Sucden Financial Quarterly Metals Report October 2013

Quarterly Metals Report Q4 October 2013
Analysis & forecasts for Base & Precious Metals, Iron Ore & Steel
Contents Summary Economic Overview Metal Market Overview Precious Metals Aluminium Copper Lead Nickel Tin Zinc Steel Iron Ore 2 3 6 9 20 27 33 38 43 48 53 57
Compiled and Published by Sucden Financial Limited Metals Comments/Analysis: William Adams, Head of Research, FastMarkets.com Steve Hardcastle, Head of Client Services, Sucden Financial Limited
www.sucdenfinancial.com
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Quarterly Metals Report
Summary
October 2013
Summary
Gold
Range $1,270 1,350 with possible higher prices, contingent on debt ceiling negotiations.
Silver
Solid fundamentals supportive, but expect producer selling above $25. Range $20-25.
Platinum
Well supported at $1,280 marginal cost area. Upside limited to $1,650.
Palladium
Wide range anticipated, well supported at $600. Possible spike to $850.
Aluminium
Supported at marginal cost level of $1,750, dependent on premium movements but stock overhang may hinder any increases above $2,100.
Copper
Balanced to small surplus for fundamentals, but supported by financing deals. Range likely to be $7,000 $7,500 with an average of $7,250.
Lead
Holding up well, with supply deficit anticipated shortly. Supported at $2,050 with initial target $2,250.
Nickel
Supply/demand balance deteriorating, but bearish outlook clouded by Indonesia. Anticipated range of $13,800 15,000.
Tin
Balanced fundamentals but rangebound by Indonesian announcements, discouraging price increases above $25,000. Anticipated range of $22,000 $25,000.
Zinc
Supply surplus availability held in check by stock financing but with little upside incentive. Expected range of $1,800 2,050.
Steel
Well to-oversupplied with capability of matching increased demand from stocks and higher existing capacity utilisation. Fairly tight range for HRC with average $640 anticipated.
Iron Ore
Subdued following supply increases alongside weaker steel consumption will lead to tighter ranges. Anticipate support at $120 and resistance at $138 for this quarter
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Economic Overview
October 2013
Economic Overview
Our outlook for global growth has two themes: mixed engines of growth in the global economy and politics versus the economic fundamentals. Economic growth in the world has been largely stable at a relatively low level over the past three years, despite various economic headwinds and regional shifts in economic growth. Some emerging economies have moved from being the drivers of growth to becoming the laggards over this time while some of the more lacklustre developed economies have returned to positions of influence.
Macroeconomic outlook
Markets have had to contend with several changes to regional economic outlooks over the third quarter when politics and central bank politicisation drove markets and economic recoveries. Europe continued to drag on economic growth; while there is insufficient evidence to suggest a change in this outlook over the third quarter, the fourth quarter may be slightly more positive. In the US, stronger economic fundamentals, working credit channels and hefty support for the housing market had given the impression that it was ready to start to wean itself off quantitative easing (QE). But the consideration of life after QE may have been enough to send US 10-year swap rates to 3.0 percent from 1.8 percent, closing the gap between nominal growth rates and (long-term) nominal interest rates, suggesting that monetary policy is now significantly less effective a stimulant than it was. This comes against a backdrop of extreme political polarisation. In China, fears of a hard landing were averted by astute government policy driving a bounce in third-quarter GDP. Still, improvements in monthly data must be read in the context of last year's softer summer. In other emerging markets, the most pertinent reaction to Federal Reserve policy guidance over the past six months was the flight of capital, forcing the implementation of higher interest rates in many developed economies, following the US central bank's indication that it was looking to taper its QE programme from the second half. Meanwhile, major exportdriven economies, such as Germany and South Korea, had to compete with a resurgence in competiveness from Japan thanks to Abenomics.
China
With China's third-quarter GDP growth having rebounded to 7.8 percent from 7.5 percent in Q2, the country's new leadership seems well placed to embark on the next phase of economic reform and rebalancing following several turbulent quarters. A growth range of 6.5-8.0 percent would seem to be the new normal now that the new authorities have started to curb the credit binge and with the stimulus packages of 2009 and 2012 having faded. Recent days have shown that the Chinese authorities are keen to subside the bout of house price inflation, making hawkish comments about interest rates and availability of funding, and dampening sentiment. In exchange for accepting lower growth, Premier Li Keqiang will be allowed to pursue a cautious, yet simultaneously ambitious plan to liberalise certain parts of the financial system, such as the yuan, to increase China's global economic and financial influence. The Third Plenum of the 18th Chinese Communist Party Central Committee in November will tell us more. While usually focused on the economy, this Plenum may be a mixture of economic reform and environmental protection reform, allowing it to deal with some economic issues, such as overcapacity in energy-intensive industries, through the prism of environmentalism. Two areas that will be central to the government's announcement will be the reform of the financial system, in particular the shadow banking system and currency liberalisation, and industrial overcapacity. The clampdown on overcapacity and financial sector reform would both have a major impact on metals markets.
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Economic Overview
October 2013 The recent political upheaval in Washington could prove the catalyst for faster liberalisation of the yuan, with the Chinese currency hitting a 20-year high against the dollar and Chinese officials willingness to comment on the record on US internal politics. Finally, sequential economic data from China points to another moderate slowdown, with the Chinese economy moving back towards growth of 7.0 percent in the coming quarters.
The US
QE3 clearly drove the US recovery in 2013. Lower long-term interest rates increased access to mortgages, fuelling a 19 percent rise in house prices since the March 2012 low. This rise in prices boosted new home sales and construction and lowered the proportion of houses in negative equity, thus increasing access to credit, improving consumer spending and confidence. But this positive feedback loop forced the Fed to start the QE tapering conversation in June, which in turn took some positive momentum out of the housing market over the summer. Aside from housing, the US economy appears to be founded on solid fundamentals. We forecast US growth of 1.8 percent in 2013 and think the US current account deficit will fall to 4.3 percent in 2013 from 6.7 percent in 2012. Sequestration caused a fiscal drag of about 1.5 percent in 2013; GDP growth excluding the effects of sequestration was closer to 3.0 percent. We expect this fiscal drag to lessen next year and growth to strengthen gently to 2.6-2.8 percent, well below the Fed's present forecast. Despite the improving underlying fundamentals, the major risk for the US over the next six months is the deferral of capex decisions and releveraging by major corporations until they have more clarity over the debt ceiling. This issue is likely to remain a source of significant uncertainty until well into the New Year and again suggests that QE tapering will be kicked down the road. We would define our balanced outlook for the next three months as "political uncertainty versus a firmer economic footing".
Europe
The EU finally rebounded in the second quarter, recording GDP growth of 0.3 percent, but it remains on course to contract at a rate of -0.6 percent over the full year. While the recent political calm seems positive, the German election has paralysed the EU political process and we expect volatility to return once a coalition has been formed. Why? The EU is no closer to a banking union so financial fragmentation remains a problem. A resolution seems far off and the issue is more likely than not to flare up again in 2014. Ultimately, EU growth is more likely to remain anaemic rather than negative into 2014 after Brussels recognised that fiscal austerity can only produce growth if carried out alongside structural reform; in the absence of major structural reform, deficit reduction targets have been relaxed, which should aid growth. The ECB is likely to enact another LTRO process to offset the horrendously low loan and money supply data, the result of a lack of demand and by major banks continuing to deleverage. We foresee flat growth and potential for flashpoints while unemployment rates exceed 20 percent in some eurozone countries.
Japan
The Japanese economy continues to improve at a steady rate. Headline inflation has shot higher - it is now at 0.7 percent and is on course for the target of 2.0 percent in 18 months - which has buoyed growth. But core CPI remains at -0.1 per cent. There is a sizable gap between the headline and core rate, which can mostly be explained by the surge in the cost of oil and other raw material imports owing to the depreciation of the yen. While some have
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Economic Overview
October 2013 seen this is a shortcoming in Abenomics, we believe that higher import prices from a depreciating yen are part of the first phase and that this should feed through into a higher core inflation rate at a later date via higher wages. But this is not without risks. A higher sustainable inflation rate of 2.0 percent cannot be achieved without commensurate growth; to achieve this, we believe that the Bank of Japan (BoJ) will need to increase the size of its balance sheet again to weaken the yen by another 20 percent, increasing headline inflation and supporting Japan s export-driven economy. But Japan is already running a current account deficit of more than 10 percent, while the BoJs balance sheet continues to expand rapidly and the country's debt -to-GDP ratio far exceeds 200 percent. We forecast GDP growth of 2.0 per cent in 2013.
Global Outlook
At the start of the third quarter, the credit crunch in China and rapid movement in US real rates suggested that base metals and precious metals could both remain in trouble for the rest of the quarter, especially given the reaction in other emerging markets with sizeable appetites for raw materials to possible QE tapering. But the Fed's hesitation over tapering and an unexpected relative improvement in the Chinese economy since the middle of the quarter supported prices. All of the above and the countdown to the US debt ceiling expiry kept metal markets relatively rangebound and many investors, who had had their fingers burned earlier in the year, sat on the side-lines or rotated back into equities where the positive effects of QE3 were still being felt. Overall, policymakers across the globe have shown they will do whatever it takes to avoid triggering more crises while often generating new long-term issues. One example is of the abundant liquidity put to use in emerging markets in the past couple of years, which is now being pulled out and reinvested in the US. This is a theme that we suspect will continue to play out in 2014. On balance we are looking for global economic growth to continue to heal but at a glacial pace, with different regions taking varying responsibility for driving growth. We therefore expect base metals to remain rangebound higher prices will encourage producer hedging and lower prices will encourage producer cuts and bargain hunting. There may well be some downward spikes but, with many of the base metals prices now back into or around their marginal cost curves, lower prices should force producers' hands. Bullion should be buffeted by physical demand from emerging markets at lower prices and downward pressure associated with higher US real rate.
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Metal Market Overview

October 2013

Recap
Since our last report, base metals formed a decent base over the summer, albeit below last summer's lows, leaving them vulnerable to another down leg. This summers base coincided with a three-year high for the US dollar index. Subsequently, the LMEX came off aggressively, falling to three-year lows. But the short covering rallies in base metals rather than the dollar were the more dominant force; when these rallies faded, the metals were constrained through September and into October despite a continued fall in the dollar index. Copper and nickel have both been relatively rangebound over the past two months, while aluminium, zinc and lead enjoyed more protracted rallies into August and early September before returning to their summer ranges. Tin has been the standout performer, retracing more than 61.8 percent of the sell-off from the January 2013 highs to 2013 lows.
Current situation
One of the most important trends has been the noticeable shift in drivers and correlations for base metals over the summer, in particularly the role of fundamentals in each metal's price performance. The metals have been less reliant on the dollar, macroeconomic issues and liquidity, as the correlation between the dollar index and the LMEX shows (see chart). Looking ahead, the fundamentals of each metal in conjunction with changes to warehousing rules will have an increasing role on their price performance while investors again consider life after this liquiditydrunk world.
Fundamentals largely bearish

The fundamentals for the base metals, with the exception of tin and possibly lead, remain bearish in that supply surpluses continue and, in the case of many of the metals, the laws of supply and demand have been flouted over the last couple of years. This had come about because the financial environment and the structure of the market have enabled metal to be profitably held off market in cash-and-carry deals. This has had the effect of reducing availability, in effect keeping supply tight enough to underpin prices and premiums, b ut less liquidity and the LMEs determination to cut large exit queues at registered warehouses may start to change this. These potential changes come while some of the formerly tighter metals, such as copper, are moving into structural surpluses for the first time in a decade. Again we wonder whether this is the kind of environment that will finally
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October 2013 force an unravelling of the status quo, triggering widespread production cuts. The key events in the process will be the release of the new warehousing rules and the start of QE tapering in 2014, we think.
A dangerous set-up
We have in the past viewed the build-up of inventory and the breakdown of negative feedback loops that would normally prompt production cuts as a dangerous aberration and one that could unfold in a disorderly manner. For a long time, traders, producers, banks and warehouse operators have managed to keep a grip on availability, thereby avoiding a meaningful price correction - one that prompts sufficient production cuts to rebalance the markets. Whether the trend remains intact is less open to debate than it was three months ago - the new owners of the LME will be keen to move out of the political spotlight. There is evidence of this in aluminium where physical demand has indeed fallen recently because consumers hope that purchases down the line will have reduced premiums.
Marginal costs of production and production cuts

Other than copper and lead, metals prices are close to or below their marginal costs of production but there have been few announcements of major cuts so far. Some aluminium and nickel producers have promised to stem output but not at sufficient levels to create supply deficits or erode large stock overhangs. Even where cuts are being made, new lower-cost capacity is being brought on stream, diluting the effects of the cuts. There is a danger that prices will have to fall even further to trigger sufficient cuts to create the supply shortfalls that are needed to rebalance the markets - a theme that we suspect could play in out in 2014.
Lower prices look likely but they may turn into spikes
Our general view of the metals has changed little since our last report - the past three months have felt like suspended animation as a confluence of drivers have left the marketplace looking like a deer in headlights. Still, the eventual onset of QE tapering - we think it likely after the next raising of the debt ceiling - will occur at a time of increasing structural surpluses and when new warehousing regulations could increase the supply of available metal and perhaps as a stronger dollar emerges after the first quarter. We would expect another downward spiral in prices to force the output cuts needed to attract longer-term investment buying and we would expect astute Chinese traders, including the SRB, to take advantage of lower prices. Conversely, where metals face an oversupply situation, we would expect producers to watch for hedging opportunities into price rallies, which is likely to keep most of the metals capped at least until sufficient cuts have been implemented. Prices should generally remain rangebound with a downward bias until cuts have brought the market back into balance.
Dollar has mixed outlook

As confidence in the US economy grows and the Fed starts to rein in QE, the dollar is likely to climb in 2014. But the extent of the political divide in Washington makes us wonder who will replace the Fed as the largest buyer of newly issued T-bills after the recent chaos. Increased political polarisation suggests that dollar rally might be capped as major dollar investors look to diversify into other currencies and maybe even some gold.
Euro expecting volatility

The present calm within the euro political system and the green shoots of growth point to a strong euro into 2014. While we agree that the euro should remain well supported into the first quarter, teething problems over a banking union might make the currency less attractive later in the year. But the continued devaluation of the yen, partisan
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October 2013 politics in Washington and the ECBs sterner line on monetary financing should keep the euro relatively well supported. We see the EUR/USD generally in a range of 1.3200-1.3750, with possible spikes upwards.
PMI data generally supportive

The global manufacturing outlook remained mixed over the past nine months but, as of three months ago, all four of the major PMIs we follow moved above the all-important line dividing contraction from expansion. However, the divergence in the US ISM manufacturing PMI and the US manufacturing PMI - have moved in opposite directions over the last three months. Which trend proves to be correct will be very important to the outlook for global economic sentiment. As the previous chart shows, the Chinese and European PMIs are above 50 but are weak, the US ISM is strong and the Japanese PMI is trending higher. The JPM global PMI (not on chart), which takes into account the more recent negative effects of EM manufacturing output, has also recently started to trend higher after a lacklustre summer. This all points to a marginal yet positive manufacturing outlook while also acting as a reminder of how disappointing real output remains across the globe in the aftermath of the great recession.
Outlook far from bullish

