S&P Global Ratings Lifts Metal Price Assumptions For Iron Ore, Makes Modest Revisions For Gold, Aluminum, Copper, And Zinc

July 08, 2019 | Primary Credit Analyst: Simon Redmond, London (S&P Global Ratings)

Table 1

S&P Global Ratings is significantly raising its metal price assumptions for iron ore and making adjustments of 5% or less to those for several metals for 2019, 2020, and 2021. Namely, we are raising our price assumptions for gold and lowering them for aluminum, copper, and zinc. Our assumptions for nickel are unchanged.

Periods of pricing volatility in the metals and mining sector are to be expected. However, some moves for certain commodities recently have been pronounced and, in our view, are more likely to be sustained. Supply shortfalls for iron ore, market fundamentals for gold, weaker market sentiment for aluminum and copper, and our expectation for higher zinc supply underpin our revised assumptions.


We project positive growth in demand for all of these metals and minerals. Although we have recently modestly lowered our forecast for real GDP growth in the U.S. and key emerging markets, macroeconomic conditions remain broadly supportive. For this year, we now forecast GDP growth of 6.2% for China, 2.5% for the U.S., near 1.1% for the eurozone, and 1.2% for Latin America (excluding Venezuela). However, the downside is increasing not only due to uncertainties regarding the direct and indirect impacts of U.S. and China trade relations but also U.S. tariffs on EU cars, the possibility of a financing squeeze in a mature credit cycle, and vulnerabilities in emerging markets.

While we do not incorporate a downturn or recession into our base-case scenarios for 2019 and 2020, we continue to factor in the changeable and cyclical nature of the industry and when evaluating our credit ratios for producers. We can do this, for example, by setting higher ratio thresholds when cash generation is strong.


At the same time, we expect supply growth for most metals, excluding iron ore, to remain muted or moderate over the next couple of years, based on modest capital expenditure (capex) and exploration in recent years. Although we consider that our price scenarios for 2019-2021 could support the rates of return needed for higher capex in the sector, most management teams continue to focus on cash flow, moderate leverage, and shareholder rewards rather than growth. We estimate that aggregate capex across the mining industry this year will increase to be roughly 10% higher than in 2018, although this remains almost half the level of 2012.

We form our price assumptions based on market data, including spot prices and forward curves, stock levels along the value chain, and our views about market fundamentals, including but not limited to supply-demand forecasts shown below by S&P Global Market Intelligence (a division of S&P Global, as is S&P Global Ratings), in accordance with our methodology.


We are revising our aluminum price assumptions downward for the remainder of 2019, while maintaining our 2020 and 2021 assumptions. Prices have continued to trend down over recent months despite expectations of undersupply on the market by 1.5 million to 1.7 million tons this year and global inventories reaching lows not seen since 2007.

Our price of $1,800 per metric ton (mt) for the rest of 2019 reflects our view that sentiment from global trade tensions and the potential risks to global growth are weighing on aluminum prices. We have maintained our price of $2,000/mt and $2,100/mt for 2020 and 2021, as we believe the fundamentals are robust, underpinned by expectations of a continued supply deficit, low inventory, and solid aluminum demand growth globally. At current prices of about $1,750/mt, significant capacity is currently producing at a cash loss, which may lead to further capacity curtailments, further supporting a price recovery. In addition, while alumina prices have softened in recent weeks, we note the current spot price of about $350/mt relative to aluminum prices is still unsupportive for smelters. In our view, a price of about $2,100/mt would correspond to a healthier margin for producers and could find support from slowing but continued global economic growth, further reductions in capacity, and slower growth of smelting capacity from China.

So far, we believe that U.S. tariffs have had more of a regional than a global impact on prices, demonstrated by current average premiums for physical delivery to the U.S. of about $420/mt, which have doubled in the last two years, basically matching the 10% import tariff. Meanwhile, regional premiums of about $90/mt and $140/mt in Asia and Europe have been steady. We expect this divergence will persist, and at this stage we do not anticipate the recent tariff exemption on Canadian aluminum to affect Midwest premiums. These premiums are contributing to U.S.-based producers' realized (all-in) prices, but adding costs to downstream consumers of aluminum in a range of industries from automotive to consumer products.

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Table 2

We are lowering our price assumptions for copper for 2020 and 2021 because we expect trade tensions and new tariffs to weaken global trade, mildly softening copper demand. We still believe the global industry will experience shortfalls of supply compared with demand and therefore continue to see an upside for prices, but our base case is now suggesting those deficits would be smaller than before.

Recent news about a strike at Codelco's Chuquicamata mine and other point-in-time supply disruptions may exacerbate price volatility sporadically, but we do not expect these to alter the market balance meaningfully. We now expect undersupply of less than 100,000 tons a year in 2020 and 2021. What's more, inventories have steadily declined, which we believe could support current spot prices longer or even push prices up further.


