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Commodities Update March 2023

Westpac’s Commodities Index fell 5% in February led by a 23% fall in thermal coal, while met coal fell just 3% seeing a return of the met coal premia. EU gas has halved since the December peak but Australian LNG export prices are less volatile than global spot prices. Chinese iron ore demand has firmed but input costs are squeezing steel mill margins while OPEC+ pricing power is returning to the crude oil markets.

The following text is based on the article in the March Market Outlook (PDF 411KB)

Our commodity price forecasts can be found in the March Commodity Forecasts

 

Westpac’s broadest commodities Index (the Westpac Export Price Index) describes an overall soft month for commodities, having fallen just under 5% since our February report. As is often the case, there has been volatility in individual commodity prices with the most significant being the 23% fall in Newcastle thermal coal prices to US$194/t. Meanwhile, hard coking coal has managed to hold on to most of its recent gains, falling around 3% to US$330/t, while iron ore has firmed on the reopening of China to be up almost 2% in the month. By contrast, crude oil prices have been flat in the month while the JKL futures suggest that Australia’s LNG export prices may have fallen by as much as 10%. Base metals prices have been under pressure, with some taking the view that the National People’s Congress (NPC) was not as conducive for demand as hoped for. We do not subscribe to this view but nevertheless base metal prices are down a bit more than 4% with nickel leading the charge (-12%) and aluminium (-5%) and zinc (-3%) also taking a hit. Our rural commodities index fell 7% in the month. 

Our readers may remember that back in December we were in the very unusual position where thermal coal, at $422/t, was trading at premium to met coal at US$230/t due to the surge in EU demand for high quality thermal coal resulting from a shortage of gas and coal supplies out of Russia. On top of that, weather disruptions in Australia meant Australian exports were below average and not able to respond to the amazing surge in thermal coal prices. We knew this situation could not last as the market would rebalance, but the speed of that rebalancing has been faster than anticipated. Since our December report, Newcastle thermal coal has fallen 40% while met coal has lifted 48%. 

The extreme volatility associated with the disruptions to Russian energy supplies has, in the case of Australian exports, manifested in coal markets. Since December, EU gas prices have fallen more than 50%, the JKM futures down by a similar amount over the same period. More broadly, since the Russian invasion of Ukraine on the 24th of February 2022, Brent prices are now 10% lower, thermal coal is down 24% while met coal is down 19%. Australia’s average LNG export prices are about 8% higher than at the invasion – our exports tend to be contract-based so are slower to move, and less volatile, than spot or futures prices. 

China’s reopening has proceeded better than broader market expectations with many updating their growth forecasts from ‘starting with a 4’ to ‘starting with a 5’. Westpac’s forecast was already 6.2% as we had a more constructive view on the outlook for the Chinese economy, so our forecast remains unchanged even though the NPC has set this year’s growth target at “around 5%”. Recent key indicators that confirm the better-than-expected reopening include: 1) a feared ‘second-wave’ of COVID has failed to materialise; 2) subway traffic and urban traffic congestion has climbed back above 2019 levels; 3) property sales look to have surpassed 2022 levels and are climbing back to 2019 levels; and 4) the February manufacturing PMI which came in at 52.6, the highest in a decade, confirming the strength of the economic recovery. 

From here the supply of coal is likely to pick up. The Australian Bureau of Meteorology (BOM) have suggested that the wetter-than-usual La Niña conditions are nearing an end. February was drier than average across most of Queensland’s coal regions and the BOM expects above-average rainfall to ease over the next few weeks with the March to May period likely to be drier than average. Coal exports from Gladstone halved in February compared to January, hitting a decade low following a derailment that disrupted deliveries. Despite this potential lift in supply, met coal prices remain buoyant with muted trading as many remain on the sidelines waiting for further clarity. This improving outlook for Australian coal supply is a clear downside risk for prices.

Chinese pig iron production lifted 6% in the last week of February to be up around 9% through the year, reflecting the usual post Lunar New Year lift in demand. Chinese crude steel production is up 2%yr. Due to elevated input costs (iron ore, met coal and scrap steel) Chinese rebar margins remain under pressure but this was contrasted with a 1% drop in iron ore port inventories in the last week (inventories had lifted around 5% since early February). Iron ore demand from the rest of the world remains weak at -9%yr and is unlikely to lift in a significant way in 2023. We continue to forecast a correction in iron ore prices though the year, to US$100/t by year-end, as we expect demand to be broadly flat through the year while the supply of ore from Australia and India is set to lift while high prices will continue to draw out more scrap steel.

The US is handing the mantle of price-setting producer back to OPEC+. Despite a robust outlook for crude oil demand (the EIA continues to upgrade its forecast for global crude and liquids consumption in 2023) the number of oil rigs active in the US is still some 32% lower than the pre-COVID peak in late 2018/early 2019. OPEC+ production is also still 8% below pre-COVID peaks and yet total crude supply in February was estimated to be just 1% lower than pre-COVID levels. The extra supply has come from non-US non-OPEC+ production. Both non-OPEC production outside of North America, and North American production are back to pre-COVID levels, highlighting current supply growth is coming for the more marginal producers.

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