On balance, we have become less optimistic for metals prices as 2013 has progressed but we have also had to push this bearish view back because of the delay to QE tapering and also the temporary boost to Chinese economic growth as a result of its leadership's support for the domestic economy. Earlier this year, we thought prices would trade in a sideways-to-higher range as consumers switched from destocking to hand-to-mouth buying and possibly to restocking later in the year. Chinas slower -than-expected recovery and the harder stance that government has adopted alongside the fallout from QE tapering now look set to keep metal prices under pressure, especially while most are in a supply surplus and insufficient cuts to output have been made. Although we are optimistic that better times lie down the road, oversupply and high stock levels in most of the metals need to be addressed; we feel it will take weaker prices to bring that about. Further price weakness would come as no surprise. Still, our general conclusion is that the metals are likely to remain rangebound - the upside is likely to be capped by producer hedge selling and the downside, although downward spikes may be seen, by bargain hunting and production cuts in response to lower prices.
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Precious Metals
October 2013
Precious Metals
Gold
Introduction
Following the volatile sell-off in the second quarter, initial rallies early in the third quarter drew further selling from stale institutional investors as well as fund players. The selling abated in mid-July when oversold technical indicators and heightened geopolitical tensions amid escalating rhetoric from Western leaders towards Syria prompted a rebound. Gold traded just shy of $1,434 per ounce in response to reports that Syrian forces had used chemical weapons in a suburb outside Damascus. The gains came from both safe-haven and anti-inflationary hedges - oil prices rallied, with WTI crude trading above $110 per barrel for the first time in more than a year.
Prices peaked late in August but turned lower when Russian and Western leaders reached a deal over Syrias chemical weapon stocks. Additional pressure emerged ahead of the September FOMC meeting. While its decision not to taper caught markets wrong-footed and prompted a brief bounce in gold, the overall trend remained lower investors continued to liquidate in search of higher-yielding assets but also to bolster cash positions against a potential US sovereign default. The robust physical buying peaked in the second quarter because of the price correction, with large volumes of metal continuing to flow to physical markets in Asia and the Middle East at the start of the period. Premiums
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Precious Metals
October 2013 remained elevated but demand slowed as prices recovered and the market entered a seasonal low point for physical demand. In addition, the Indian g overnment further increased import duties to reduce the nations current account deficit, while sharp falls in emerging market currencies saw local gold prices surge, hitting lifetime peaks in the rupee. The backwardation that emerged at the end of June remained in place across most of the third quarter. Much of this was attributed to London good delivery metal being returned to refiners to be recast into kilo, teal and tola bars favoured in the Asian markets. While rates have since eased, nearby prompts remain tight. Central banks remained net buyers during the period, adding a net 75.7 tonnes of metal in July-August, according to IMF figures, although 45.9 tonnes of this total was related to the Turkish policy of accepting gold in its reserve requirements from commercial banks Gold closed the quarter around $1,329, up 7.3 percent.
Current situation
Gold has made a choppy start to the fourth quarter, initially dipping back below $1,300. Dip-buying has again been evident but expectations of a debt deal in the US and the nomination of Janet Yellen as the next chair of the Federal Reserve seems to have prompted further liquidation by ETF investors. In addition, the federal shutdown in the US and the knock-on macroeconomic implications have seen FOMC tapering expectations shift further out.
Summary of outlook
We have made several downward price revisions over the year, particularly in light of the substantial price weakness that emerged in April. We lowered our initial forecast of $1,750 to $1,600 and subsequently to $1,420 after the breach of $1,480, which marked a key profit level for ETF investors. We maintain our view that gold will average $1,420 this year, down 15 percent from the 2012 average of $1,668.92. Looking into 2014, gold should maintain a downward bias as the global economic recovery gathers pace, prompting a continued shift away from gold and towards higher-yielding assets. Still, hurdles remain, which still have the potential to encourage investment into gold as a means of diversification. US politicians have only succeeded in kicking the debt can down the road and have yet to tackle the underlying issues; the recovery in Europe remains fragile, with Greece facing a further multi-billion euro shortfall; emerging market growth may continue to falter; and debt levels globally remain elevated and pose a threat to inflation and currency debasement. The shift for higher yields will see institutional investors shy away from gold but we expect individual and retail investment demand to remain steady. We expect Chinese demand to grow in particular, with physical demand jewellery, coins and bar - to run close to 1,000 tonnes. Overall, we see gold trading within a broad $1,100-1,500 range and averaging $1,280.
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Precious Metals
October 2013
Fund activity
The net long fund position (NLFP) declined initially - the price pressure at the start of July extended the trend of long liquidation and short selling among Comex funds. The NLFP stood at just 16,557 lots (51.5 tonnes) in the week of July 9, the lowest since February 2005. But as prices recovered, funds began to cover their short exposure - open shorts were more than halved from the end-June level to the end-August low, which corresponds to the peak in the NLFP of 78,289 lots (243.5 tonnes). The NLFP totalled 67,139 lots (208.8 tonnes) by the end of the quarter while the ratio of longs to shorts has widened to 1.92 from 1.18. But open interest remains down on levels at the start of the year, reflecting a lack of conviction from both bulls and bears.
ETF investment activity

In contrast to the aggressive investor liquidation carried out during the second quarter the pace of liquidation over the July-September quarter was far more modest. That said, net holdings across the various ETF platforms we monitor continued to decline in anticipation the Federal Reserve would being to taper its quantitative easing programme, which continued the shift towards higheryielding assets. The initial test back towards $1,200 early in July drew an influx of buying from Swiss investors, who added 5.1 tonnes of metal in the Zurcher Kantonal Bank fund. By contrast, US investors in the SPDR fund continued to reduce their exposure, selling as gold recovered back towards $1,350. Pockets of buying were seen across the various funds over the remainder of the quarter but liquidation outweighed fresh investment, leading to a further 103.7-tonne reduction in net holdings to their lowest since May 2010. Net gold holdings declined 5.1 percent while net
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Precious Metals
October 2013 silver holdings increased 5.0 percent, which continues to reflect the exposure of institutional investors to gold funds, primarily the NYSE-listed SPDR, while silver investors tend to be smaller retail-level/individual investors. Interestingly, the launch of the first physically backed ETFs in China failed to tempt significant investment interest, raising $261 million - equivalent to 6.2-tonnes - in their initial funding, just over half the targeted $400 million. This reflects investor appetite for physical metal but also the relative immaturity of the derivatives market in China. Still, we suspect demand will increase as confidence in products improves over time.
Physical interest
Demand for physical gold, both for jewellery and investment (coin/bar) purposes, remained strong at the start of the quarter, building on the phenomenal demand in the second quarter. Demand from these sectors was 1,083 tonnes, according to the World Gold Council. Demand fell off as the quarter progressed, though, reflecting steadier price sentiment, the rebuilding of stocks, slower seasonal demand and weakness in emerging market currencies - particularly the rupee and the rupiah. Official intervention was another factor - the Reserve Bank of India made further efforts to temper gold imports. The government raised import duties for all gold forms to 10 percent from 8 percent in August and further raised the duty for jewellery imports to 15 percent in September. In addition the linking of imports to exports levels and the confusion this created also hurt gold demand. The Indian finance ministry reported gold imports of 58.37 tonnes between July 1 and September 25 compared with 335.31 tonnes in the three months ended June 30. Having surged in the prior quarter, premiums eased back to more normal levels in areas such as Hong Kong and Singapore. Rates for Shanghai remained elevated, though, reflecting consistent demand. The Indian duty increases pushed premiums away from their recent peak and briefly into a discount. Despite the RBI's efforts, gold is likely to find further background support as the market enters what is traditionally the strongest period for physical demand with a host of auspicious dates for Hindus between November 13 and December 11. In addition, with physical premiums into China still elevated in an environment of strong imports (from Hong Kong, these rose 130 percent over the first eight months of the year) and surging domestic production (up 11.5 percent in the first seven months of the year, according to the China Gold Association), Chinese gold consumption is well on its way to surpassing India, offsetting slower demand from the sub-continent.
The big-picture view

Geopolitical tensions escalated during the quarter after the use of chemical weapons on civilians in the Syrian conflict, prompting strong rhetoric from Western political leaders, with President Obama calling on Congress to vote in favour of military action. Russia clashed with the US over the legality of military intervention, with sabre-rattling between the two lifting oil above $110 per barrel for the first time in 18 months. Syria's subsequent agreement to place its chemical weapon stocks in UN hands saw oil and gold turn lower as safe-haven positions were unwound. Meanwhile, mixed economic signals emerged. Chinese data and anecdotal indicators suggested the economy exited its recent dull patch and European numbers also pointed towards stronger manufacturing and service activity over the period, with a draft budget from Greece suggesting the economy could emerge from a six-year recession
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Precious Metals
October 2013 in 2014. But a rift emerged between Germany and the ECB over banking oversight, with Germany opposing proposals to centralise control of failing lenders. Speculation surrounding the Federal Reserves asset purchase programme intensified during the period - markets increasingly priced in an announcement of tapering at the September FOMC meeting. The decision not to taper came as a surprise and saw risk sentiment pared back, leading the DJIA to fall more than 500 points from a record 15,709.6 points. The bigger issue that emerged at the end of the third quarter and has dominated sentiment early in the fourth has been the US debt ceiling - negotiations between Republicans and Democrats over this topic and the 2013-2014 budget took 16 days to resolve. The deal will extend the Treasury's borrowing authority until 7 February and fund the government to January 15, but will only be another stopgap measure.
The currency impact

Of particular note during the period were currency fluctuations in emerging markets such as India, Brazil, Turkey and Indonesia, which had a dramatic impact on locally denominated gold prices. Gold in the Indian Rupee peaked at a record 98,840 rupees per ounce late in August, gaining 13.3 percent across the quarter compared with 7.6 percent in dollar gold. Turbulence in emerging market currencies together with US debt troubles could prompt further diversification into gold.
Conclusion
The stalemate in US debt negotiations saw gold slip lower amid further investor and fund liquidation. While this has again led some to question the yellow metal's role as a safe-haven asset, we feel gold is merely fulfilling the role of providing liquidity in times of duress as well as acting as a proxy to the dollar. The agreement to raise the US debt ceiling has allowed gold to recover; it should hold within a $1,270-1,350 range across the remainder of the year. However, the deal will only raise the ceiling until early February and, since the underlying issues remain, we suspect retail/individual investors could favour gold again as a debasement/diversification hedge. While institutional investors have turned away from gold, solid physical demand from Asia and central bank diversification are all supportive for the medium and longer terms. In addition, several producers such as AgnicoEagle Mines and IAM Gold have announced capex spending reductions, leading to lower supplies further down the road.
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Precious Metals
October 2013
Silver
Introduction
Silver recovered from its end-June low of $18.21 into July but, despite solid physical and ETF investment demand, the metal struggled to hold above $20, trading broadly between $18.71 and $20.60 across the month.
Silver finally found upside momentum during August when robust investment demand was joined by fund short covering, leading the metal to a peak of $25.12 Strong resistance, possibly producer-related, prevented further gains; silver gradually lost ground on speculation surrounding the FOMC meeting and a possible start to the tapering of quantitative easing, establishing a base midmonth around $21.25.
Current situation
Silver ended September with a 10.3 percent gain although it was down 28.5 percent on the start of the year - the largest decline among the precious metals. Trade so far in the fourth quarter has been choppy although the metal remains above $20, capped by resistance so far at $22.50.
Gold/silver ratio
The AU/AG ratio initially tracked higher in July, peaking at 67.4:1, its highest in almost three years after silver underperformed golds initial correction higher. But the ratio fell sharply lower across August to below 57 from 65 when silver rallied amid fund short-covering and solid investment demand.
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Precious Metals
October 2013 The ratio has since risen back to 60:1, which we still see as fair value given that the 20-year rolling average lies around 60-65:1.
Fund activity
The fund net long position (NFLP) rose from an end-June low of just 837 contracts to a peak of 18,834 contracts in early September. But the increase came from short covering - open funds dropped by more than half between the end of June and early September. The long/short ratio increased to 2.2 from a low of just 1.02. As of late September, the ratio stood at 1.8, suggesting funds maintain a bullish stance although fund players will continue to act as a swing factor.
ETF/Investment Activity
Investment interest via silver ETF platforms proved far more robust compared with gold. After the sizeable redemptions during the second quarter, investors took advantage of the price correction to post the largest monthly net inflow in two years during July, adding 17.5 million ounces. The strong pace continued during August and was in part responsible for silver's outperformance of gold, as reflected by the shift lower in the AU/AG ratio. Net holdings increased a further 14.4 million ounces during August and, despite a slight reduction during September, enjoyed their largest quarterly increase since the fourth quarter of 2010. Investment interest for coins and bars compared to gold were also notable. Silver coin sales under the US Mint Eagle programme ran some 32 percent higher on last year while gold sales were down 45 percent. Meanwhile, trade data suggests Indias interest in silver has been aroused this year owing to record gold prices and the surge in import duties. India imports stood at 4,073 tonnes in the first eight months of the year compared with 1,921 tonnes for the whole of 2012.
Summary of outlook for 2014

Silver has been forming a base around $20 following the second-quarter correction, finding good levels of support from investors as well as improving demand from the electronics and battery sectors. Demand from green initiatives will also absorb metal. Solar panel demand, particularly from Asia, will remain a feature - strong demand from China and Japan, following the closure of its remaining nuclear power stations, will offset weaker European demand while austerity forces governments to remove subsidies. Physical demand from India is also notably stronger while record prices and tax hikes on gold lead to substitution demand.
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Precious Metals
October 2013 Investment demand, which has also been supportive this year, will probably remain a swing factor for prices. Gold ETF holdings have succumbed to heavy pressure this year while silver holdings have increased, reflecting the exposure of institutional investors to gold compared with smaller retail/individual investors to silver.
Conclusion
Solid demand from numerous industrial sources and photovoltaic panels will remain a strong demand stream. The weaker price sentiment that has emerged in silver as well as by/co-products such as zinc and lead is also supportive, reducing capex expenditure and potentially leading to some production closure from unprofitable facilities. Still, mine production will continue to expand while the selling that emerged towards the $25 level suggests producers may act as a price cap; silver is therefore likely to hold a broad $16.50-26.00 range in the year ahead. The threat for silver remains the scale of ETF holdings, which so far this year have increased 3.3 percent while gold holdings have declined. A similar scale of liquidation could see as much as 2,500 tonnes of silver flood back into the market. .
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Precious Metals
October 2013
PGMs
Introduction
The PGMs broadly tracked the underlying moves seen across the precious metal complex. Platinum recovered to $1,450 by the end of July from an early July low around $1,310. The white metal posted a one-day rally of $60 on August 8 on technical and fundamental drivers, extending to a peak of $1,555 late in August. September was dominated by trade and fund selling - overall metal sentiment weakened.
Palladium moved largely in tandem with sister metal platinum. In relative terms, however, the metal proved mixed. Palladium initially outperformed, driving the PT/PD ratio to a fresh low of 1.87 on July 18, before it lost ground into early September amid stale ETF and fund liquidation. The ratio peaked at 2.16 when palladium struggled to hold onto $700 but that level would provide support over the remainder of the quarter, with the ratio back below 2.0 by the end of September.
Current situation
Both metals have rallied into early September, bolstered by fresh wildcat strikes in South Africa and strong investment demand in platinum.

