Canada metals ride tide of rising prices
Scotiabank economist offers wide-ranging summary of global market conditions for commodities at annual Nunavut Mining Symposium
Last updated 4/25/2010 at Noon
IQALUIT, Nunavut - Canadian mining companies can expect to see continued upward movement in prices generally for precious and base metals and coal, along with increasing volatility during the next 18 months to 2 years, a top economist told a gathering here April 13.
Patricia Mohr, vice president, economics and commodity market specialist for The Scotiabank Bank Group offered delegates attending the 13th annual Nunavut Mining Symposium her expert view of current global economic conditions and how they will likely impact Canadian commodities prices in the near future.
The Scotiabank Group was a leading underwriter in Barrick Gold Corp.'s US$4 billion bought deal equity offering of 109 million common shares in September 2009, the largest equity underwriting in Canadian history and the largest in the international gold sector. The firm also served as the sole financial adviser to China Investment Corp. when it invested US$1.5 billion in Teck Resources Ltd. in July 2009.
Mohr, who also developed the Scotiabank Commodities Index, the first-ever designed to measure trends for Canadian commodities, said commodities have rebounded more rapidly than anyone would have predicted in the past year and created an extraordinary environment in global markets.
Canadian commodities, including oil and gas, minerals, and agriculture and forest products, were up 30 percent from their bottom prices in April 2009; their prices are quite high relative to historical experience, she said.
Mohr cited a strong rebound in China's economy and the dominance of China in world commodity markets as lifting prices much more rapidly than would normally have occurred.
"Traditionally, we didn't see a pickup in commodity prices until 18 months after the end of the U.S. recession," she said. "This time we started to see commodity prices picking up really before the United States had bottomed in its economy. I think this is testimony to the role of China now in lifting global demand for commodities."
Mohr also cited the "heated interest" investment funds around the world have shown in commodities.
"Before, investment funds didn't invest directly in commodities," she said. "Now, they take massive positions. I think this is because interest rates around the world have been at record lows, virtually zero. Commodities are giving much better returns than, for example, U.S. Treasuries."
Mohr said the fund managers are using investments in base metals as a proxy for being directly involved in China's emerging economy, which is showing remarkable and sustained strength. She predicted that China's gross domestic product will climb 9.5 percent in 2010 and 8.9 percent in 2011. In 2009, China's GDP grew at a rate of 8.7 percent, higher than Beijing authorities' prediction of 8 percent.
Another reason for the recent surge in commodity prices is restocking of raw materials in industrialized countries, especially in the United States, she said.
"Up until now, all commodity prices had nothing to do with U.S. demand, but we think we will finally begin to see the economy recover in the United States in the second quarter as we see widespread restocking in the manufacturing sector, something hedge funds and investment funds have been waiting for," Mohr said.
She cited the success of the "Cash for Clunkers" program in the United States as a key factor in lifting the country out of recession because automobile inventories fell to record lows.
The economist said another reason she is optimistic about the near-term outlook for commodity prices is the tremendous interest that investors are showing in commodities as an asset class.
With interest shifting from passive investing in 2007 and 2008 to more active strategies using hedge funds, the search for higher returns given record low interest rates across the world and exceptionally low Treasury yields has boosted investments in commodity assets. Globally, that total hit US$260 billion by late 2009 from the previous level of about US$75 billion, she said.
"This compares to a mere US$6 billion to US$10 billion invested in commodities in the year 2000," Mohr added.
This trend is particularly evident in base metals, she said.
"I think we are already seeing volatility in gold and base metals," the economist said. "Because of that commodity prices pulled back sharply in February. Everybody knows that China is really leading world demand for commodities and the risk appetite for commodities had returned."
Mohr said she expect the United States to begin to tighten monetary policy in the third quarter of 2010 and to see another pull back in commodity prices in response.
She said difficulties in the U.S. housing market have morphed into a global credit crisis "the likes of which I have never seen."
"It was very, very scary," she said.
The U.S. Federal Reserve Bank, however, has been doing all it can to kick-start the U.S. economy and Fed Chairman Ben Bernanke is already moving toward a neutral monetary policy in preparation to begin a tightening later this year, she said.
"We expect to see a 200-basis-point increase (in U.S. interest rates) between the third quarter and the middle of 2011," Mohr said. "In other words, short-term interest rates will increase two percentage points."
