commodities

While it might be tempting to classify trends in accordance with traditional nomenclature the reality is that the outlook for commodities is mixed.

This not withstanding, it is possible to discern commonalities across the commodity spectrum.

AUTHOR: Dean Cunningham, director at Micofin

This article first appeared in Mining Review Africa Issue 2, 2019

  1. Firstly, supply is an ongoing challenge – over time high-grade, easy-to-mine projects have been exhausted, leaving frequently low-grade, high-cost projects as remaining opportunities. With investment into high-cost projects likely to further decline or stagnate over time, we would ultimately expect to see some price support from the supply-side.
  2. It is reasonable to assume that the strong correlation between population growth and commodity prices – especially industrial metals – should continue. With that in mind, it is important to consider that the global population is expected to reach nine billion by 2050. The impact of this on multiple commodity baskets should be significant – these people will require cars, white goods, laptops, and smartphones, while expecting to live in increasingly urbanised areas with adequate infrastructure. The consensus is that population growth will continue unabated, much like the expectation prior to the 2008 market collapse that demand for housing would not waiver. This is possibly the key factor to watch in the long-term outlook for commodities.
  3. Across the world, deglobalisation trends – from the UK’s Brexit to the US reconsidering its trade relationship with China – are beginning to feature prominently. Following an extended period of unquestioningly assuming that global integration is inherently beneficial, it is unclear at this stage what the ultimate impact of this reversal will be. One could speculate, however, that disintegration might lead to increased debt, savings and investment burdens, and more volatile growth, ultimately culminating in a contraction of global trade. This would have profound impacts on both developed and emerging markets, the former of which often rely on accessing global markets for exports, while the latter benefit from hitherto competitive commodity pricing.
  4. The cyclicality of commodity markets is well-documented; following a period of reduced exploration and new mining projects, any upswing in commodity demand should support prices. In the event of a long-term resurgence in demand, it is unclear whether current capacity will be adequate.
  5. Frequently overlooked when considering commodity trends is the scrapping market, which has grown significantly in the past decade due to advancements in technology and efficiency. Combined with easy access to a number of commodities on-surface, the scrapping market has potential to become an important swing factor in the global supply-demand balance. While a lack of investment in exploration and new projects will potentially drive a tighter market, the scrapping industry could begin to fill the capital void. This has been particularly evident in the PGM sector.
  6. Japan provides an interesting case study – a considerable amount of metals (including nickel, gold, zinc and aluminium) have been accumulated. Some estimates have determined these stockpiles to be higher than the reserves of certain resource-rich countries. We have already seen developed markets focus on reducing waste – in the commodities space, this would entail greater efficiency in recovery and lower energy usage. While the full impact of this remains to be seen, it cannot be discounted when assessing future supply and demand dynamics.

Across the board, commodities appear to have mixed fundamentals. Some of these are outlined below.

Platinum and Palladium – outlook positive

In-line with the dual impact of tight supply and demand growth, palladium saw a strong price rebound in 2018.  On the supply-side, South Africa has played a role in supporting price growth – the PGM sector continues to restructure and downsize to remain profitable. As operations have gone deeper and labour costs have risen, it is increasingly difficult for domestic miners to breakeven in spite of relatively high spot prices.

As existing stockpiles become exhausted, we would expect to see further price uplift in the short-term, with structural change driving a longer-term bullish outlook.  The eventual switch to electric cars is likely to factor into vehicle demand in the medium to long-term.

In the meantime, especially in emerging markets, demand for traditional petrol and diesel cars is likely to continue for some time. Palladium is increasingly the preferred input for catalytic converters and China has recently indicated its intention to reduce smog and pollution by using the metal in place of its close relative, platinum. Despite increased demand from the automotive sector being a likely scenario, there could be a retreat back into platinum on the basis of relative pricing; this needs to be monitored closely.

Gold - outlook positive

Gold continues to retain its safe haven status, with several factors likely to drive upside. These include the following:

  • The currently unresolved trade war between the US and China
  • Analysts have revised Fed hike expectations downwards and are now projecting a further two hikes in 2019 (down from four estimated previously). This could see tight monetary policy moderate in the near-term. However, concerns around US ‘peak earnings’ should be scrutinized as, on the one hand, this could drive a more hawkish Fed outlook (negative for gold). On the other hand, overvalued equity markets could see a shift into gold as an alternative investment.
  • Demand for jewelry in India on the back of increased economic growth and stability
  • In the longer-term the outlook across many areas – from climate change to global political sentiment – is increasingly uncertain. While it might be premature to speculate on the size or direction of change, these might become important contributory factors in the long-term.

Silver - outlook positive

Unsurprisingly, silver continues to lag gold (reaching its lowest level in 2018) and future price scenarios are largely based on silver’s historical relationship with its yellow counterpart. Some of the major downward drivers have been a hawkish Fed implementing tighter monetary policy, a stronger greenback, a period of heightened US treasury yields, geopolitical uncertainty and soft jewellery demand.

Analysts currently expect silver to reach US$16/oz by March 2019 before rising to $18/oz in December. This could be followed by another rally in 2020 to $20/oz. If the historical lagged relationship between gold and silver holds true, a strong increase in the gold price could support outperformance in silver.  

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