base metals
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Financial services firm Moody’s Investors Service forecasts a stable global base metals industry for 2019.

However, growth appears to have peaked and is decelerating, particularly in China, a key driver of base metals performance and expectations, VP and senior analyst at Moody’s DOUGLAS ROWLINGS tells SASCHA SOLOMONS.

This article first appeared in Mining Review Africa Issue 1, 2019

“Base metals in particular which is still influenced by trading tensions, with investment in exploration and production necessary to maintain price stability. Increasingly divergent growth expectations contribute to 2019 being a more challenging year,” starts Rowlings.

Global contributors

Key themes identified by Moody’s to have the greatest impact on base metals globally include:

  • Global economic growth to decelerate in 2019
  • Trade tensions to impact demand for base metals
  • Political risk posing uncertainty on taxes, royalties, operating licenses
  • Environmental, Social and Governance considerations, particularly environmental, will remain a focus
  • Balance sheets, financial condition more resilient than in 2015/2016
  • Investment in exploration and development necessary

A key factor affecting global growth for the base metals industry appears to be tighter liquidity and trade tensions, with Moody’s central economic scenario putting 2019 global gross domestic product (GDP) growth at 2.9%, China at 6% and 1.8% for the Euro area. Increasingly divergent growth expectations will contribute to 2019 being a more challenging year.

Although 2019 will soften in comparison to 2018 on indications that global economic growth rates have peaked, the stable outlook for base metals could change to negative if purchasing managers’ index (PMI) statistics for the United States (US), Europe and China track in the low 50s for at least two consecutive months and if Moody’s’ global macroeconomic outlook for GDP growth changes to less than 3%.

It may also change from stable to positive if PMIs in the US, Europe and China exceed 55 for at least three consecutive months and if Moody’s global macro outlook for GDP growth is greater than 4%.

Further, Rowlings notes that coupled with slower growth, trade issues will keep prices range-bound in 2019 with some downside risks in trade tensions which impact the demand for base metals.

“Trade uncertainty, retaliatory tariffs, Brexit, Commerce department tariffs on aluminium imports and potential sanctions weigh on sentiment,” he adds.

Another key factor that could impact the stability of base metals in 2019 is political risks.

Such risks includes resource nationalism where countries desire to retain more of the value of their natural resources which contributes to uncertainty on tax, royalty, operating license stability and investment decisions. 

New mines are also a risk, especially those that are increasingly located in countries with greater political risk, weak infrastructure and poorly defined mining regulations. 

With increasing political risk, new Greenfield mine developments will take longer, “Consequently resulting in deficits - likely over the near to medium term, particularly in copper and nickel.”

From an environmental sustainability perspective, which is not a new issue, Rowlings notes that the mining industry has elevated exposure to environmental risks which results in the expected increase of scrutiny and costs.

Soil, water pollution and land use restrictions are substantial risks as well as water shortage and local community objections to new mine development also present a high risk, while carbon and air pollution risks are more moderate.

Increasing costs to comply with environmental regulations will be better absorbed by the stronger, larger companies in the sector and joint ventures are more likely to share investment and environmental risks in the new year.

In terms of financial stability, balance sheets are more resilient than in 2015/2016, with increased cushion for sector weakening. Liability management, debt reduction, cost initiatives and solid liquidity will position the industry to better weather market weakness than before.

In addition, increasing freight rate costs, higher labour and other input costs as well as the volatility in oil prices will pressure margins.

“Resource replenishment and capital spending on growth will be key factors to watch in 2019. Lower prices and higher costs will result in the biggest earnings contraction in 2019,” he adds.

African outlook

Base metals have played a crucial role in shaping some economies - specifically in Africa.

Notable examples are copper and cobalt in the Democratic Republic of the Congo and Zambia.

These countries were adversely impacted by the decline in base metals which started in 2015 and bottomed in 2016.

Until these economies become more diversified, downside price volatility will continue having a negative impact on their sustainability in 2019.  

With regards to the regulatory environment, Rowlings notes an expected shift in many African mining jurisdictions towards greater rent extraction from the mining companies will continue.

This has already been seen in the Democratic Republic of the Congo and Tanzania.

Ghana’s government has also alluded to the possibility that it may introduce a new mining framework. In many instances, mining development agreements were struck at very favourable terms to induce investment into high operating risk mining jurisdictions.

As a consequence, given the high return profiles of these mines, many governments are seeking to change these agreements to align with global norms.

Mining companies argue that this is a shifting of the goal posts. They are of the view that there should be compensation in the form of above-average investment returns for taking on above-average mining risk.

Mining companies have also highlighted revisions of mining agreements in Africa have led to the lower Internal Rate of Returns for new mining projects.

“At such rates they postulate that reserve development would have unlikely taken place in the first place,” he concludes.

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