She also said the Bank of Canada may tighten its monetary policy in June, and the nation probably will see a 250-basis-point increase in short-term interest rates "because the Canadian economy is doing quite well."
"If that happens, expect the Canadian dollar to move above par with the U.S. dollar," she said. She observed that this will present quite a few challenges for Canadian resource companies.
Though economic recoveries have begun in Japan and Germany as well as the United States, she said she expects to see another slowdown in 2011.
The U.S. dollar has seen a bit of a recovery, but the world is still very concerned about the nation's projected $1.5 trillion deficit in 2010 and 2011, she said. "This will push U.S. public debt to 70 percent of GDP, and the major rating agencies have put the United States on credit watch," she added.
Mohr also said she expect energy prices to continue to slowly trend upward with oil prices averaging US$83 per barrel in 2010 and US$87/bbl in 2011.
"China is leading the way on global oil demand because motor vehicle demand is much higher than in the United States. However, the United States also will have a recovery in petroleum consumption," she predicted.
Outlook for individual metals
Mohr also summarized conditions for individual metals. Among them:
COPPER - Medium-term supply conditions for copper have been tight, which is reflected in the unprecedented jump in prices from $1.26 a pound in late 2008 to $3.58/lb in mid-April. "This is extraordinary. I've never seen anything like this in my career," she said.
China's demand for copper climbed 30 percent in 2009, excluding any inventory the country restocked.
Mohr said China has already begun to tighten its monetary policy, but the country is particularly exposed to copper prices because 75 percent of its copper imports is arranged through traders and not directly from mining companies.
"In the past six months, Chinese mining companies, smelters and refiners have been investing strategically in copper mines around the world to the tune of 2 million tons," she said. "In the next three to four years, all of this new copper mine capability is going to come onstream, so while I'm optimistic that copper prices will move up further, supply-demand conditions by mid-decade may not be as tight as people have been imagining and it is because of all these strategic investments by China."
Mohr said copper prices will average US$3.30/lb in 2010, including the effects of a pullback in the third quarter, and move up to US$3.50/lb in 2011 with some quarters at the US$4 mark.
ZINC - Zinc prices have been rising in sync with copper prices, but they are not quite as strong as prices for the brown metal, Mohr said.
"Because investors are playing such a big role now in base metals, they've actually been bidding up zinc," she said. "I don't know if supply-demand fundamentals would justify where zinc prices actually are. Zinc inventories are quite high around the world and they are for aluminum as well, and yet the prices rebounded hugely because investors are looking down the road two years toward supply-side tightness. Then toward mid-decade, we're going to get a lot of mine depletion around the world, which would permit zinc prices to actually rise."
The economist said investors are anticipating this development and discounting it now just like in the stock market where investors discount six to 12 months forward.
"It means that if the market should pull back, there might be a possibility of short selling," she said.
COAL & IRON - Mohr said market conditions for premium-grade hard coking coal and for high-grade iron ore have changed dramatically in recent months. Prices for hard coking coal have jumped 55 percent to about $200 per metric ton and producers have switched from annual to quarterly contracts to better keep pace with spot price increase. She said a recent cyclone off the coast of Australia may force prices even higher in the second quarter of 2010.
Iron prices, meanwhile, have jumped 83-90 percent to around $161/t and iron ore producers also are moving into quarterly contracts.
China is the largest importer of iron ore and accounts for 40 percent of global steel production. That country's reliance on high-grade iron ore imports is going to grow, but one of its major suppliers, India, recently cut back on its exports of high-grade iron ore to better meet the needs of its own steel industries.
Mohr said she advised Chinese investors in Shanghai recently to invest in iron ore mines around the world.
URANIUM - Uranium prices have decreased recently to around $41 a pound, mainly due to falling demand because utilities around the world have finished restocking inventories, the economist said.
Canada is set to host the G-20 meeting in June and is expected to sign a bilateral cooperation agreement with India, she said.
China, too, is expected to become a major market of Canadian uranium exports as that country builds more nuclear power plants. Canada is currently working on changes to its trade agreement with China to better accommodate that growth, Mohr added.
GOLD - The economist said she expects the remonetization of gold as evidenced by the recent increases in prices to US$1,000-$2,000 per ounce to continue. "Some people think it will go to US$1,300/oz," she said. "If Greece defaults on its debt, gold will go to US$1,300/oz."