While the PGMs have succumbed to the price weakness witnessed across the metal complex, divergence has emerged across the year as the tighter fundamental picture provides strong background support. Palladium gained three percent across the first three quarters while gold fell 20.7 percent, silver an even larger 28.5 percent. We suspect this trait will continue into the year ahead owing to the growth in global vehicle sales, lower supply outlook from South Africa and exhausted Russian state stocks. While the scale of fund and investment longs is a bearish factor, we see these posing minimal risks given the likely supply shortfalls. In addition the approval for the Absa palladium ETF could bolster the upside potential into 2014, given the level of interest in the platinum fund.
Supply outlook
Disruptions to South African mine supplies continued during the period, although the anniversary of the Marikana shootings passed without incident. The more militant Association of Mineworkers and Construction Union (AMCU)
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Precious Metals
October 2013 called for industrial action at Anglo Platinums Rustenburg works to protest against planned restructuri ng. Workers downed tools on September 27 and remained on strike till October 10, resulting in the loss of 44,000 ounces in lost production. Zimbabwe's re-elected Robert Mugabe government is set to push ahead with plans to seize control of $7 billion of foreign-owned mines assets unless they cede 51 percent of their assets to black investors or the government. Swiss trade data showed minimal palladium exports during the period, compared with spikes in March and May at an average of 6,400 ounces per month. Meanwhile speculation emerged early in July that Gokhran, the Russian State Repository, might look to rebuild its state stocks. As with gold, we also anticipate weaker prices to slow jewellery scrap flows, although scrap from spent autocatalysts will continue apace, owing to its price inelasticity.
Demand outlook
PGM demand from several industrial applications is expected to increase over the year amid improving economic conditions. Demand growth in particular will again come from the automotive sector despite the impact that turbulence in emerging markets has had on vehicle sales. The Society of Indian Automobile Manufacturers (SIAM) recently forecast the Indian market to contract in 2013 for the second consecutive year. But global vehicle sales continue to expand, led by strong growth in the US and China light vehicle sales are up 8.1 percent and 11.8 percent year-on-year respectively in the year to date, according to the latest data. Still, automakers have been increasing the platinum loading within gasoline auto-catalysts, substituting away from palladium. Jewellery demand may also be stimulated owing to the recent price corrections, and will certainly temper scrap sales. Demand for PGM jewellery in India could again take some market share given the import duty increase for gold. We continue to see investment demand as the major swing factor for PGM fundamentals. Net platinum holdings had increased to a record 2.283 million ounces by the end of the quarter. Interestingly, though, we note a shift in sentiment - holdings in most European and US-listed funds declined while holdings in the Johannesburg-listed NewPlat fund increased 54 percent or 231,000 ounces to a record 658,800 ounces.
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Precious Metals
October 2013 Net palladium holdings declined some 106,500 ounces by contrast although Absa bank has been granted regulatory approval to list its palladium fund - given the popularity of the NewPlat fund, this could add a new demand stream.
Conclusion
The bearish sentiment in gold will probably overhang the PGMs, although the absence of any sizeable exodus of investment monies - certainly from ETFs - reflects the positive fundamental picture currently unfolding. We feel this trend will continue, given the strong growth in vehicle sales, particularly in China and the US, and the potential for supply disruptions. Platinum should find further support around $1,280, below the cost of production for several South African producers, while resistance towards $1,650 will provide the top of the range. Palladium will continue in a wide range, with support at $600, while the metal could surpass the February 2011 high of $862 should investment demand prove strong, retesting levels not seen since 2001.
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Aluminium
October 2013
Aluminium
Introduction
Aluminium prices set a low at $1,758 per tonne late in June and have since largely oscillated sideways, although there was a significant 10.9 percent short-covering rally in August that was prompted by the combination of betterthan-expected data out of China and some dovish comments from the Fed. The rally did not last and prices quickly returned to lower levels, which we take as a sign that there is not much appetite or, indeed, a need to chase prices higher. Given the plentiful supply, high levels of inventory and only limited production cuts so far, it seems likely that the upside potential for prices will be limited to bouts of short-covering. Fundamentally, prices should head lower - we feel they will end up doing so - but for now the mechanics of the LME and abundant and cheap liquidity are enabling suf ficient metal to be kept off market to underpin the markets price structure. How long these factors remain in force is debateable - there are numerous crosscurrents at work that could bring about meaningful change. Overall, the demand outlook for aluminium remains second to none, but the market is in chronic oversupply as it has been for seven years and market forces are likely to change that before too long.
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Aluminium
October 2013
Current Situation
Despite being in a supply surplus, there seems to be a floor price in the market between $1,760 and $1,770; the market trades most of the time either side of $1,800. Proposed rule changes to LME load-out rates led to lower physical premiums, which in turn are squeezing producers margins, but so far premiums have not fallen to the extent that they are sparking additional producer cuts. Quite the reverse. Recent warrant cancellations have lengthened queues in Vlissingen and Detroit and boosted premiums to the $190 area again, following their fall in the immediate aftermath of the LME consultation document. We have also seen a spate of announcements of Western production cutbacks which have had the effect, however temporary, of creating a stable-to-more bullish sentiment. Given the fact that Chinese capacity has been increasing strongly, this sentiment is liable to be relatively short-lived. That said, with most of the cancelled warrants owned by financial players rather than by consumers, any acceleration of load-out rates is unlikely to increase availability to consumers unless exit queues drop dramatically. For now, enough of the supply surplus is being kept off market to underpin LME prices and the presence of a full contango means metal can still be financed profitably. This suggests the practice of restricting availability to match demand and support prices will continue.

Our view for 2013 has generally been for a rangebound market with a slight downward bias; we will keep this outlook for 2014. China and the US remain the regional bright spots, although Chinese production is ramping up rapidly, albeit regionally subsidised by energy deals and SRB support, there is a danger of increased exports of semis. We have no quarrel with the outlook for aluminium demand but there is a risk that circumstances might change - should less metal be held off market, prices may fall. Needless to say, falling prices are likely to lead to more pronounced cuts to output, which we feel the industry badly needs for the long term health of the industry. Although cuts would be a bullish sign, idle capacity would restart if prices were to rise too quickly before the excess inventory has been drawn down, so perhaps prices will hold down for longer than many in the market expect (if they expect lower prices at all, that is). Factors that could bring about lower prices include regulatory rulings, reduced liquidity or a higher cost of money. In the US, the CFTC and the Department of Justice are investigating aspects of the metals market to see if rules and anti-trust laws are being broken and the Federal Reserve is reviewing whether banks should be allowed to trade physical commodities. An eventual tapering and unwinding of quantitative easing (QE) is also likely to reduce liquidity in the financial system, which might mean banks have less liquidity at their disposal to carry on doing financing deals. The opportunity cost of financing metal might rise. In addition, as liquidity is drained the cost of money may well make financing deals less viable. So there are numerous potential developments that might lead to the practice of holding metal off market grinding to a halt, which in turn is likely to see prices realign with fundamental drivers.
Supply outlook
Aluminium production is at record levels despite the fact that a considerable volume of output has a higher cost of production than current prices. This suggests that marginal producers must have been well hedged but high
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Aluminium
October 2013 physical premiums have also helped producers obtain a higher price for their output. Interestingly, rallies in aluminium prices have been short-lived, suggesting that any rally is seen as an opportunity to put on more hedges by producers. This practice is likely to continue. In the first eight months of 2013, primary global aluminium production recorded by the International Aluminium Institute (IAI), including data for China, was 32.901 million tonnes, up 3.9 percent on the 31.672 million tonnes produced in the same 2012 period. The daily average rate of production in the January-August period was 135,438 tonnes, which was higher than the 130,583 tonnes per day seen over 2012 as a whole, so the picture is one of rising global production, although regionally the picture is more mixed. Production is rising in Africa, China, the Arabian Gulf, East and Central Europe and North America and it is falling in Oceania, South America, Western Europe and Asia (ex-China). Collectively, production in the world ex-China totalled 17.06 million tonnes in the first eight months of the year period, down from 17.131 million tonnes in the same period of 2012 - all the growth is in China, where production climbed to 15.841 million tonnes in the first eight months of the year from 14.541 million tonnes a year previously. What is interesting is that very little primary production is exported from China despite all the growth there, although exports of semis are on the rise. Therefore, some of the new production is being exported in the form of aluminium products; this might become a bigger problem for Western smelters as capacity continues to build in China. Despite low prices, there seems to be no stopping the growth in aluminium capacity in China, with new capacity tending to be built in Chinas western provinces where cheaper energy is available. Aluminium smelting capacity in China in 2013 is estimated to be around 96,775 tonnes per day, while production is running at 66,500 tonnes per day, which highlights the extent of overcapacity. This compares with capacity in the world ex-China of some 76,100 tonnes per day and where production is runn ing at 69,300 tonnes per day. Chinas new government says it plans to cut investment in areas where there is overcapacity, so it will be interesting to see if it manages to wrest control of the industry away from local governments. Non-Chinese production cuts of 760,000 tonnes per year have been announced this year but this will be insufficient given that the market is already in a surplus and more capacity is being added. New capacity outside of China is expected to increase some 600,000 tonnes per year next year, with EMAL ramping up output at its Al Taweelah smelter in Abu Dhabi ahead of schedule, Hindalco stepping up output at its 360,000 tonnes per year Mahan smelter and the Ras Az Zawr (Maadan) smelter in Saudi Arabia also ramping up output from 237, 000 tonnes this year to 630,000 tonnes next year and 740,000 tonnes in 2015. Although China is cutting output - smelters agreed earlier this year to suspend 1 million tonnes per year of capacity, including 380,000 tonnes per year at Chalco, 150,000 tonnes per year at Yunan Aluminium and 120,000 tonnes per year at the Xinheng Group - these are dwarfed by expansions. In 2014, an extra 3.86 million tonnes per year is scheduled to come on stream so we wait to see if the governments attempts to curb new capac ity are effective. In 2013, production is expected to rise 2.2 million tonnes, of which some 1.8 million tonnes is expected from China and 0.4 million tonnes from outside China. In 2014, we expect production to rise 3.0 million tonnes, with around 2.1 million tonnes coming from China and 0.9 million tonnes from outside China. But these figures may well be revised downwards because we expect cuts to output.
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Aluminium
October 2013 Primary Aluminium Production (in thousands of tonnes) IAI reporting area ex-China China Global total Global daily average 24,022 12,964 36,986 101.3 25,022 16,131 41,153 112.7 26,203 17,786 43,989 120.5 25,453 19,754 45,207 123.5 26,203 25,633 2,204 2,065 2,183 2,111 2,171 2,095 2,153 2,149 2,072 2,149 2,100 2,181 2,176 1,981 2,187 2,117 2,177 2,108 2,165 2,149 17,786 22,154 1,717 1,748 1,764 1,731 1,878 1,884 1,870 1,949 1,872 1,917 1,862 1,962 1,960 1,929 1,934 1,907 1,966 2,043 2.039 2,063 43,989 47,787 3,921 3,813 3,947 3,842 4,049 3,979 4,023 4,098 3,944 4,066 3,962 4,143 4,136 3,910 4,121 4,024 4,143 4,151 4,204 4,212 120.5 130.9 126.5 131.5 127.3 128.1 130.6 132.6 129.8 132.2 131.5 131.2 132.1 133.6 133.4 139.6 132.9 134.1 133.6 138.4 135.6 135.9
Year 2009 Year 2010 Year 2011 Year 2012 Jan-Dec 2011 Jan-Dec 2012 Jan 2012 Feb 2012 Mar 2012 Apr 2012 May 2012 June 2012 July 2012 August 2012 September 2012 October 2012 November 2012 December 2012 January 2013 February 2013 March 2013 April 2013 May 2013 June 2013 July 2013 August 2013 Source: IAI
Demand outlook
Demand for aluminium is particularly robust considering the state of the global economy but the metal is seeing organic growth and is gaining market share from numerous other materials, including copper, steel and glass. Being a light metal and a relatively cheap one, it helps manufacturers produce more efficient and environmentally friendly products. So aluminium is winning market share from galvanised steel in the transport industry and copper in the electricity cable industry; it is also making inroads into the bottling industry because aluminium bottles are much lighter than glass bottles, which saves on shipping costs. Demand is also strong. The aerospace industry is doing well, as are the auto industries in China and the US, although vehicle sales in Europe remain depressed - data for September showed sales were at their lowest since 1990. In addition, capital flight, in anticipation of QE tapering, and tougher times in many emerging markets are likely to weigh on auto sales in these regions. There are also some concerns that auto sales in the US may start to suffer as rising bond yields force up the cost of vehicle financing. Sales in September slowed to an annualised rate of 15.3 million units from 16.1 million units in August but whether this is a blip in the data or the start of a period of weaker sales remains to be seen. The construction sector in the US had become a stronger growth area for aluminium - earlier in the year it looked as if the industry was picking up momentum - but recent data has shown that growth has slowed. Housing Stats in
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Aluminium
October 2013 August rose 0.8 percent to a seasonally adjusted annual rate of 891,000 units and building permits declined 3.8 percent to 918,000. While this could be a dip in the data, the fact it coincided with a time when bond yields, which affect mortgage rates, were on the rise may be a harbinger of how the economy could be affected once tapering begins. In China, fixed asset investment (FAI) in construction, railway networks and power distribution are helping to restart the investment cycle. In the first eight months of the year, FAI climbed 20.3 percent; within that, construction climbed 24.2 percent. Although we expect aluminium demand to remain robust, we are concerned that on a global level, less liquidity in the financial system and measures to tackle debt are likely to weigh on economic growth. We have already seen capital flight in emerging markets in anticipation of QE tapering; when tapering actually starts, the impact could intensify. So we have lowered our expectations for global demand growth in 2013 to 6.3 percent from 7.0 percent earlier - we feel these headwinds will limit growth to six percent in 2014.
Chinese trade
Primary aluminium net trade in China dropped 73 percent in the first eight months of the year, with imports slipped to 150,000 tonnes from 400,000 tonnes in the same period in 2012. Exports remain relatively constant but are insignificant given the size of the market. Imports of bauxite remain strong at 46.4 million tonnes in January-August compared with 28.9 million tonnes in the same period in 2012, although alumina imports dropped 38 percent to 2.0 million tonnes from 3.2 million tonnes in 2012. The run-up in bauxite is no doubt in anticipation of tighter supply next year when the Indonesian export ban comes into effect. We would not be surprised if this trend continues; indeed, the market may get more concerned generally about Chinas production capability next year if Indonesia implements its ban in full. Still, China has broadened its bauxite supply base in recent months and has built alumina capacity near domestic bauxite supplies. Chinese trade (thousand tonnes) 2011 2012 Jan-Aug 2012 125 516 5,020 39,820 83 400 3,242 28,930
2010
Jan-Aug 2013 64 150 2,025 46,381
Change -23% -63% -38% +60%
Exports Primary aluminium 194 82 Imports Primary aluminium 230 225 Alumina 4,312 1,881 Bauxite 30,070 45,234 Source: Official customs statistics
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Aluminium
October 2013
Stocks
LME stocks changed direction in July having climbed to a high of 5.486 million tonnes in mid-July, they have since fallen to 5.328 million tonnes. This change in trend, however, is not thought to reflect a swing to a supply deficit but market mechanics tied into proposed changes to LME load-out rates. The LME announced its proposed changes in early July and if the new rules are implemented then that could shorten the exit queues and in turn that would mean metal might not stay in warehouses as long. Based on that, warehouse companies have reduced the incentives they were offering to attract metal into warehouse so less metal has been delivered in. Inflows into LME warehouses averaged around 11,000 tonnes each day in the first half of the year; this has dropped to an average of around 5,200 tonnes per day since the LME announcement. If load-out rates increase, more metal could Million tonnes 6 5 4 3 2 1 0 16% 14% 12% 10% 8% 6% 4% 2% 0%
1985
LME Stocks as a % of Annual Consumption
1999
1987
1989
1991
1993
1995
1997
2001
2003
2005
2007
2009
2011
Source: FastMarkets; LME
LME Aluminium Stocks
2008
2010
2003
2004
2005
2006
2007
2009
2011
2012
Source: FastMarkets; LME hypothetically leave warehouses, in turn lowering physical premiums. But as things stand, most of the cancelled warrants are owned by financial institutions looking to take metal out of LME warehouses to finance it in cheaper non-LME warehouses. In turn, a faster drawdown of LME inventory could give the impression of a tightening market but this would be misleading if the metal was merely going into other warehouses. It is now very difficult to gauge how much metal is held outside exchange-registered warehouses given the complicated movement in stocks but it is generally thought there are likely to be around 4-5 million tonnes of unreported stocks. The combination of these and exchange stocks means there is around 10 million tonnes of aluminium stock. This metal poses little threat to the market while it can be financed, as is now the case, but that would change if any of the components that make financing viable change. A change in regulations that disqualifies banks from owning commodities, a closing of the Fed free-money window, less liquidity, a pick-up in interest rates/bond yields or higher warehouse rents due to regulatory changes could all alter the dynamics of financing metal.
Balance
As things stand, the aluminium market is expected to remain in a supply surplus as new capacity comes on stream at a faster pace than production is idled. We expect demand to remain healthy but the tapering of QE and later
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2013
2013
Aluminium
October 2013 reduction in liquidity as the Feds treasuries mature, could produce headwinds for economic growth in the US and in emerging markets in 2014. So far this year, prices have held up well despite another year of supply surplus. In January-September, cash aluminium prices averaged around $1,870 per tonne. For the fourth quarter, we are looking for prices to trade in the $1,775-1,900 range and to average $1,830 so we will raise our forecast for the average of this year to $1,860. Looking to 2014, we forecast an average price of $1,800 given another year of supply surplus and the presence of large stockpiles that might become less tightly held, making the market look more vulnerable. Global Supply/Demand Balance in Primary Aluminium (million tonnes) 2009 2010 2011 2012 2013(f) Production 37.5 42.3 44.7 47.8 50.8 Consumption 35.4 41.3 42.8 47.4 50.4 Balance +2.10 +1.00 +1.9 +0.4 +0.4 Price $1,664 $2,172 $2,400 $2,000 $1,860 Sources: IAI, WBMS, FastMarkets forecasts
2014 (f) 53.8 53.4 +0.4 $1,800
Conclusion
Aluminium demand remains robust but contagion from a possible winding-down of QE next year is likely to weigh on global growth. The supply side of the equation is, however, a potentially more bearish factor - we feel the developments on QE, LME load-out rates and tighter regulation will end up making it harder for producers and traders to hold metal off market, which would raise supply and lower prices. Since prices are already well into the marginal cost curve, lower prices are likely to trigger production cuts. Generally, we are looking for prices to trade in a $1,750-2,000 range but there may well be downward spikes below $1,750 if the market gets nervous about extra availability.
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Copper
October 2013
Copper
Introduction
After copper peaked at $8,346 per tonne in February, it trended lower, bottoming out late at $6,602 in June before rebounding to a high around $7,425 - prices have since been rangebound between there and $7,024. The market feels well balanced for now - a scrap shortage has meant greater demand for copper cathodes but mine supply is now set to continue to improve, so we forecast a growing surplus. Unless demand surprises on the upside, we feel the surplus will weigh on prices throughout next year. The prospects for the tapering of quantitative easing (QE) and the fall-out this is likely to produce are expected to dampen the economic data, which has of late been looking brighter. Given that copper prices are still trading well above their marginal cost of production, it stands to reason that a deterioration in the fundamentals should put downward pressure on prices.
Current situation
The rally after the 2008 sell-off ran until February 2011; prices have since broadly oscillated lower. There have been extended periods when prices have moved sideways but the overall trend is still to the downside; given the fundamental outlook, we would now look for the downtrend to extend below $6,600 in the year ahead. Global growth is lame - the IMF has recently lowered its forecast for global growth this year to 2.9 percent from its July forecast of 3.2 percent. It expects growth in 2014 to be 3.6 percent, which, although stronger, remains weak. Given
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Copper
October 2013 how emerging markets have reacted to the prospect of tapering, we would not be surprised if most forecasts for next year end up being revised lower.

