In the view of Metal Bulletin Research (MBR), one of the biggest events this year for base metals was the rotation of investment capital out of commodities and into higher yielding asset classes such as equities and bonds. This happened in the second quarter as the US Federal Reserve started to talk about tapering its quantitative easing (QE) programme, as the dollar strengthened and emerging market growth came off the boil.
But China's economic slowdown, a crucial concern a year ago, has abated and growth there has turned around. What's more, it has done so as developed world economic conditions are demonstrating resilience beyond previous expectations. The dollar index and bond yields have flattened, US equity markets have hit record highs and base metal prices appear to have largely bottomed out.
MBR believes these trends set the stage for investment capital to rotate back into the base metals in 2014, which should be reflected in higher prices across the board. Indeed, our view is the base metals have been oversold for some time. Risk aversion in response to potentially bearish factors such as the US fiscal crisis, the Eurozone crises and fears of a Chinese hard-landing, resulted in a withdrawal of liquidity from the market and left a void that CTAs (commodity trading advisors) and other trend-following traders exploited. In all three cases, those big-picture macro and fiscal risks have subsided, especially since the summer. But base metal prices have yet to reflect this, and this leaves risk/reward favouring the upside for 2014.
However, there are negative threats. The Fed's winding down of QE is the elephant in the room. But US policy will remain very accommodative long after the tapering decision that the markets have become so fixated upon. Risks remain to China's economy as it plots a course towards a more consumption-driven model. But policymakers there have been successful in negotiating obstacles by deploying targeted stimulus and policy tweaks when required. This successful stewardship will continue. In Europe, growth has stabilised and that is welcome but it would be optimistic to assume a steady recovery from here is assured. In fact, the risk of a relapse is high, also the case in Japan.
Net speculative short positioning in base metals, a defining feature for many of these over the past six to nine months, places much emphasis on these diminishing negatives and overlooks many prevailing fundamental positives, including falling London Metal Exchange (LME) stocks, strong Chinese imports, global manufacturing expansion, supply disruptions and scrap shortages. MBR believes these indicators warn of the likelihood that base metal markets will, if anything, end up tighter next year, than the short-positioned speculative/investment community currently expect, and prices will have to re-rate higher, accordingly.
MBR's fundamental view on copper is, oversupply in the concentrated market will take time to turn in the refined market and, when it does, metal will be held in off-market stocks in China and elsewhere. We forecast a cathode surplus equivalent to only one per cent of global consumption, unlikely to be a major drag on prices.
Aluminium and zinc are entering their seventh consecutive year of oversupply, according to MBR's models. Yet, in both cases, the annual surpluses are getting smaller. Both have large stock overhangs to work through before the fundamentals can be considered to have improved, as is the case in nickel after two years of enormous production excess in China.
For the first quarter of calendar year 2014, we forecast an LME cash price of $1,850 a tonne for aluminium, $7,220 for copper, $2,180 for lead, $14,200 for nickel, $25,000 for tin and $2,032 for zinc.
Fundamentally, though, lead and tin are the best positioned of all the base metals, as we forecast global supply deficits in 2014.
The author is director of MBR, a research and consultancy division of Metal Bulletin