We have increased our assumption for gold prices for the rest of 2019, 2020, and 2021 to take into account recent market price increases and our more positive view of market fundamentals. Prices have meaningfully increased of late and exceeded US$1,400 an ounce (/oz)--prices not seen since 2013. In our view, the rapid recent ascent--in the context of relatively stable gold prices over the past several years--is due to a combination of factors. Of particularly note is weakening sentiment about global economic growth, U.S.-China trade uncertainty, and the resurgence of geopolitical concerns in the Middle East.

We modestly increased our price assumptions by US$50/oz through 2021 to US$1,300/oz. Our assumptions remain below current spot levels, as we are not convinced that the increase is sustainable. However, we maintain our positive price bias for prices, underpinned by anticipated interest rate cuts, notably in the U.S. We now expect the U.S. Federal Reserve to cut interest rates as early as September 2019. The European Central Bank and Bank of Japan have also become more dovish of late. In our view, the prospect of potentially lower interest rates, which historically negatively correlated with gold prices, is bullish for gold prices.

At the same time, prices have exhibited numerous fluctuations over the past several years, which are unpredictable. Clearly, the underlying sentiment that drives gold prices can change quickly. Moreover, the U.S. dollar remains relatively strong, and inflation in the U.S. is trending below the Fed's target rate of 2%. Mainly for these reasons, we are now taking a wait-and-see approach to further upside to our assumptions.

Iron Ore

Table 3

We are raising our expectations for iron ore prices to US$90/t for the remainder of 2019, US$80/t in 2020, and US$70/t in 2021 because we think supply is likely to remain tight and will see little relief because of the Vale dam disaster. In our view, it could take Vale up to three years to restore production back to 2018 levels. We note that seaborne supply-demand balances are tighter than the global totals.

Iron ore prices have found strong support since the event, exceeding and remaining above US$100 a ton (/t) in May 2019. Robust demand from China's steel-making industry is also underpinning the increase in prices. However, we expect spot prices to wane in the second-half of 2019 on the back of improved production from each of the majors, including Vale, which has since gained approval to resume operations at its Brucutu mine.

We see a declining price path, and our assumptions of US$80 per dry metric ton (/dmt) in 2020 and US$70/dmt in 2021 factor in our view that any increase in supply would be gradual. They also embed our expectation of slowing Chinese economic growth and incremental supply returning to the seaborne market.

We believe that Chinese domestic supply, existing inventory at ports, and scrap usage will fill the supply gap in 2019. At current spot prices, we expect marginal producers and higher-cost domestic Chinese mines will likely become economical and thus help fill the supply gap. We do not expect any meaningful incremental volumes from the global iron ore majors due to near-term capacity constraints, even if prices were to rise sustainably higher. We also expect a continued shift to electric arc furnaces within China, as scrap availability improves over coming years.


Table 4

Our view about nickel prices for 2019-2021 remains unchanged, with $12,000 per metric tonne (/MT) on average for the remainder of 2019, $12,500/MT in 2020, and $13,000/MT in 2021. The reasons are the forward curve and supportive fundamentals for nickel, such as healthy demand in the stainless steel industry and our expectations for undersupply, as well as declining stocks.

Our assumptions take into account expectations for continued strong volatility stemming from U.S.-China trade disputes. Nickel prices climbed by 30% to $13,600/MT in March 2019 from the beginning of the year, but then fell to below $12,000/MT, with a recent recovery to the current spot levels of $12,700/MT.

Indonesia continues to issue export permits for nickel ore linking it to the progress of domestic miners in constructing smelters locally, with 71% growth in production in 2018. Recent flooding is likely to dent output, but we still assume an overall increase in production this year.


Table 5

We have lowered our assumptions for zinc prices by US$100 a ton through 2021 because of our view that demand growth could slow somewhat. Trade-related disruptions and macroeconomic headwinds indicate potentially softer global growth in demand for the metal while supplies continue to grow. After years of undersupply, we will likely see a surplus in 2019 that could persist through 2021. What's more, we see new supply coming to market over the next two years.

Zinc will nevertheless continue to see an expansion in demand coming from growth in steel production, which we expect to increase 1.5%-2.0% over next two to three years after hitting record global production in the first half of 2019. Our expectation of lower Chinese GDP growth, especially together with slowing auto demand and the still relatively strong U.S. dollar, will mean upside for zinc prices could be limited--even if supply fails to match our expectations.

The supply surplus is likely to come from new zinc projects in Canada, Australia, and Mexico. According to S&P Global Market Intelligence, these countries are developing most of the world's new zinc projects, a few of which are already operational, and rest of which will be operational in the next two to three years. This new supply could increase the world's zinc production by up to 15%.

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