As always, much will depend on how China performs. While it has avoided a hard landing so far, the firmer stance taken by the new government, especially on the shadow banking sector, is likely to prevent any rapid return to strong growth. But after years of high compound growth, Chinas economy is now so large that even growth of 7.0 7.5 percent is still significant for consumption levels. Outside of China, the US seems to be the one large economy that is continuing to recover but growing opposition to ever-increasing deficits and debt from the political right is likely to act as a brake that keeps growth subdued. In Europe, there are signs of some recovery but high unemployment levels make us wonder how much of the improvement merely reflects the shift from destocking to hand-to-mouth buying; we are not bullish for Europe. Emerging markets are also likely to suffer further as liquidity is withdrawn while QE is reined in. Subsequently, copper demand growth throughout the remainder of 2013 and into 2014 is likely to be weak while supply is rising.
Supply outlook
Mine supply is starting to increase at a faster pace - we expect this to continue in the medium term while investments made during the period of high copper prices are commissioned. This is part of the boom/bust commodity cycle - high prices attract investment in new capacity; once these are brought online, it takes time for demand to rise to the extent that it again absorbs the new capacity. The fact that this new capacity is coming on stream during a period of relatively subdued demand growth now runs the risk of adding downward pressure to prices. The effects could worsen if this coincides with greater availability of metal from LME-listed warehouses and if there are fewer incentives to store metal off market in financing deals. ICSG data for the first six months of the year puts world mine supply growth at 8.8 percent on the same period in 2012. Concentrate output increased at an even faster pace of 10.2 percent, while solvent extraction-electro-winning (SX-EW) climbed 4.2 percent. Interestingly, rapid growth was recently more evident in SX-EW but this sector is now slowing. The overall rise was partially due to a recovery in production that was for various reasons idled last year - either industrial action or production disruptions. New production, however, is rising as new capacity comes on stream. Output has expanded or recovered at Antamina, Collahuasi, Los Bronces, Buenavista, Escondida and Frontier, with further capacity coming on stream this year at Oyu Tolgoi, Caserones, Antapaccay, Mina Ministro Hales and Toromocho, to name a few. The latest forecasts from the ICSG meeting in early October are for mine and refined copper production to rise 6.5 percent and 3.9 percent respectively in 2013 and increase a further 4.5 percent and 5.5 percent in 2014. This supports our view that mine supply is picking up at a faster pace than refined supply this year, so concentrate stocks will increase. This will in turn boost treatment and refining charges (TC/RCs) so refined production growth next year is likely to be even stronger. In addition, the ICSG has cut its expected growth rate for refined production this year from 4.3 percent, which is no doubt tied into the supply disruptions at Freeport-McMoRans Grasberg mine and at Rio Tintos Bingham Canyon mine earlier in the year.
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Copper
October 2013 Chinese refined output has been increasing significantly thanks in part to the ever increasing T/C and R/Cs. September imports of scrap and concentrate showed marked increases and very recently reports confirm that concentrates from Oyu Tolgoi are reaching smelters thanks to agreements with the Chinese customs officials. On a regional basis, mine output has been growing in most regions this year, a trend that should continue in 2014 other than in Oceania. The strongest mine growth is expected in Africa, North America and Asia, with Europe seeing only slight increases. In 2014, refined production is forecast to grow at its fastest in Africa where refined production is expected to climb 14 percent to 1.475 million tonnes. For 2013, we expect global refined production to reach 20.9 million tonnes, climbing to 22.2 million tonnes in 2014. Historical global copper production and consumption (thousand tonnes) 2009 2010 2011 2012 Jan- Jun 12 Jan-Jun 13 Mine production 15,943 16,053 16,076 16,697 7,963 8,666 Refined production 18,248 18,981 19,596 20,129 9,857 10,403 Refined capacity 77.8% 79.6% 80.4% 79.0% 78.9% 79.0% utilisation Consumption 18,070 19,346 19,830 20,550 10,386 10,385 Refined balance +178 -365 -234 -421 -529 18 Period stock change +275 -177 6 200 -150 358 Refined stocks (end 1,376 1,199 1,205 1,406 1,050 1,764 period) Source: ICSG
Change +8.8% +5.5%
0%
+68%
Demand outlook
In the first half of 2013, global apparent usage was unchanged from the same period in 2012, with Chinese apparent demand falling as imports declined. Still, actual usage is likely to have continued to rise, with stocks of copper held in bonded warehouses in China thought to have declined significantly. Earlier in the year, bonded warehouse inventory reportedly climbed to around 900,000 tonnes before dropping back towards 350,000 tonnes and Shanghai Exchange stocks have also fallen since the start of the year. Apparent credit tightening has been prevalent in recent days as the Chinese central bank has restricted cash injections and consequent sentiment. Consumption was flat outside of China but there were regional differences, with increases in the US and Russia offsetting falls in Japan and Europe. The fall in Chinese refined copper imports (which ICSG data would interpret as a fall in demand) has probably happened while consumers have drawn down stocks. China accounts for around 40 percent of global copper consumption - it remains the single most influential demand component. With manufacturing PMI data swinging from below to above the 50 level, therefore showing expansion, and with good investment in the power generation and distribution industry as well as in the railway network, underlying demand for copper wire and cable is expected to be strong, even though the industry faces competition from aluminium cables in some applications. In addition, the march of urbanisation continues and the building of infrastructure and social housing should keep demand for copper buoyant in China. Chinese copper financing is still a major factor, particularly with regard to warrant premiums where Far Eastern locations have been commanding high premiums for some time, and also shipments from European warehouses and also putting pressure on premiums here, despite the slower physical demand.
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Copper
October 2013 In Europe, there has been a pick-up in some data - the manufacturing PMI readings have moved above 50 although the data for September showed month-on-month weakness so there still seems little room for optimism. In addition, with the euro relatively strong while the yen and Indian rupee have weakened, along with many other emerging market economies, demand for EU exports may suffer, which in turn could hit regional copper demand. Into 2014, high unemployment and high debt - both government and private - will keep the economy subdued and, with it, demand for copper. In the US, the auto industry has gained momentum this year and the housing market has picked up, both of which are bullish signs for copper demand. However, the situation remain fragile as even the prospect of tapering lifted bond yields, which in turn raised the cost of corporate borrowing/mortgage rates, these have become a headwind for these sectors, especially housing. With the focus on US deficit, debt and on reining in QE it looks as though the economic recovery may well struggle across the rest of this year and into 2014, even though the underlying trend is still likely to be one of recovery. We were turning more bullish for Japan - government stimulus efforts and the lower yen looked set to increase demand for exports as well as boosting domestic demand. Tokyo's tone seems to have changed - the significant increase in sales tax to 8.0 percent from 5.0 percent may well dampen domestic demand while strengthening the yen. As Japans demand for copper to produce goods for the export market is seen as a zero -sum game - in that if demand for Japanese goods rises, demand for other countries exports is likely to suffer - the key for the copper market as far as Japan is concerned is whether domestic demand rises. In emerging markets, the capital flight and currency weakness that goes hand in hand with the tapering of QE is likely to hit domestic consumer demand and strain government finances. This, in turn, is likely to reduce investment in infrastructure. On balance, demand for copper should grow around 1.1 percent this year, centred on emerging markets, especially China, but with some improvement in North America too. We remain positive for Chinese growth overall but feel the recovery may be relatively weak while the new leaders stamp their authority on local governments, the shadow banking sector and on the practice of misallocating capital investment, which has in the past led to the building of excess capacity. We now expect a period of relatively slow growth in China in the 7.0-8.0 percent band while Beijing targets sustainable growth that will not bring inflation with it.
Chinese Trade
In the first eight months of the year, refined copper imports dropped 19 percent to 1,925,000 tonnes, from 2,387,000 tonnes in the same 2012 period. Higher domestic production, helped by a 33 percent increase in concentrate imports and stock drawdowns, no doubt made up for the lower level of imports. Higher copper concentrate imports have been driven by a shortage in scrap availability, which saw scrap imports fall 9.5 percent during the same period. With China liking to add value where possible, we are not surprised that the pick-up in global mine production has seen the Chinese prefer to import concentrate rather than cathode - this is a trend we expect to see continue in 2014. What will be interesting will be whether the LME/Shanghai arbitrage window reopens if copper prices fall, in
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Copper
October 2013 which case much of the worlds copper surplus could end up in China, with concentrate and cathode inventories rising in turn this could help cushion LME prices. Chinese copper trade ('000 tonnes) 2010 2011 2012 Jan- Aug 2012 38.7 2,920 4,364 1,813 154 2,776 4,687 1,789 274 3,403 4,859 2,192 207 2,387 3,093 1,300
2009 Exports Refined copper 72.9 Imports Refined copper 3,185 Copper scrap 3,998 Copper concentrates 1,717 Source: Official customs statistics
Jan Aug 2013 221 1,925 2,798 1725
Change
+6.8% -19.3% -9.5% +32.7%
Stocks
Exchange-traded stocks were around 693,500 tonnes in early October, up from 596,000 tonnes at the end of 2012, an increase of 16 percent or 97,500 tonnes. Interestingly, though, stocks are well down from this year's peaks. LME stocks were last at 512,450 tonnes, down from a peak of 678,225 tonnes, Shanghai Exchange stocks were last at 151,124 tonnes, down from a peak of 247,591 tonnes, and Comex stocks at 29,843 tonnes were down from 70,712 tonnes at the start of the year. In addition, bonded warehouse stocks in Shanghai have fallen. The drawdown in stocks is thought to be the result of a combination of metal being drawn down to offset production losses to make up for scrap shortages and as some metal moved off warrant into financing deals. One key issue will be how much metal continues to be financed off market. Given the apparent supply deficit until this year, off-warrant stocks are unlikely to be that great. 6.0% 4.0%
LME Stocks as a % of Annual Consumption
%
2.0% 0.0% 1985 1987 1989 1991 1993 1995 1997 1999 2001 2003 2005 2007 2009 2011 2013 Page | 31
Source: FastMarkets; LME One of the reasons for the build-up in LME stocks earlier in the year - they climbed to a peak of 678,225 tonnes on June 26 from 320,500 tonnes at the start of the year - was warehouse companies offering incentives of around $100 per tonne to attract metal into warehouse. With the rules governing LME load-out rates now under review, warehouses have been less inclined to offer incentives so the outflow has continued while the inflow has slowed. In the first half of the year, before the LME announced it would review its load-out rules, the daily average inflow was around 4,900 tonnes per day but it has dropped to 1,796 tonnes per day since July.
Copper
October 2013 Cancelled warrants stood at 266,700 tonnes at the end of September, having peaked at 375,425 tonnes on June 26. The bulk of the cancelled warrants are held in Johor at 131,700 tonnes, Antwerp at 76,850 tonnes and New Orleans at 45,925 tonnes these locations hold 96 percent of cancelled warrants, which account for 51 percent of total stock. Despite this level of cancelled warrants and their concentration, there is little sign of tightness in the forward curve, with the cash-to-three months spread around $26 per tonne in early October, just slightly below the average of $27 for the year to date. Global supply/demand balance in refined copper (million tonnes) 2009 2010 2011 2012 2013(f) Production 18.25 18.98 19.60 20.11 20.90 Consumption 18.07 19.35 19.83 20.51 20.73 Balance +0.18 -0.37 -0.23 -0.40 0.17 Price $5,155 $7,535 $8,810 +$7,946 +$7,250 Sources: ICSG, FastMarkets forecasts
2014 (f) 22.20 21.60 0.60 $6,900
Balance
After a supply deficit of 421,000 tonnes in 2012, according to ICSG data, the market has swung into a surplus, which the ICSG forecasts around 387,000 tonnes this year, followed by an even bigger surplus in 2014 of 632,000 tonnes. Given that there have been some supply disruptions - this years surplus is likely to be lower than originally forecast while growth has improved, as recovery in manufacturing PMIs suggests - it looks as though consumption will also be slightly stronger than we originally thought. We have therefore revised our forecast surplus to 170,000 tonnes from 200,000 tonnes. Given this is just one percent of global consumption, the market remains fairly well balanced but the outlook is likely to be biased to the downside because a bigger supply surplus is expected next year - we forecast it at 600,000 tonnes.
Conclusion
Prices averaged $7,384 in the first nine months of the year; if copper trades between $6,700 and $7,420 in the final quarter and mostly in the $7,075-7,420 range, we would expect an average price for the year of around $7,250. Although the supply/demand surplus is relatively small, sentiment will focus on the likelihood of a larger surplus next year, which in turn may keep prices towards the lower levels of our expected range and the upper reaches only likely to be reached during short-covering rallies. In line with a larger surplus expected next year, we would look for prices to average $6,800 in 2014.
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Lead
October 2013
Lead
Introduction
Lead prices are generally holding up well - since hitting a low of $1,938 per tonne in April, prices have been oscillating sideways to higher, setting a series of higher lows, although the August peak just fell shy of overcoming the May peak. So it looks as though the market is well supported by scale-down buying, although buyers do not feel the need to chase prices higher, unless they are covering shorts. Given that exchange stocks are low and the market is showing a small supply deficit, it is surprising that lead prices are not firmer. This may well reflect generally low investor interest in the metals while consumers are content to live hand-to-mouth. The fundamentals look set to remain tight and, given a robust demand profile, we feel prices will remain well supported. But it may take a change in broad-based investment sentiment to the bullish before lead prices really respond - lead could be one of the outperformers when that happens but until then we expect the sideways trend to continue.
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Lead
October 2013
Current situation
Lead prices averaged $2,103 per tonne in the third quarter, up 2.4 percent from $2,054 in the second quarter, and have averaged $2,153 in the year to date. The latest International Lead Zinc Study Group (ILZSG) data showed the market was in a 41,000-tonne supply deficit in the first seven months of 2013, compared with a 31,000-tonne surplus throughout the whole of last year. So while the market remains roughly balanced in our view, the 132,552-tonne fall in combined exchange warehouse stocks since this years highs suggests a larger deficit. This could be explained by a proportion of the fall in LME stocks representing metal moving off-warrant into financing deals.

