Base Metal Commentary - Featured Article

Yesterday (4th May) was a highly eventful day in this year’s calendar, as both the United States and the EC announced significant moves in their policy, which in turn have longer-term opposing impacts for price direction for the base metal suite. In today’s commentary, we will discuss the details of each of these announcements and their impact on the outlook for base metals, while additionally commentating on the recent Reuters Q2 price poll outlook for the suite. 

LME BASE METAL 3M PRICE PERFORMANCE W/W (26th April -5th May)

Source: Bloomberg

LME BASE METAL 3M PRICE PERFORMANCE (YTD)

Source: Bloomberg

EC President Ursula von der Leyen Announces 6th Tranche of Sanctions on Russia
On 4th May, EC President Ursula von der Leyen gave a speech at the EP Plenary on the social and economic consequence for the EU of the Russia war in Ukraine, in which she laid out the proposed 6th package of sanctions against Russia. 

-    “First, we are listing high-ranking military officers and other individuals who committed war crimes in Bucha and who are responsible for the inhuman siege of the city of Mariupol. This sends another important signal to all perpetrators of the Kremlin's war: We know who you are, and you will be held accountable.”

-    “Second, we de-SWIFT Sberbank – by far Russia's largest bank, and two other major banks. By that, we hit banks that are systemically critical to the Russian financial system and Putin's ability to wage destruction. This will solidify the complete isolation of the Russian financial sector from the global system.”

-    “Third, we are banning three big Russian state-owned broadcasters from our airwaves. They will not be allowed to distribute their content anymore in the EU, in whatever shape or form, be it on cable, via satellite, on the internet or via smartphone apps. We have identified these TV channels as mouthpieces that amplify Putin's lies and propaganda aggressively. We should not give them a stage anymore to spread these lies. Moreover, the Kremlin relies on accountants, consultants and spin doctors from Europe. And this will now stop. We are banning those services from being provided to Russian companies.”

-    “My final point on sanction: When the Leaders met in Versailles, they agreed to phase out our dependency on Russian energy. In the last sanction package, we started with coal. Now we are addressing our dependency on Russian oil. Let us be clear: it will not be easy. Some Member States are strongly dependent on Russian oil. But we simply have to work on it. We now propose a ban on Russian oil. This will be a complete import ban on all Russian oil, seaborne and pipeline, crude and refined. We will make sure that we phase out Russian oil in an orderly fashion, in a way that allows us and our partners to secure alternative supply routes and minimises the impact on global markets. This is why we will phase out Russian supply of crude oil within six months and refined products by the end of the year. Thus, we maximise pressure on Russia, while at the same time minimising collateral damage to us and our partners around the globe. Because to help Ukraine, our own economy has to remain strong.”

While the timeline of implementation for these sanctions is yet unclear, and likely to be subject to further discussion among the member states (and/or amended - particularly when it comes to banning crude oil imports), this announcement has solidified Europe’s goal to move away from Russian oil, making it a question of ‘when’, rather than ‘if’ they will. Previously both Germany and Hungary had taken a stance against imposing such restrictions; however, it is understood that certain alterations may be made, such as letting heavily oil dependent countries like Hungary or Slovakia (which have a 96% and 58% dependence on Russian crude respectively) have a longer-transition period. Meanwhile, Germany (which is the second largest European importer of Russian crude by volume) has changed its stance in the last few days, with the Economy Minister on 1st May announcing that “An oil embargo with a sufficient transitional period would now be manageable in Germany, subject to rising prices”. In addition, it was mentioned that the country had been able to reduce its reliance on Russian crude from 35% in 2021, down to 12% in recent weeks. 

President Putin Signs a Decree of His Own Sanctions Against the West
Looking ahead, while the markets adjust to this latest move from the EU, attention is equally focused on Russia and President Putin, who signed on 3rd May a broad decree to ban exports of products and raw materials to people and entities on a sanctions list that the Government have ten days to draw up. President Putin announced this action set out “retaliatory special economic measures in connection with the unfriendly actions of some foreign states and international organizations" and comes on the back of Russia cutting off natural gas supply to both Poland and Bulgaria on 27th April. In these unprecedented times, it is too early to call if other European countries will face similar fates, and this remains a significant downward risk to our forecasts. In addition to this, there appears to be no update from the EU on what companies can and cannot legally do in order to comply with President Putin’s demand to pay for natural gas supply in roubles, as it stands “Paying roubles through the conversion mechanism managed by the Russian public authorities and a second dedicated account in Gazprombank is a violation of the sanctions and cannot be accepted,". 

