lurches higher in February and April followed by periods of consolidation.
Source: Bloomberg, Emirates NBD Research
Macro conditions for base metals remain positive. Global manufacturing PMIs remain solidly in expansionary territory with the global PMI hitting 56 in May with manufacturing numbers in China, the US and Eurozone economies still reporting solid growth. There have been some signs of momentum easing—year on year growth in China’s imports of unwrought copper products slowed for a third month running in May while imports of iron ore and concentrate hit its lowest level so far this year in May. But as Covid-19 vaccine programmes continue to expand and help to firm up consumer confidence, we would expect to see a solid demand story play out over the next 18 months, across the metals complex.
Inventory levels vary by metal. Aluminium stocks in LME warehouses have pushed higher after a few large deliveries toward the end of the first quarter while nickel stockpiles have remained reasonably steady since the start of 2020. The real apparent shortages are in copper and tin where stockpiles of both are near multi-year lows. Given that the copper market is estimated to have been in a deficit last year and is likely to remain so this year, the shortage of material immediately available will help to provide a floor to prices.
There are also some political risks at work that could support the copper market in particular. Peru, the second largest source of mined copper, is in the midst of a second-round presidential run-off with the vote tally leaning toward a left-leaning candidate, Pedro Castillo. While Castillo has seemingly toned down some rhetoric around the nationalization of mines, a left-leaning administration may seek to extract more revenue out of the country’s mining sector particularly at a time when copper prices are at their highest level in years.
Source: Bloomberg, Emirates NBD Research
The recent cooling of metals prices likely reflects markets pricing in some incipient tightening of monetary policy in key developed economies. Tighter policy, particularly in the form of higher rates, could nip off the post-Covid recovery in the bud and lead to lower industrial investment and demand. But we expect policy from the US Federal Reserve and European Central Bank will remain highly accommodative for the rest of 2021 with perhaps only discussions of easing accommodation gaining more emphasis in coming months, rather than any change in policy.
The test for metals prices in the coming months will be the level of inflation in developed markets. Price growth in the US has already exceeded 4% on the headline CPI in April and projections are for the May figure to come in closer to 5%. In the Eurozone, inflation has hit 2%, above the ECB’s target. While strong inflation prints have so far been met with relatively little reaction from bond markets—yields on 10yr US treasuries have declined steadily since early April this year—we nevertheless expect inflation prints will keep metals markets jittery.
Inflation numbers out of China have also been elevated, raising the risk of stimulus there being pulled back and having a more immediate impact on metal demand. Producer price inflation hit 9% y/y in May, up from almost 7% y/y recorded for April as Chinese factories struggle with supply-chain shocks and elevated shipping costs brought about in part by the Covid-19 pandemic. The Chinese government has tried to take some of the fervour out of commodity prices including tracking “malicious speculation” in futures markets and easing up on regulations that limit production. There doesn’t appear to be any passthrough yet from higher PPI onto consumer prices, at least domestically in China: CPI rose just 1.3% in May and has lagged PPI considerably since December 2020. If consumer prices started to shift substantially higher we would expect the government in China to ease back on stimulus measures, threatening metals markets with downside in a more severe way than anything the Fed or ECB can do.
Metals markets may be pricing in some monetary or fiscal policy tightening which would act as a drag on prices extending much beyond their current levels. But we nevertheless view the underlying fundamentals for most metals markets as quite strong at present. Our own forecasts are relatively conservative given how strongly prices have pushed this year but we will retain some room in our forecasts for a potential downside adjustment even as ultimately the case for higher prices, particularly in copper, remains compelling.
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