Our outlook for the rest of 2013 is for the market to remain roughly in balance and for prices to stay rangebound with a slight upward bias, for seasonal reasons. For 2014, at the macro level we expect good growth in the US and China for automotive batteries and steady growth worldwide for industrial batteries. With QE tapering to come, we are concerned that capital outflows in emerging markets will dampen demand for autos there and we expect auto sales in Europe to remain sluggish too. On the supply side, we see the move towards a supply deficit next year and the low level of stocks as supporting factors for lead prices.
Supply outlook
The lead market is unique in that more supply is derived from recycled lead than from mine supply. Of total refined lead supply of 5.256 million tonnes in the first half of 2013, some 56 percent, came from secondary supply and 44 percent came for primary supply. Given the tightness in scrap supply and therefore the relative high cost of scrap, we assume that most of the scrap metal generated is being fed through to supply. Any new lead demand generally must be met from an increase in mine output. In recent years the bulk of the worlds mine production increase has come from Chi na but the rate of growth is now slowing. In the three years between 2009 and 2012, Chinas mine output increased to 2.84 million tonnes from 1.6 million tonnes - an increase of some 1.24 million tonnes. During this period, global lead mine output has increased to 5.24 million tonnes from 3.83 million tonnes, an increase of 1.41 million tonnes. So China accounts for 88 percent of the increase. Mine production in China grew 23.5 percent in 2010, 21.4 percent in 2011 and 18 percent last year in the first seven months of 2013 output has increased at a slower rate of 11.5 percent. In addition, although there was a pickup in non-Chinese mine output last year, mine output during the first seven months of this year has fallen 2.7 percent despite a recovery in output at Invernias Paroo Station (formerly Magellan), increased output at Mt Isa and a host of incremental increases at other non-Chinese mines. Further ramp-ups in output at these mines and at a handful of Western mines next year are expected to lead to an extra 130,000 tonnes of output; the latest ILZSG forecast is for global mine output, including China, to increase by around 230,000 tonnes in 2014. Global refined output will rise 4.7 percent to 11.02 million tonnes this year and 4.2 percent to 11.48 million tonnes next year, according to ILZSG forecasts. The restart of the Porto Vesme smelter in Italy partly explains the 40,000tonne increase in Italian output in the first seven months of the year. The other noticeable increase, outside China,
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Lead
October 2013 has been in the US, where new secondary output has been ramped up. Still, the closure of Doe Runs 130,000 tonne-per-year Herculaneum primary smelter at the end of 2013 will reduce regional supply in 2014. The one potential growth area for lead supply is secondary production in China, where the auto and e-bike populations have taken off in recent years. We expect the recycling industries to become more effective and efficient, which in turn may alleviate pressure on miners to bolster supply, especially when interest in investing in new lead mines is minimal because of environmental implications. Historical global supply/demand balance in refined lead (thousand tonnes) 2009 2010 2011 2012 Jan Jul Jan - Jul 2013 2012 9,197 9,804 10,545 10,521 5,846 6,159 9,206 9,776 10,396 10,456 5,762 6,200 -9 +28 +149 +65 +84 -41 $1,741 $2,172 $2,402 $2,062 $2,011 $2,159
Change +5.4% +7.6% +7.4%
Production Consumption Balance Price Source: ILZSG
Demand outlook
Lead consumption growth is strong, with 7.6 percent growth in the first seven months of the year, as the ILZSG data above shows. Robust demand is evident across the auto and non-auto industries. Vehicle sales in China and the US have been strong, which has boosted demand of original equipment lead-acid batteries, while replacement batteries provide a regular source of demand. The development of new technologies in recent years has also boosted non-auto battery demand. Whereas demand for vehicle batteries in mature economies is fairly stable, the real growth in demand for automotive batteries comes from those countries where the vehicle population is growing: emerging markets. In the US, for example, there are 790 vehicles per 1,000 of the population; in Japan, the number is around 600; and in China, it is closer to 85. There is huge potential for the global vehicle population to grow. Even if government restrictions on car ownership in over-congested cities continue, which we feel it will, there is still potential for greater ownership in less congested cities and for e-bikes generally. An average car battery contains around 10 kg of lead, while an e-bike battery tends to weigh around 11 kg. What is more, e-bike batteries generally need to be replaced each year, whereas car batteries tend to last three-to-five years. Although the medium-term outlook for emerging market demand for vehicles is strong, we are concerned that the contagion from QE tapering may dent demand in the short term. Already the threat of tapering has seen capital outflows in emerging markets, which is likely to hurt economic growth in the countries affected. In turn, first-time buyers of vehicles might well delay purchases. Non-automotive battery demand is benefitting from the roll-out of new technology, such as 4G mobile telephony and cloud computing - these require back-up/emergency power. The fact that this is new technology means it is being introduced despite the economic hardship that is being felt in many parts of the world. The other plus is that these industries have a global footprint. As more business is done online, as computer networks control more aspects of our lives and as cloud computing becomes more popular, demand for back-up power has taken off. Estimates are that the introduction of 4G technology in Europe, the Middle East and Africa will
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Lead
October 2013 require some 300,000 tonnes of lead in industrial batteries and that does not include other regions, nor the use in the other applications mentioned above. Despite completion of batteries made from different metals, the lead-acid battery has remained popular mainly because it has proven itself up to the job and its cost advantage over other types of batteries. In China in 2011, for example, the lead-acid battery was used in 91 percent of e-bikes - the batteries were a quarter, or half, the price of nickel-metal hydride or lithium-ion batteries. Advances in technology are also likely to ensure that lead-acid batteries retain their strong presence in the non-auto battery market. The latest ILZSG forecast is for global demand to rise 5.0 percent to 11 million tonnes this year and 4.6 percent to 11.51 million tonnes in 2014.
Chinese trade
The trade flow for refined lead into and out of China is minimal - in the first eight months of the year, imports have dried up and 9,200 tonnes of metal have been exported. Normally the flow is in the other direction because an export tariff deters exports. Tightness in the West, with tighter spreads on the LME and higher physical premiums have attracted some lead exports from China. More noteworthy, is that Chinese imports of concentrates have fallen this year - in the first eight months of the year, imports totalled 507,000 tonnes, down 19 percent on the corresponding 2012 period. The negative LME/Shanghai lead arbitrage has made it costly to utilise imported lead concentrates, so demand for domestic concentrates has increased but that in turn has lowered the treatment charges for domestic concentrates, which is also squeezing producers margins. Given the difficult producing climate, stocks in Shanghai have been falling. Chinese lead trade (thousand tonnes) 2011 2012 Jan-Aug 2012 0 9 1003 0 7.4 626
2010
Jan-Aug 2013 9.2 0.20 507
Change
Exports Refined lead 23 6 Imports Refined lead 22 7 Lead concentrates 881 794 Source: Official customs statistics
-19%
Stocks
Up until the second week in September, LME lead stocks had been falling at a fast pace. Having started the year at 317,700 tonnes, they dropped to 180,425 tonnes on September 10. Shanghai stocks have also been falling - they stood at 88,873 tonne s in early October, down from a peak of 140,750 tonnes in March. We feel the fall in stocks in Shanghai is a result of the difficulties that domestic producers are experiencing, given the low price.
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Lead
October 2013 LME stocks jumped 65,675 tonnes in the four working days ahead of the September date. This highlights that, although stocks had been falling, there was still considerable stock held off market, which was mobilised when shorts on the LME decided to deliver against their shorts, rather than borrow into a tighter LME spread.
Balance
The lead market has been in a supply surplus since 2010 according to the ILZSG, which also expects a small surplus of 22,000 tonnes this year before a swing to a 23,000-tonne deficit in 2014. Generally, given that the surpluses last year and this year have been equivalent to less than one percent of annual consumption, we have viewed the market as fairly well balanced; this looks set to be the case next year too. The cumulative surplus since 2009, according to ILZSG data, amounts to some 242,000 tonnes but the generally low level of exchange stocks, which stand at around 325,000 tonnes, means that total stocks are still thought to be low and are likely to move relatively lower as the market moves into a deficit next year. Global supply/demand balance in refined lead (thousand tonnes) 2009 2010 2011 2012(f) Production 9,197 9,804 10,545 10,521 Consumption 9,206 9,776 10,396 10,456 Balance -9 +28 +149 +65 Price $1,741 $2,172 $2,402 $2,062 Sources: ILZSG, FastMarkets forecasts
2013(f) 11,020 11,000 +20 $2,150
2014 11,480 11,550 -70 $2,275
Conclusion
Lead prices are holding up relatively well and, with only a small supply surplus expected this year, look set to remain well supported. The fundamentals are expected to tighten slightly next year, with supply moving into a deficit of around 70,000 tonnes. Given low inventory levels, next year's deficit should underpin prices more, but economic headwinds while excess debt levels are tackled and contagion from QE tapering may well affect demand for automobiles in emerging markets. Overall, leads fundamentals look relatively firm - supply and demand are nearly balanced and stocks are low - so we feel prices are likely to hold in the $2,020-2,200 range in the fourth quarter and are likely to average $2,100 before strengthening next year to average $2,275.
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Nickel
October 2013
Nickel
Introduction
Primary nickel prices have been under downward pressure for a long time due to oversupply and weak demand. The ramp-up in production of nickel units from nickel pig iron (NPI) production and the commissioning of conventional capacity have been major factors behind the oversupply. Despite low prices, the negative feedback loop between oversupply, weak demand and high stocks seem to have broken in that there have not yet been sufficient output cuts to rebalance the market. One reason for the delay may be that producers are waiting to see how Indonesias proposed ban on the export of nickel ores will affect NPI production next year. LME nickel prices have continued to trend lower, reaching a low of $13,205 in July from February's high of $18,770 and from $29,425 in February 2011. Since July, prices have been rangebound between the low and $14,975, with most of the trading either side of $14,000. With a solid base now seemingly in place, we feel the downside risk is limited - with many miners operating at below their cost of production, any further weakness would probably trigger more cuts. The upside is also likely to be limited while stocks are high and there is no shortage of capacity, which means supply is likely to be price-elastic. Generally, we expect nickel to remain rangebound, although supply disruptions either from cuts or an Indonesian export ban are likely to prompt short-covering rallies, which could be aggressive. Indeed, a short-covering rally is in progress at the time of writing.
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Nickel
October 2013
Current situation
Miners and traders have ramped up nickel ore shipments from Indonesia ahead of the export ban, exacerbating the nickel market's supply surplus. Considerable nickel ore stockpiles have built up at Chinese ports, which should provide some cushion to NPI production if the export ban is implemented at the start of 2014. The lack of clarity regarding Indonesias proposed export ban has, we feel, also deterred other producers of more traditional forms of nickel from making production cuts. Coupled with low demand for nickel from stainless steel producers outside China, this has weighed on sentiment and prices. The market will be very disappointed should the ban not be put in place. With the nickel market likely to remain in a supply surplus through 2014, nickel prices should remain under pressure until stocks start to be drawn down. In the short term, though, as the end of year approaches and traders focus on the potential export ban in Indonesia, we should brace for a rally while shorts cover - this appears to be underway.