Key Highlights from the Federal Reserve’s April FOMC Meeting

-    The Federal Reserve lifted the Federal Funds Rate by 50-basis points to range between 0.75-1.0% (as widely anticipated)

-    Jerome Powell made the unusual step of laying out the timeline and size of interest rates rises over the next several months, mentioning a 50-basis point rise for both June and July. Please note here, a 75-basis point rise in June was ruled out. 

-    The timeline to begin reducing the balance sheet was provided, with a monthly reduction of $47.5Bn starting in June-August and then increasing to $95Bn a month from September. Please note, at this rate it would take close to nine years for the U.S. to unwind the pandemic debt stimulus. 

-    It was noted by Jerome Powell that the path of increasing interest rates was “not going to be pleasant;” however, within the FOMC statement, it was mentioned that the Federal Reserve believes "household spending and business fixed investment remain strong” and “job gains have been robust”. Meanwhile, it was made clear that the task at hand was to reach price stability as the first goal, with economic growth set to slow consequently. 

U.S. DOLLAR VERSUS LME 3M COPPER PRICE

Source: Bloomberg

How Has the Base Metal Suite Reacted?
The base metal suite has had a muted reaction in morning trading, which is unsurprising given the opposing pressures these three developments will have played on the suite. Indeed, while the U.S. dollar initially declined following the announcement from the FOMC, given it ruling out of a 75-basis point rise in the June meeting, it has recouped some of its losses in morning trading (given we are still facing a robust round of interest rates rises in the near-term). While the lurking threat of export bans to be imposed by Russia on the west, alongside the EU phasing out its dependence on Russian crude oil, has heighted energy security risks within Europe and is likely to further inflame inflation pressures. If we add to this a dreary outlook for Chinese demand, given the increasing spread of COVID-19, then we have a very murky outlook for the suite in the near-term, with global macro drivers diverging on a regional basis. 

On this note, please see below Reuters most recent base metal price polls (although do be aware these were taken in mid-April ahead of the EU setting out its 6th tranche of sanctions)

2022 Q2 REUTERS PRICE POLLS  

Source: Reuters

•    These industry average figures suggest that quarterly base metal prices this year (in general) are set to peak in Q2 and average at their lowest level by Q4, with the annual average for each metal to have gained on a Y/Y basis, before weakening in 2023 upon a reduced demand and improved supply outlook. 

•    If we compare our current estimates to forecasts taken in Q1, across the board, price forecasts have edged up given the increased uncertainty provided by the Russia/Ukraine invasion and its impact on inflation in the west and global supply chain issues. Meanwhile, COVID-19 lockdowns within China have also added to supply logistics problems, with the average period for material in a Chinese warehouse to reach a US or European warehouse, having increased by 72 hours and four days respectively, over the last month. 

Our View:
Given the current weakened demand outlook both within Europe (due to the ongoing war between Russia and Ukraine) and within China (due to COVID-19 lockdown measures which are set to remain in place for potentially months ahead), the downward pressure on near-term prices is unlikely to be altered. This is especially true if we look at the current strength of the U.S. dollar (which has had a significant negative correlation to the base metal suite over the last month). Indeed, given the Federal Reserve have all but promised a path of rising 50-basis point hikes over the next two months, in addition to reducing its balance sheet, base metal prices are likely to remain under pressure. Therefore, we could argue that it is more likely we will see prices rebound later in the year, upon the return of Chinese demand (depending on the path of COVID-19) and in addition to promised monetary and fiscal support in the country from the PBoC and President Xi Jinping himself. However, of course while COVID-19 within in China remains one of the largest uncertainties in our predictions, the second largest uncertainty is arising from the growing pace of tensions between Russia and the west, with the threat of more severe sanctions (from both sides) holding the ability to derail current forecasts.