Torlizzi Base Metals Report: The spigot slows in China

The steel and industrial metals sectors closed in a general positive tone in July. The best performers were copper, which gained 6.62 percent in value in July, and nickel, which closed July strongly, getting closer to a 200-day moving average of $10,000 per metric ton. Shanghai Futures Exchange (SHFE) steel rebar pricing also rose 6.46 percent in July.

The positive performance of steel and base metals in July hinged on a combination of a weaker U.S. dollar (due to a compression of real rates in the U.S. economy as it lost momentum) and strong China July indicators.

Standard Chartered Plc’s Small and Medium Enterprise Confidence Index in China snapped a three-month streak of declines and rose to 56. The S&P Global Platts China Steel Sentiment Index jumped to 55.3 in July, the first time in 2017 that it breached 50.

Infrastructure spending as a percentage of total fixed asset investment is back to levels higher than it was in the midst of the financial crisis. Investment in infrastructure (transport, utilities) has risen to 21.8 percent of total capital spending – significantly above the 2015 level of 17.8 percent, and even at the peak of the financial crisis when it reached 21.4 percent in early 2010. This is likely a function of policy makers looking to ensure stable growth before the Communist Party plenum.

While the base metals and steel market seems poised to continue its bullish direction in August and September, we remain very skeptical about the sustainability of the move and advise clients to hedge on weakness only on a short-term basis.

The reason behind our bearishness relies on the impact that the new monetary tightening process will have on China’s economy.

Multiple news sources recently have focused on China tightening:

1) Tao Ling, deputy head of the financial stability bureau at the People’s Bank of China (PBoC) said there were multiple irregularities in China’s asset management industry, including different standards among different regulators, opacity and complexity of products, issuing short-term products to invest in long-term assets and fast expansion of off-balance sheet assets at banks.

2) He reiterated a PBoC focus on macroprudential management of the asset management industry (wealth management products, or WMPs) and added that proactively preventing financial risks was the main task at the moment.

3) China’s vice finance minister said the nation should consider tax breaks when setting fiscal policy, and another Ministry of Finance official said the government should keep stepping up supervision on government-contingent debt and set local government debt ceilings. While policymakers have dialed back the rhetoric on tightening since June, the focus, according to our economists, remains on deleveraging.

Thus, it was not too surprising to us that the latest official PMI (purchasing manager index) readings suggested that China’s growth momentum may have waned at the start of Q3. After rising in June, the official manufacturing PMI has dropped back this month, from 51.7 to 51.4 (the Bloomberg median was 51.5).

On the currency side, we believe that the U.S. dollar bottom is close, and that will cap base metal price spikes.

The latest data coming from the United States indicate that the U.S. economy is bound to reaccelerate into the second half of the year. The Chicago Fed National Activity Index rose in June on better productivity, employment, consumer spending and housing data.

Nickel prices rose higher in July as Philippines President Rodrigo Duterte called on the industry to build plants that will process raw materials into finished products, signaling that he doesn’t favor exporting nickel ore. He added that the government could look to put a stop on the extraction of export of mineral resources, and if miners didn’t build plants it would lead to increased taxation.

China’s looming ban at the end of 2018 for Category Seven types of scrap (including motors and wire and cable) affects some 60 to 70 percent of imported copper-bearing scrap shipments into China—but only about 8 percent of China’s refined copper scrap imports by weight. (Some of the Category Seven scrap is just 14 percent copper by composition.)

Some quarters believe the material will still likely end up in China, but simply be dismantled and sorted elsewhere first, with other countries in Southeast Asia seen as likely destinations.

Commodities Pricing Trends

July 27, 2017                       Jan. 1, 2017        % change

LME Copper                                 $6,320                                   $5,481                   +15.3%

SHFE Copper                               $7,436                                   $6,813                   +9.1%

LME Secondary Aluminum            $1,640                                   $1,560                   +5.3%

LME Nickel                                   $10,145                                 $9,970                   +1.7%

LME Ferrous Scrap                       $326                                      $297                      +9.7%

SGX Iron Ore                                $65.88                                   $74.01                   -10.9%

SHFE Rebar                                  $529                                      $434                      +21.9%

[Prices per metric ton.]

The author is managing director of Milan, Italy-based T-Commodity and can be reached at gianclaudio@t-commodity.com. T-Commodity is a consultancy specializing in market intelligence, risk management and educational services on commodities and foreign exchange markets.