Because nickel looks to have formed a base below the marginal cost curve, we see limited downside to prices in the near term. Another year of supply surplus and record inventories are, however, likely to keep downward pressure on prices next year. On balance, we expect Indonesia to restrict nickel ore supply, either by limiting the volume of exports or by increasing the tariff to an extent that more NPI production in China becomes loss-making. Production cost for new generation NPI plants are ever decreasing, reportedly as low as $11,000, effectively undermining the previously perceived nickel base price of $13,000. We also expect the demand outlook to improve slowly as 2014 unfolds.
Supply outlook
The nickel market remains in a large supply surplus - mine output has increased as new projects have been brought on line. According to the World Bureau of Metal Statistics (WBMS), nickel contained in mine output was 1,338,800 tonnes in January-August, up 85,000 tonnes on same period of 2012. Compared with mine output, refined output in January-August totalled 1,306,000 tonnes, according to WBMS, which highlights the surplus of nickel mine output. For 2013 as a whole, world primary nickel production is expected at 1.91 million tonnes, up 8.5 percent on the 2012 total, according to the International Nickel Study Group (INSG), which also sees refined production rising 3.1 percent to 1.97 million tonnes next year. Given the high levels of stocks and low prices, the fact producers have continued to ramp up output suggests they are either still well hedged or they are confident that the dynamics of NPI production will change before too long (either via lower Indonesian exports or higher export prices due to a significant rise in the export duty). Still, stocks of nickel ores at Chinese ports are high so it may take time for the supply side to tighten even if a ban is implemented in full. Originally, the proposed ban would have prevented miners from exporting any ore that had not first been processed domestically. Given that little or no new capacity has been built/commissioned in Indonesia, the government may allow those in the process of establishing works there to continue to export ore, although we would imagine it would incur a higher export tariff.
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Nickel
October 2013 Indonesia has been hard hit by capital flight that was triggered by prospects for QE tapering and its currency has weakened significantly so it will be keen not to damage its trade balance further by imposing a total ban on exports of ores. But it continues to play hardball with tin exports - how strongly it enforces the export ban on nickel remains to be seen. One way or another, the net effect is likely to be a rise in the costs of NPI production, which should return NPI output; that could raise the floor price for nickel in turn. The build-up of LME stocks shows how producers of class-one nickel - full-plate cathode, cut cathode, briquettes and pellets - rather than ferro-nickel or NPI have at least been able to sell metal via the LME and deliver it into warehouse rather than having to find a buyer in this oversupplied market. On balance, NPI production looks set to continue to remain a swing factor in production, as will high-cost producers using more traditional production methods. Abundant nickel swing production capacity suggests nickel prices are likely to remain rangebound around relatively low levels, depending on how the costs of production affect the floor price.
Demand outlook
Nickel demand in the first eight months of the year was 1,133,300 tonnes, up 2.1 percent on the same period in 2012, according to the WBMS. While demand outside China is subdued, that country's consumption has been growing at a steady pace of around 10 percent per year in recent years. This suggests stainless steel, like aluminium, is very much a metal with a strong demand outlook. With China such a large player in the stainless steel market, the use of NPI is hurting demand for class-one nickel. This is a vicious circle - Chinas use of NPI also gives it a competitive advantage when it comes to exporting stainless steel. Stainless steel production is expected to grow 7.0 percent globally in 2013, predominantly centred on China, where output is expected to climb around 14 percent in 2013. Outside China, production growth is subdued - it is expected to grow around 1.5 percent this year. It must also contend with growing exports of stainless steel from China, which is displacing non-Chinese production. Demand for class-one nickel continues to face stiff competition from nickel units derived from ferro-nickel and NPI. These sell at a discount to LME nickel. Interestingly, the use of NPI is only really prevalent in China; luckily for primary nickel producers, its use has not spread to other stainless steel-producing countries. The main reasons why the use of NPI has not spread are believed to the cost of shipping large volumes of low-grade nickel ores, as well as the environmental issues related to processing. As an example of how much NPI has displaced more traditional sources of nickel, China will use an estimated 440,000 tonnes of nickel units from NPI this year, up from zero in 2005 and around 165,000 tonnes in 2010. With Indonesia likely, one way of another, to regulate nickel ore exports in 2014, we expect demand for grade-one nickel to regain some market share but perhaps not until later in the year once stocks of nickel ore at Chinese ports have been run down. Combined with continuing good global growth for stainless steel, this should improve the nickel markets fundamentals. For nickel consumption overall, we remain bullish - stainless steel is a metal with a rosy future that should continue to see strong compound average growth rates (CAGR). Between 1980 and 2012, the CAGR of stainless steel has
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Nickel
October 2013 been 5.6 percent compared with CAGRs of 2.6 percent in copper, 3.5 percent in aluminium and 2.6 percent in carbon steel over the same period. Given our overall economic outlook for subdued global growth in 2014, we expect demand growth for nickel to remain relatively upbeat in line with strong demand growth for stainless steel. As always, demand for nickel can take off if stainless steel mills restock but, with so much stainless steel growth coming from China and Chinese stainless steel exports weighing on non-Chinese production, we feel there is less likelihood of non-Chinese mills restocking. In summary, the INSG is looking for nickel demand to grow 6.6 percent in 2013 and is forecasting growth of around 4.5 percent in 2014.
Chinese trade
Chinas imports of nickel units in concentrates/ores has picked up as the market anticipates lower exports from Indonesia in the New Year. In addition, because rotary-kiln electric furnace (RKEF) NPI producers need higher grades of ore, the nickel content has picked up too. Generally, imports of all types of nickel into China have picked up as growth in stainless steel capacity in China sucks in raw materials and refined metal. Chinese nickel trade (thousand tonnes) 2011 2012 Jan-May 2012 35 217 48,256 36 160 65,000 15 62 21,154
2010 Exports Refined nickel/alloy 55.2 Imports Refined nickel 182.9 Nickel concentrates 25,007 Source: Official customs statistics
Jan-Aug 2013 34.9 116 42,971
Change +74% +19% +10%
Stocks
LME nickel stocks have climbed extensively this year they stood at around 230,000 tonnes in mid-October, up from around 140,000 tonnes at the start of the year and a low of 83,130 tonnes in November 2011. The market has been in a supply surplus of some 226,000 tonnes (on a pro-rata basis) since the start of 2012, INSG data suggests. During this period, the inflow of metal into the LME warehouse system has been around 340,000 tonnes so it looks as though the market surplus has found its way into the LME. The fact stocks are not even higher would suggest that metal has also left LME-listed warehouses for off-warrant financing deals. Since cheaper nickel units that are non-LME deliverable are likely to be the most sought-after, it stands to reason that the nickel surplus will show up within the more
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Nickel
October 2013 expensive LME deliverable metal. Logically, LME stocks should therefore be a good indicator to when supply and demand start to rebalance. With LME stocks alone accounting for some 14 percent of annual consumption, there seems little danger of a shortage in nickel developing any time soon.
Balance
Nickel stocks remain at record levels and, with production set to increase via several new laterite mines coming online and NPI production expected to remain steady, at least while there are nickel ore stocks at Chinese ports, there is unlikely to be any shortage. But we expect a smaller surplus next year, either via production cuts due to lower prices or from a cut in the amount of nickel units coming from NPI production. The market ideally needs to swing into a supply deficit to reduce the stock overhang but until the dynamics of financing metal changes to the extent that metal stocks flow into the market, lowering LME prices to levels that trigger more cutbacks, we feel the market will have to live with high stocks for a considerable time to come. This is likely to act as a cap on prices. Global supply/demand balance in refined nickel (thousand tonnes) 2009 2010 2011 2012 2013 (f) 1,330 1,440 1,640 1,760 1,890 1,241 1,480 1,625 1,660 1,770 +88 -40 +15 +100 +120 $14,272 $21,809 $22,853 $17,535 $15,200
Production Consumption Balance Price
2014 (f) 1,950 1,860 +90 $14,500
Sources: INSG, FastMarkets forecasts
Conclusion
The nickel market remains chronically oversupplied and the growing surpluses seem unsustainable. We expect supply restraint will be forced upon producers either by lower exports of ore from Indonesia, which will lift marginal costs of production for the remaining NPI production, or else lower prices to force cuts at NPI and more traditional producers. Given the combination of overcapacity and high stocks, supply is likely to remain price-elastic, which is likely to cap the upside for nickel prices other than during periods of restocking by stainless steel mills or of short-covering. Rallies are, however, likely to be seized by high-cost producers looking to put on forward hedges. A short-covering rally seems to be in progress, which is no doubt because the market anticipates some supply restraint from January when the Indonesian ban on the export of ores comes into effect. We doubt the ban will have much impact in the short term while stocks of ore at Chinese ports are high. We see nickel trading within a range of $13,500-15,000 across the fourth quarter, averaging $14,300. Looking to 2014, production restraints should be countered by the ramp-up of new capacity outside China and greater availability of metal in LME-listed warehouses. Prices will remain suppressed next year, we feel, averaging $14,500.
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Tin
October 2013
Tin
Introduction
The tin market has become most interesting, with intervention by Indonesia once again changing the supply dynamics. In short, exports from the worlds largest exporter of tin have shrunk to an average of 6,500 tonnes in July and August and to 786 tonnes in September from an average of around 9,000 tonnes per month in the first half of the year. Unsurprisingly, prices have jumped to $24,000 per tonne from a low of $18,810 in July. Indonesias government and main tin producer are now in a stand-off with physical traders and consumers. Consumers will not be able to survive too long without Indonesian exports but likewise Indonesian producers will not be able to survive for long without the cash flow that exports generate. In addition, the higher price and lack of supply is encouraging consumers to seek out alternative sources of supply. Similar interventions by Indonesia in recent years have led to the wild oscillation in prices between $17,000 and $25,880; this current situation suggests more of the same.
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Tin
October 2013
Current situation
The fundamentals of the tin market are some of the tightest of the base metals complex - the market is expected to be in a small supply deficit this year, as it has been for the past three years. While demand is holding up and even increasing slightly this year after falling last year, supply has been struggling, as have producers profit margins. Since the international tin market sees no fundamental basis to Indonesia's latest attempt to push prices higher, it is unlikely to last but it will provide producers around the world with the opportunity to hedge forward. This in turn is likely to enable marginal producers to stay in production for longer, which should keep prices rangebound for longer. Overall, ignoring the current tightness - the market is finely balanced and producers are struggling to lift output now and they are likely to struggle to raise output even more when global demand eventually picks up. In addition, tin stocks are not high enough to form much of a cushion so we remain bullish over the medium term for the metal.

