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Zinc prices likely to firm on improving demand – supply fundamentals

Thursday, May 31, 2012

The price of zinc in international markets has mirrored a general decline in commodities as a result of Europe's debt crisis, with London Metal Exchange zinc dropping more than 10 per cent from its high for the year so far, reached during January.


However, I am bullish with regards to zinc over the next two to three years and even longer.

Given the level of growing underlying demand for zinc that’s coinciding with a lack of new mines, there is inevitably going to be a supply problem emerging over the next few years.

Throw in the unwillingness of banks to lend since the GFC and new projects are now even harder to commission.

According to Morgan Stanley, the current zinc surplus is narrowing and will shrink during 2012 to its smallest level since 2007. China’s steel usage means there could be zinc shortages as early as 2014. Production may lag because miners are fearful of commissioning new supply given the lackluster price environment of the past five years.

China accounts for around 29 per cent of global zinc supply, but its mines need as much as US$2,200 a ton to break even.

World steel production is estimated to rise by 7 per cent to 1.6 billion tons next year according to the Australian Bureau of Agricultural and Resource Economics and Sciences (ABARE, whilst steel consumption in China will advance 6 per cent to 664 million tons during 2012.

China’s zinc demand may reach 6.58 million tons in 2015, compared with 4.75 million in 2010, according to Beijing Antaike Information.

One current indicator of where mined zinc supply levels will go this year is the negotiations between miners and refiners for benchmark 2012 treatment and refinement charge (TC/RC) rates.

TC/RC rates are negotiated annually and tend to mirror the trends in supply: a fall in zinc supply will lead to a fall in TC/RC rates.

Data from the International Lead and Zinc Study Group also show a consistent increase of global zinc mine supply during the last quarter of 2011, while metal production and consumption have levelled off.

These numbers are the result of a number of regional dynamics.

China experienced 20 per cent growth in mined zinc during 2011, reaching 4,458,000 tonnes of concentrate, while refined zinc also grew last year by 3.8 per cent to reach 5,344,000 tonnes, according to the National Bureau of Statistics.

These gains were offset by production declines in places like Peru, where zinc production plunged by almost 15 per cent to 1,255,899 tonnes for 2011.

China is the world's top consumer of zinc and it’s likely to boost imports during the course of 2012 as a result of Beijing announcing this week that it would speed up infrastructure investment. Zinc is set to reap the benefits of a push to fast-track investment into railways and other projects, with relatively high domestic prices likely to push merchants towards imports when demand gathers momentum.

However, zinc output in China is likely to lag real consumption by around 400,000 tons during the course of 2012 due to production cuts, according to state-backed research firm Antaike.

With domestic production falling by 7.3 per cent during the first four months of 2012, the contraction in supply has seen stocks monitored by the Shanghai Futures Exchange decline by 17 per cent to 348,785 tons last week, from a record 417,784 tons during August 2011.

Galvanized steel, used in buildings, infrastructure and motor vehicle manufacturing, is the primary source of zinc usage in China.

Demand however was badly hurt as a result of Beijing cutting railway investment and suspending thousands of kilometres of rail projects, following a fatal accident in July 2011; whilst use in the property sector has fallen as a result of Chinese government restrictions on property investment.

Resuming these projects and allocating investment for new projects would take 3 to 4 months, according to analysts cited by Reuters.

Galvanized steel accounted for about a fifth of China's 5.2 million tons of zinc demand during 2011, although galvanized steel output fell 3.1 per cent from March 2012 to 3.2 million tons during April 2012.

Looking ahead, we believe the recent trend of declining surpluses should continue, with the zinc market likely in deficit by 2013/14, despite substantial zinc inventories at present.

With mine supply will in all likelihood remaining tight going forward, I therefore believe that zinc prices should find support at current price levels, before they rally into 2013 as the refined market should move into deficit.

What has seemingly scared some investors is the US$90 billion proposed merger between Glencore and Xstrata.

The merger has pushed zinc markets into the spotlight, as the move – if approved by European regulators – would result in Glencore controlling between 16 per cent and 18 per cent of both zinc ore and zinc metal supply globally.

It would also mean that zinc prices would become a central component of the health of one of Europe’s largest companies.

The merger has the potential to consolidate a large portion of the traditionally separated mining and refining functions within the zinc market.

Xstrata’s zinc properties in more than 20 countries, combined with Glencore’s extensive role as the world’s largest commodities retailer (accounting for 60 per cent of zinc trade internationally during 2010, has European steel markets concerned that Glencore would possess too great an influence over refined zinc prices.

However, despite the potential to control more than one third of European smelting capacity, some industry experts have argued that most traders already treat Glencore and Xstrata as one company.

While the exact impacts of the merger are not yet clear, Glencore’s influence on prices must be considered in tandem with an understanding of Chinese zinc producers’ actions.

As the world’s largest miner and refiner of the base metal, China’s share in shaping the fate of zinc markets is even greater than that of the Glencore.

Interestingly, another major zinc producer is very positive on the outlook for zinc prices.

Teck Resources, which is the world’s fourth-largest zinc miner, sees demand exceeding supply because of mine closures and rising demand for the metal in China and India.

Teck Resources chief executive officer Don Lindsay recently said, “We now think that the deficit is visible, that it’s coming. We see the potential for the zinc market to look very exciting indeed.”

Despite its rather inauspicious history over the past five years, I am therefore positive about zinc.

There are some sound junior zinc opportunities with fabulous growth projects that I am following, but which aren’t necessarily yet at the buying stage.

These companies include:

-    Ironbark Zinc (ASX: IBG, Share Price: $0.16, Market Cap: $59m);

-    Venturex Resources (ASX: VXR, Share Price: $0.038, Market Cap: $41m); and

-    Laconia Resources (ASX: LCR, Share Price: $0.032, Market Cap: $4m).

Gavin Wendt is the founder of MineLife, publisher of the MineLife Weekly Resource Report