Our short-term outlook is for prices to hold up either side of $23,000 - there may well be spikes up to $25,000 but we do not expect Indonesian exports to remain suppressed for long. When Indonesian exports resume, prices are likely to fall back to trade either side of $21,000. With the market generally thought to be balanced, we expect further range-trading into 2014. Indeed, the run-up in prices in September and October will have provided marginal producers with the opportunity to hedge forward, which should reduce the likelihood of production cuts in the months ahead. The further we go into 2014, the more bullish we become as we expect a broad based recovery to get going and in light of that we would expect a pick-up in restocking.
Supply outlook
Mine and refined tin output has declined in recent years - producers have had to contend with falling ore grades, higher production costs and environmental restrictions. There is no meaningful new capacity coming on stream until after 2014, so if production needs to rise on stronger demand then it will probably have to come from existing operations, which may well require higher prices to incentivise more output. Indonesias latest changes on tin export regulations have on the one hand meant producers have had to raise the quality of tin if they want to export and, on the other, they must now sell the tin-for-export on the Indonesian Commodity Derivatives Exchange (ICDX). These two rule changes have led to a fall in exports - the export grade ruling was introduced in July, sending exports from a monthly average of 9,000 tonnes in the first half to around 6,500 tonnes in July and August. The insistence that tin must first trade on ICDX sent exports plummeting in September to 786 tonnes, of which 400 tonnes were ingot and the rest was solder. Trading volumes on the new domestic exchange are picking up, reaching 100 tonnes per day in October, but there is still much uncertainty and reluctance by international consumers and traders to trade on the exchange because it is seen as a ploy to raise prices. These rule changes have for now boosted prices, which will encourage other producers to lift output where they can. Most producers are struggling to do so but the supply threat that Indonesia has introduced has encouraged China to import more concentrates from Myanmar. The countrys tin reserves have generally have been out of bounds in recent decades while the country was isolated from the rest of the world but this has now changed.
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Tin
October 2013 The potential bottleneck in tin supply is at the mining stage of production; there is considerable spare smelting and refining capacity but generally a shortage of mine output. The opening up of Myanmar's tin industry might alleviate this; Chinese, Indonesian and Australian mining and exploration companies are trying to get a foothold there. The countrys Department of Geological Survey and Mineral Exploitation has identified 480 tin and tungsten deposits, with potential primary and alluvial resources of some 40 million tonnes of ore. On balance, we expect tin supply to struggle to increase this year because restrictions on exports from Indonesia are likely to force smaller operators to idle production. Although output is likely to pick up slightly in other areas, incentivised by higher prices, producers are generally suffering from low ore grades and depleting reserves so incremental, unsustainable price increases are unlikely to have much impact. Myanmar may turn out to be an important area for new mine production but it requires time to establish itself. So we would not be surprised if the market ends up in a bigger deficit than consensus for deficits of 1,000-7,000 tonnes. This should underpin firmer average prices in 2014 but the changes in Indonesian exports are likely to cause some wild swings in prices in the months ahead. We expect lower Indonesian exports to spill over into the fourth quarter but we doubt the Indonesian government can afford the socioeconomic costs of smaller tin producers closing operations, while falling profits at PT Timah in the first half are likely limit how long the company can stand not to export. In the past when the government or producers have taken action to restrict supply, the changes have been short-lived - as soon as prices rise again, producers export more because they need to make up for lost cash-flow. Global reported production was 232,900 tonnes in January-August, according to the latest World Bureau of Metal Statistics (WBMS) data, down 2,500 tonnes on the same period in 2012.
Demand outlook
Apparent tin consumption continues to fall, according to WBMS data, but this is thought to be mainly due to continued destocking. In the first eight months of 2013, tin demand was 234,400 tonnes, down 2.1 percent on the same 2012 period. Last year, demand fell 5.5 percent to 361,200 tonnes from the 2011 total. The electronics industry is the single largest user of tin in solders, accounting for around 52 percent of overall tin consumption. Semiconductor sales are a good gauge of the state of the electronics industry. The latest data from the Semiconductor Industry Association (SIA) paints a more upbeat picture, with global sales in July rising 5.1 percent on July last year and up 2.6 percent on June 2013. Month-on-month sales increased across all regions and across every product type, rising 7.9 percent in Japan, 5.4 percent in the Americas, 1.2 percent in Asia Pacific and 0.3 percent in Europe. Healthy sales and the rally in prices since July may well spark consumer interest to restock; although they may not chase prices higher, price dips are likely to be well supported. The second- and third-largest consumers of tin are the tinplate and chemicals industries. With tinplate capacity expanding in China, we see steady demand from this sector for now. Although tin packaging has a solid base in mature markets, packaging companies are now focused on emerging markets where urbanisation and growing middle class are fuelling demand for more packaged food.
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Tin
October 2013 Tins use in the chemicals industry is seen as a growth industry; we expect steady demand in this sector, especially while tin stabilisers replace lead and cadmium-based stabilisers. There is also the prospect for the adoption of mandatory restrictions on lead use in China's consumer products. Overall, although the outlook for tin demand across all end-uses seems to be growing, the year-on-year increases seem relatively low. This seems to be partly due to the act of thrifting, where less metal is used per item. That said, given the broad base of applications in which tin is used, we generally feel that tin consumption will increase in line with global growth. The prospects for the tapering of quantitative easing have led to a capital flight from emerging markets, which might worsen when tapering begins. This runs the risk of lowering GDP growth in emerging markets; if economic hardship shows up in reduced household spending, demand for electronics could fall. Until there is more sustainable global economic growth, the demand outlook for tin is likely to remain subdued. The one semi-bright spot might be if consumers, having seen the run-up in price, decide to restock in case there are further supply disruptions.
Chinese trade
Chinese imports of tin in the first eight months of the year fell around 48 percent to 10,900 tonnes, on the same period in 2012, probably a reflection of destocking and a pick-up in refined output in China. Linked to this is the substantial rise in Chinese concentrate imports, up 146 percent on the year. To diversify supply away from Indonesia, China has stepped up imports from Myanmar. With prices now back below $23,000, we would not be surprised if refined imports slow further - exports may even pick up should China feel confident that exports from Indonesia will return to more normal levels. China has been a swing factor in recent years, importing when prices are low and exporting when prices are high. Chinese trade (thousand tonnes) 2011 2012 Jan-Aug 2012 32.4 23.9 23 32 21 0 0 0.8
2010 Concentrate Imports Refined Imports 24 Refined Exports 2 Source: Official customs statistics
Jan-Aug 2013 58.9 10.9 1.7
Change 146% -48% 112%
Stocks
LME tin stocks stood at 12,780 tonnes in mid-October, down from this year's peak of 15,440 tonnes in late August. Since the requirement for Indonesian exports to be traded on ICDX from August 30, traders have drawn down LME stocks in anticipation of lower exports from Indonesia - they are now at levels seen at the start of the year. Despite continuing low exports from Indonesia, cancelled warrants have surprisingly not risen more. In mid-October, cancelled warrants stood at 2,750 tonnes, down from this years peak of 5,340 tonnes seen on July 12.
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Tin
October 2013 The one noticeable feature of the distribution of LME tin stocks is that 99 percent are held in warehouses in Asia, with just 110 tonnes in Baltimore and 30 tonnes in Rotterdam. This suggests premiums outside of Asia are vulnerable to spikes higher should the demand outlook improve and consumers elect to restock.
Balance
The tin market is broadly balanced overall, we feel - a small deficit is expected this year and in 2014. The supply disruptions in Indonesia may well bolster the deficit but higher prices should encourage a maximising of production where possible and higher exports from Indonesia at a later date, once the export bottleneck has been sorted out. Still, apparent demand may improve if consumers feel the need to restock in light of the supply disruption. Global supply/demand balance in refined tin (thousand tonnes) 2009 2010(e) 2011 2012(f) 2013 (f) Production 336 350 360 335 337 DLA Sales 0 0 0 0 0 Consumption 321 363 365 341 341 Balance +15 -13 -5 -3 -4 Price $13,584 $20,447 $26,000 $21,114 $22,000 Sources: ITRI, FastMarkets forecasts
2014 (f) 344 0 344 0 24,500
Conclusion
We said in the July quarterly report that the extent to which tin prices have fallen is surprising but the incentive for Indonesian producers to increase exports of tin that would not make the new export grade ahead of the deadline is understandable. This suggests that the tin market in 2013 may be a story of two halves, with higher exports driving prices down in the first half before a trend reversal in the second half. This has broadly played out; the wide swings in price have continued. With supply and demand fairly well balanced, tin prices should remain rangebound overall with producer selling in the $24,800-25,000 area and consumers buying around $21,000. We expect prices to average $23,000 in the fourth quarter. For 2013, we have raised our average price forecast to $22,000 and for 2014 we forecast an average price of $24,500.
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Zinc
October 2013
Zinc
Introduction
Zinc prices remain rangebound; our outlook is for more of the same. We feel that prices will remain largely supported by the marginal cost curve below $1,800 per tonne and capped by high stocks and the likelihood of producers selling above $2,100. A deteriorating economic climate, brought about by reduced liquidity in the financial system as QE tapering could start next year, leading to price dips but we would expect them to be relatively short-lived. The drop in price since the February peak and the downward trend that followed has now turned into a sideways trend, with prices trading between $1,811.75 and $2,009. Overall there seems to be good support around $1,800, with previous support at $1,745 in 2012 and at $1,718.50 in 2011. We would therefore continue to expect good support in the $1,700-1,800 range. Any dip back into that range could well prompt production cuts, which in turn could give prices a reason to rebound.
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Zinc
October 2013
Current Situation
The zinc market was in a supply surplus of 70,000 tonnes in the first seven months of 2013, compared with a 140,000-tonne surplus in the same 2012 period and a 251,000-tonne surplus over the whole of last year. On an annualised basis, the surplus between January-July equates to 120,000 tonnes, roughly half last year's level and representing about one percent of annual consumption, which suggests that supply and demand are fairly balanced. Despite the surplus, exchange stocks have been falling, down around 290,000 tonnes in mid-October since the start of the year. This visible stock fall is no doubt helping to underpin prices but most likely indicates that there is a build-up of off-market inventory.

The outlook for zinc differs between regions as it does between industrial uses but the overall outlook for global demand is subdued. The industries using zinc in China look robust and the US auto industry is strong however the construction sector's use of galvanised steel is not recovering as much as was hoped. Demand in Europe remains in the doldrums and capital flight in emerging markets is expected to weaken demand growth. As for supply, we see no shortage of mine output or refined output but availability is still likely to be restricted by traders ability to keep metal off market in cash-and-carry deals. Although supply and demand are expected to be roughly balanced this year, the presence of large stockpiles of concentrates and refined metal and a surplus of refining capacity should mean there is no shortage of metal. Perversely, European warrant premiums have been climbing steadily to reach around $155 mainly as a result of the skewed location of the majority of zinc stocks lying in New Orleans, the fact that far and away the majority of stocks in Europe are tied up in finance deals, and possible exports to the Far East.
Supply outlook
The market seems to have been focused for a long time on the large-scale closures that will hit the industry in the years ahead and has tended to ignore the supply surplus that has been present since 2007. After seven years of surplus, it is surprising that prices have not been forced lower to rebalance supply and demand but banks access to Fed-inspired cheap money and their involvement in warehousing has enabled the surplus to be held off market in financing deals. While it is still economically viable to store metal in financing deals, the practice is likely to continue and prices are likely to remain underpinned. The build-up of inventory is, however, likely to cap prices, other than during periods of short-covering. Zinc mine output is expected to grow modestly this year and next. Mine production should grow 1.7 percent to 13.73 million tonnes this year and a further two percent to 14.01 million tonnes in 2014, according to ILZSG data. In 2013, mine output outside China is expected to increase around 530,000 tonnes across some 18 mines, with the larger increases from the ramp-up of output at Indias Rampura mine, Mt Isa in Australia, Bracemac McLeod in Canada and Perkoa in Burkina Faso. In 2014, output is expected to grow a further 400,000 tonnes as the ramp-up at these mines continues. In addition, China's expansion is expected to continue. With mine output running ahead of refined production last year and again this year, there has been a build-up in concentrate stocks, which in turn has raised treatment charges. This has encouraged a pick-up in refined output.
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Zinc
October 2013 In the first seven months of the year, global mine output rose 1.5 percent to 7.809 million tonnes, while refined production increased 4.8 percent to 7.608 million tonnes. Capacity restarts have lifted refined production in Europe and in Latin America but the bulk of the increases were in China, where output so far this year is up nearly 11 percent. This is not surprising - Chinese smelters cut production last year. ILZSG forecasts refined production to increase 3.4 percent this year to 13.01 million tonnes and 4.9 percent in 2014 to 13.65 million tonnes. Chinese smelters started to cut production last year when LME prices fell below $1,800; while prices hold above that level, we expect production to continue to expand. Historical global supply/demand balance in refined zinc (thousand tonnes) 2009 2010 2011 2012 Jan-Jul 2012 Jan-Jul 2013 Production 11,298 12,896 13,080 12,593 7,253 7,603 Consumption 10,932 12,649 12,706 12,342 7,113 7,533 Balance +366 +247 +374 +251 +140 +70 Average price $1,659 $2,159 $2,191 $1,948 $1,958.26 $1,925.34 Source: ILZSG
Change +4.8 % +5.9 % -1.7 %
Overall, we would expect the status quo to continue while surplus production can be profitably financed but there are risks to this assumption. At some stage, it seems likely that either the cost of money, the cost of warehousing or regulatory oversight will change to the extent that financing metal is no longer economically viable. When that happens, increasing amounts of the accumulated stock from seven years of surpluses will become more readily available to the market, which is likely to push prices down to a level that prompts production cuts, stock drawdowns and a return to a balanced market.
Demand outlook
Zinc demand climbed 5.9 percent in the first seven months of the year compared with the same period of 2012, according to ILZSG data. This is encouraging considering the global economy is not experiencing concerted growth. Interestingly, although China is seeing the strongest growth in zinc demand of ten percent, most other regions are also growing. Asia (ex-China) is up 4.9 percent, the Americas 2.8 percent (with US growth of 3.6 percent) and Europe (East and West) 1.6 percent (mainly due to strong growth in Russia). Africa is the only region where growth is slower. Given zincs broad application base - it is used in infrastructure, construction, engineering, vehicle production and for white goods - demand is well placed to benefit from any recovery in a wide spectrum of industries. In the US, around 50 percent of zinc is used to galvanise steel; the die casting and brass manufacturing industries together account for some 33 percent of consumption. Chinas zinc demand has gathered pace as the year has progressed. The credit squeeze earlier in the year has been rectified after the government made more money available and its investment in railways and infrastructure projects should boost zinc demand because galvanised steel is heavily used in such construction work. Given that the trend in urbanisation goes hand in hand with infrastructure spending, it is not surprising that zinc demand remains strong in China, something we feel will continue. The country's auto market also looks set to remain strong, as we saw in the lead section. With just 84 cars per 1000 population in China compared with 600 in Japan and 790 in the US, there is massive potential for growth,
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Zinc
October 2013 even if it is concentrated in second- and third-tier cities. In the big-picture view of China, it is hard not to be bullish for zinc demand given its broad application base. In the US, the auto industry remains upbeat and the construction industry is growing, even if it is not increasing as fast as was earlier expected. Talk of QE tapering triggered a rise in bond yields, which in turn lifted mortgage rates and financing rates, so when tapering finally starts there is a risk that demand in the US will suffer. But it is interesting that the business sector of the economy is starting to spend more on construction - this is one area of the US economy that is flush with money. Although ILZSG data for Asia (ex China) shows some strong growth, it varies from country to country so we would be wary of the impact of QE tapering on infrastructure projects in these countries. So far India, Taiwan and Turkey look strong but demand has fallen in South Korea, Japan and Indonesia. Demand in the 27 EU countries has also been stagnant, while that of the Russian Federation is up 21 percent. The latest ILZSG forecast for global zinc demand is for growth of 4.8 percent to 12.89 million tonnes this year and a further five percent to 13.54 million tonnes in 2014.
Chinese trade
China imports of zinc units have increased - concentrate imports and metal imports have picked up 12.8 percent and 16.5 percent respectively. The concentrate surplus that built up last year has raised treatment charges, encouraging China to import more concentrates, to which it can add value, especially while the LME/Shanghai zinc arbitrage window is open. The fact that the window has been open has also encouraged a pick-up in refined metal imports. This flow of metal from the West to China is helping to underpin LME zinc prices.
2010
Chinese zinc trade (thousand tonnes) 2011 2012 Jan-Aug 2012 7.0 515.0 973.0 7.0 303 600
Jan-Aug 2013 3.0 353 677
Change -Fd% +16.5% +12.8%
Exports Refined zinc 43.1 47.0 Imports Refined zinc 323.5 348.0 Zinc concentrates 1,620 1,466 Source: Official customs statistics
Stocks
LME stocks have fallen 230,500 tonnes so far this year. This fall and the supply surplus look odd but, with regular shipments of similar quantities of metal leaving the same warehouses, it looks a s though metal is merely moving out of LME-listed warehouses and into other non-LME warehouses where it can be financed more cheaply. In addition, with 540,000 tonnes of cancelled warrants, it looks as though the downward trend in stocks is set to continue. Another sign that there are good levels of off-warrant stocks around were the 80,075-tonne and 60,675-tonne deliveries into New Orleans on July 16 and September 30.
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Zinc
October 2013 Shanghai Futures Exchange (SHFE) warehouse stocks stood at 250 ,717 tonnes early in October - they started the year at 310,731 tonnes, peaked at 329,404 tonnes in early March and have since drifted lower. The combination of a pick-up in refined imports and a drawdown in SHFE stocks suggests stronger apparent zinc consumption in China, which may well mean either consumers are restocking, that consumption is finally picking up or that the SRB is restocking. Given that the broader economic data is still not registering a major pickup in industrial activity, we feel the drawdown may well be strategic buying to help underpin prices.
Balance
With the ILZSG registering only a small surplus in the first seven months of the year and exchange zinc stocks falling (although the fall in LME inventories is likely to represent metal going into financing deals), it looks as though the market is keeping roughly in balance. Overall, we feel zinc will remain balanced for the rest of this year and into 2014 although there is a risk that the ability to continue to finance metal will diminish, which could then boost availability. This raises the question of whether there has been a more concerted pick-up in global demand. Global supply/demand balance in refined zinc (thousand tonnes) 2009 2010 2011 2012(f) 2013(f) 11,298 12,896 13,080 12,593 13,020 10,932 12,649 12,706 12,342 12,890 +366 +247 +374 +251 +130 $1,659 $2,159 $2,191 $1,948 $1,915
Production Consumption Balance Price
2014(f) 13,470 13,400 +70 $1,950
Sources: ILZSG, FastMarkets forecasts
Conclusion
Zinc prices have found good support around $1,800; below there we would expect either production cuts or more support in the form of strategic buying from China to protect its zinc industry. Having been in a surplus for seven years and with the regulatory focus on financing deals and banks involvement in physical commo dities, plus the likelihood of QE tapering draining liquidity and raising the cost of corporate borrowing, we would not be surprised if less financing is done next year. In turn, this is likely to boost availability. In such a scenario, we would expect a period of lower prices, which would then bring about a supply correction. Looking longer term, the press is awash with reports of long term price increases in zinc on the back of expected mine capacity closures, leading to a structural deficit in the market. These influences are likely to be proven effective too far into the future to affect prices over the next quarter. In the absence of this outturn, we expect prices to remain rangebound, with producer selling capping the upside around $2,000, although there might be spikes above that level should short-covering rallies be triggered. For the fourth quarter we are looking for a range of $1,850-2,000 and an average of $1,920, with an average of $1,915 for the year as a whole. For 2014, we feel prices will at some stage break below $1,800, which in turn will start to correct the imbalance in the market and lead to a healthier outlook, which might then trigger a pick-up in investor interest and higher prices.
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Steel
October 2013
Steel
Introduction
World steel production has been expanding at a rate of around 3.1 percent so far this year and forecasts are for global demand to increase by around a similar percentage. But the market remains in a supply surplus and - more to the point - overcapacity threatens to keep prices under pressure. With domestic steel mills producing more than required, their keenness to export is weighing on prices too. The combination of lower prices and generally higher-than-expected iron ore prices is, however, squeezing producers margins so some producer restraint is evident, although new capacity is also being brought on line at the same time. Overall, production is expected to grow around 3.0 percent this year and next.
Current situation
Crude steel production peaked in May and has since been trending lower. In the first eight months of the year cumulative production was 1.05 billion tonnes, up 3.1 percent on with the same period of 2012, according to the World Steel Association (WSA). On a pro rata basis, this would put full-year production at 1.557 billion tonnes. Forecasts are for global apparent steel demand to rise 3.1 percent as well to 1.475 billion tonnes this year, according to the WSA. So there is still room for production cuts, especially if prices turn lower again.

Steel demand is expected to grow moderately in developed markets and in China, although we are concerned that the contagion from QE tapering may well hit demand growth in other emerging markets. Production remains in oversupply and capacity utilisation rates are generally low, which means producers should be able to respond quickly to any increase in demand.
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Steel
October 2013 With iron ore prices also expected to trade at lower levels next year, we feel there will be little upside pressure on prices, apart from bouts of restocking.
Supply outlook
Although global supply is growing, the picture at the individual country level is very mixed - output in the first eight months of 2013 fell in around 60 percent of producing countries compared with the same period of last year. Output is generally lower in Europe, the CIS, South America and Oceania, while some Middle Eastern countries, some Asian countries and China are seeing growth. Indeed, with China accounting for 49 percent of global steel production, the 9.3 percent growth in Chinese output so far this year distorts the global picture. The extent of the rise in Chinese production, given the relatively low levels of GDP growth of around 7.5 -7.8 percent, suggests that China has been restocking. This is unsurprising given apparent demand growth of just 2.9 percent last year, which in turn suggested destocking. The combination of high inventories after restocking, weak prices and relatively high iron ore prices, look set to prompt some production restraint. Indeed, Chinas State Council recently said it would cut 48 m illion tonnes per year of iron and steel capacity next year as part of its resolution to cut excess capacity and restore the steel industry to profitability. This would equate to some 6.0 percent of current output but it may be that the cuts are made from a combination of idle and active capacity. Conversely, in the US, where economic activity has picked up and there have been some improvements in the construction market, in employment and especially in the auto industry, we feel there is room for some pick-up in steel production. Indeed after a monthly average of 7.183 million tonnes in the first half of the year, output averaged 7.42 million tonnes in July and August. Domestic producers, however, face competition from foreign imports. According to the American Iron and Steel Institute, steel mills were operating at an average capacity rate of 78.2 percent in the week ending October 5, while year-to-date production of 75.87 million tonnes was at a capacity utilisation rate of 77.2 percent. So although production is lower than a year ago, it does seem to be picking up again. In Europe, production continues to fall, dropping 5.3 percent to 109.3 million tonnes in the first eight months of 2013. Capacity utilisation is expected to fall below 75 percent. In emerging markets, production in the first eight months was down 1.4 percent in Brazil and 2.8 percent in Russia but it rose 4.2 percent in India. The slowdown in Brazil and Russia has eased, compared with earlier data, while production growth in India has also slowed. With the US Fed looking to start tapering QE, there has been a flight of capital from emerging markets - this is expected to hit GDP growth in these markets, which, in turn, is likely to dent steel demand. Overall global steel capacity utilisation fell to 75.4 percent from 76.8 percent in July, according to the WSA. Although this shows producers are reducing output, it also highlights the extent of overcapacity.
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Steel
October 2013
Demand outlook
The outlook for steel demand is for a rise of 3.1 percent in 2013, to 1.475 billion tonnes, according to the WSA's October forecast. Next year, it expects apparent consumption to rise a further 3.3 percent to 1.523 billion tonnes. A hard landing in China and further declines in Europe now seem less likely, which should allow for a more stable base from which demand can start to recover; still, we are wary that structural issues, such has the tapering of QE in the US, the potential for further calls for budget cuts to lift the US debt ceiling early next year and contagion in emerging markets from reduced liquidity, as QE is reined in, means there is still a lot of uncertainty as to how 2014 will pan out. With the US leading the way in terms of economic recovery, Chinese growth apparently stabilising around 7.5-7.8 percent and Europe also showing some stability, the outlook for steel demand in developed markets and in China could turn out to be fairly robust. How strong apparent demand actually turns out to be will to a large extent depend on whether confidence grows enough to prompt restocking. How emerging markets cope with lower foreign direct investment as QE is first tapered and then reined in will be a key area of note. Needless to say, emerging markets are potentially strong areas for growth in infrastructure spending but capital flight is likely to see projects cancelled, which could undermine demand next year. In China, the new government seems prepared to accept slower growth, tackling the shadow banking industry and clamping down on local government misspending in areas where there is already overcapacity, which includes the cement, steel and aluminium industries. This may slow growth in steel consumption but, although the government is redirecting funds away from some projects, it is boosting investment in other areas, such as the railways and infrastructure in general. In addition, while the march of urbanisation continues, it is difficult to be bearish for steel consumption in China although there may be some lull in demand as investment shifts between those areas where the government wants to invest and the areas where they want to reduce investment. Chinas steel demand, which is expected to grow 6.0 percent in 2013, will account for the majority of global growth growth in the rest of the world is only expected to be 0.7 percent. For 2014, demand in China is expected to grow at a slower 3.0 percent as the aforementioned lull takes hold.
Conclusion
The steel market remains well supplied - indeed, it is oversupplied - so any pick-up in demand can initially be satisfied by drawing down inventories and then by boosting capacity utilisation rates. Demand is expected to remain subdued for the rest of this year and into 2014. We see the main risk from a slowdown in demand growth in emerging markets as the liquidity in the global market is reduced as US QE is first tapered and is then reined in. While we are more bullish for US demand, it alone is unlikely to produce a strong global steel market and stronger demand in the US will likely attract imports, which in turn will keep prices in check. For 2013, we would look for HRC prices to average around $640 per tonne.
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Steel
October 2013 Crude steel production (thousand tonnes) EU 27 CIS -6 N. America S. America Africa Mid- East Jan-11 14,727 9,541 9,859 3,746 1,234 1,802 Feb-11 14,617 8,902 9,100 3,759 1,048 1,730 Mar-11 16,295 9,900 10,242 4,217 1,193 1,723 Apr-11 15,688 9,447 9,876 4,167 1,102 1,726 May-11 16,191 9,584 10,007 4,421 1,193 1,711 Jun-11 15,605 9,282 9,925 4,123 1,191 1,665 Jul-11 14,964 9,278 10,093 4,267 1,207 1,587 Aug-11 12,730 9,463 10,131 4,180 1,200 1,677 Sep-11 14,666 9,060 9,910 3,965 1,103 1,661 Oct-11 15,174 9,495 9,853 4,061 1,206 1,681 Nov-11 14,244 9,140 9,885 3,880 1,090 1,641 Dec-11 12,541 9,318 10,134 3,795 1,202 1,718 Jan-12 14,148 9,503 10,451 3,731 1,204 1,698 Feb-12 14,172 8,918 10,191 3,779 1,206 1,661 Mar-12 15,739 9,865 10,850 4,302 1,288 1,625 Apr-12 14,949 9,570 10,684 4,074 1,221 1,736 May-12 15,407 9,615 10,772 3,944 1,252 1,705 Jun-12 14,716 9,243 9,780 3,832 1,191 1,674 Jul -12 14,249 9,172 10,014 3,935 1,191 1,404 Aug -12 12,029 9,250 10,348 3,836 1,186 1,589 Sep -12 14,31 9,580 9,592 3,837 1,176 1,642 Oct 12 14,126 9,057 9,588 4,197 1,195 1,634 Nov 12 13,510 8,919 9,423 3,848 1,183 1,659 Dec -12 11,925 8,925 10,087 3,603 1,217 1,640 Jan-2013 13,511 9,065 10,122 3,622 1,280 1,771 Feb-2013 13,280 8,624 9,385 3,467 822 1,815 Mar-2013 14,404 9,460 10,160 3,837 1,224 1,884 Apr-2013 14,027 9,131 9,763 3,890 1,181 1,909 May-2013 14,711 9,448 10,229 4,025 1,234 1,958 Jun -2013 14,075 8,957 9,449 3,830 1,234 1,928 Jul-2013 13,402 9,035 9,935 3,959 1,199 1,961 Aug -2013 12,034 9,064 9,064 4,074 1,181 1,952 Source: World Steel Association
Others 3,773 3,376 3,781 3,747 3,802 3,628 3,630 3,621 3,839 3,797 3,523 3,769 3,824 3,353 3,798 3,566 3,759 3,635 3,758 3,694 3,696 3,506 3,594 3,490 3,472 3,526 3,582 3,494 3,721 3,584 3,458 3,244
Asia 83,308 75,781 82,494 80,915 83,039 82,390 82,234 81,251 78,778 78,188 72,103 74,581 79,173 77,688 85,108 83,710 84,887 83,330 84,971 81,747 80,147 81,795 79,545 80,406 86,955 83,095 90,306 88,819 90,976 87,688 88,884 88,862
Total 127,990 118,313 129,845 126,668 129,948 127,809 127,260 124,253 122,982 123,455 115,506 117,058 123,731 120,968 132,574 129,509 131,341 127,402 128,693 123,680 123,673 125,097 121,681 121,293 129,798 124,014 134,857 132,214 136,302 130,745 131,799 130,351
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Iron Ore
October 2013
Iron Ore
Introduction
Iron ore prices have swung quite wildly in recent quarters; after the destocking run from February 2011 to September 2012, the outlook had turned quite bearish for 2013, but that was turned on its head when China took advantage of the sub-$100 per tonne price for 62% Fe CFR China to restock. Prices have since oscillated between levels around $110 and $155, with the swings tracking phases of destocking and restocking by China. With China accounting for around 60 percent of the seaborne iron ore market and with its high cost domestic production acting as a swing factor, the market is dynamic, especially given disruptions to supply from strikes and adverse seasonal weather patterns. We expect iron ore prices to continue to oscillate but we also expect the trading range to narrow and to hold around lower levels.
Current situation
The recent run-up in prices has once again been driven by Chinese restocking, after inventories at Chinese ports reached a four-year low in March and as the demand outlook for steel stabilised following earlier concerns about a hard landing in China subsided. The recovery in Chinas manufacturing PMI data helped prompt this turnaround but steel output in China seems to have run ahead of demand so steel production rates may have to drop again.

With global iron ore production being ramped up, more low-cost iron ore is likely to be made available to the seaborne market, which in turn may well keep prices more rangebound around lower levels in the years ahead. In addition, while the need for high-cost Chinese iron ore eases to balance supply and demand, iron ore prices should start to fall - the cost of production outside China is considerably lower. That said, while Chinese production is still required, prices are unlikely to hold below $100 for any length of time. Conversely, with global economic growth subdued and the steel industry oversupplied, steel production cuts are likely and that is also likely to keep iron ore prices in check on the upside.
Supply and seaborne trade outlook

Seaborne supply and Chinese demand for iron ore generally set the iron ore price; the likelihood that seaborne supply will be insufficient to satisfy Chinese requirements will mean the market will have to tap Chinese iron ore to balance the market. Since Chinese iron ore is at the top end of the cost curve, prices will be supported around $100-110.
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Iron Ore
October 2013 Iron ore supply from Australias three largest iron ore producers - Rio Tinto, BHP Billiton and Fortescue Metals Group - is expected to increase 34 million tonnes in the fourth quarter compared with the same period last year and 12 million tonnes compared with the third quarter of this year. Vale is also stepping up production - it aims to produce 480 million tonnes in 2018, up from a scheduled 306 million tonnes this year. Globally, iron ore production is expected to increase around 4.0 percent in 2013 to 1.98 billion tonnes. This rate of growth is slightly higher than the expected 3.1 percent growth in steel production. In 2014, supply is expected to increase around 6.5 percent to 2.10 billion tonnes, while steel production is expected to grow around 3.0 percent. The accelerated increase in iron ore production next year is expected to shift the market to a surplus from a supply deficit. Overall, China remains the balancing factor in supply and demand although with developed economies in recovery mode a pick-up in demand for iron ore outside of China should also help support prices. Falling iron ore exports from India in recent years - the result of resource nationalism, characterised by exports bans and 30 percent export tariffs - have limited the amount of iron ore available to the seaborne market. Given India's current account deficit crisis, pressure to reopen the export market may grow. If the government is happy to restrict imports of bullion to help address the trade deficit, it may also relax restrictions on iron ore exports. In 2007, India accounted for 21 percent of Chinas iron ore imports; this figure dropped to one percent last year. The overall outlook is for iron ore supply to grow at a faster pace next year and for the market to move into a supply surplus for the first time since 2010.
Demand outlook
The combination of a forecast increase in global steel production of 3.1 percent and 3.3 percent this year and next year respectively bodes well for seaborne demand. Although there has been some iron ore restocking in China in recent months, stocks are not overly high. Another phase of destocking could start if iron ore prices start to fall but prices generally seem to be holding up well for now. Economic growth in the US is expected to recover slowly in the months ahead, while growth in China is seen stabilising. After years of high compound average growth in the country, even growth of 7-8 percent still means a lot more volume is needed each year so we find it difficult to be bearish on Chinese steel consumption. The one area of concern is the impact of QE tapering on growth in emerging markets. If these face illiquidity issues or must raise interest rates to protect their currencies, economic growth could slow and less foreign direct investments could potentially see investment in infrastructure projects cut. The more seaborne ore makes its way to China, the lower the need for the price-setting, higher-cost Chinese domestic ore. We expect demand for iron ore to remain robust overall - there may be a drop in demand in emerging markets if there is a liquidity crunch next year, but beyond that we feel the outlook for iron ore demand is strong. Once global economic growth look sets to recover, led by the US followed probably by China later next year, there may well be room for a significant pick-up in steel demand as more concerted economic growth is seen.
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Iron Ore
October 2013
Conclusion
The iron ore market has had some large swings in prices in recent years but while seaborne supply increases and steel consumption is likely to remain subdued, we feel the swings will become less amplified and prices will hold in a tighter and lower range. In the fourth quarter we would look for a range of $120-138. There may be spikes outside of this range but we would expect them to be short-lived. Overall, we are looking for iron ore prices in 2014 to trade in a range of $95-100 at the lower end and $130-135 at the upper end.
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Contact Details
London Sucden Financial Limited Plantation Place South 60 Great Tower Street London EC3R 5AZ Tel: +44 (0) 20 3207 5000 Fax: +44 (0) 20 3207 5010 Email: info@sucfin.com www.sucdenfinancial.com Hong Kong For futures, options and bullion only: Sucden Financial (HK) Limited Unit 1001, 10/F. Li Po Chun Chambers 189 Des Voeux Road Central Hong Kong Tel: 852 3665 6000 Fax: 852 3665 6010 Email: hk@sucfin.com Russia Sucden Financial (Russia) Sucden Financial Limited Representative Office Orlikov per. 3 B Moscow 107139 Tel: +7 495 796 96 40 Fax: +7 495 796 96 41 Email: russia@sucfin.com www.sucdenfinancial.ru
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Sucden Financial Quarterly Metals Report October 2013

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