Daily Base Metal Commentary
By: Natalie Scott-Gray, Senior Metals Demand Analyst, EMEA and Asia region
COULD THE EU BE ON THE CUSP OF RELEASING A 6th TRANCHE OF SANCTIONS ON RUSSIA – HOW POTENT WILL THEY BE FOR BASE METALS?
The base metal complex remains under pressure this week, driven by a strengthening U.S. dollar ahead of the next FOMC meeting in the United States (3-4th May) (in which market watchers estimate a 95%+ probability of a 50 basis point rise), while sentiment surrounding the health of demand in China remains in question, upon the spread of COVID-19 into Beijing. As of last Friday (22nd April), these key macroeconomic factors have largely ruled price direction for the suite; however, concerns over higher future energy prices in Europe, in response to Russia’s Gazprom turning off natural gas supply to Poland and Bulgaria on 27th April, could be the driver behind a rebound. Indeed, this move from Russia (if sustained), may be the spark the EU requires to implement a 6th tranche of sanctions against the country. In this commentary, we will discuss what implications this would have on the base metals suite, and which metals are most at risk.
LME BASE METAL PRICE PERFORMANCE W/W (22nd -28th April)
Source: Bloomberg
Russia Turns Off Natural Gas Supplies to Poland and Bulgaria
On 26th April, Russia’s Gazprom warned Poland and Bulgaria that it would halt natural gas supplies to each country unless it received payment for the commodity in Russian roubles, and on 27th April, Russia’s threat turned into a reality. While Russia has been warning that current contracts for all European members would need be done in roubles since March, this is the first-time supplies have been officially cut off. As it stands, Poland has a 53% reliance on Russian natural gas (based on Reuters figures - down from 73% three years ago), while Bulgaria’s reliance is higher at ~90% (based on Reuters figures). As a result, the European natural gas price has jumped 10% since 25th April, although prices have pulled back in morning trading.
If we investigate the details, the impact to Poland of this action is more moderate (at least compared to Bulgaria), as we enter warmer months ahead, while there appears to be a host of alternative or future supplies at hand. Indeed, Poland can turn to Germany given a reversal in the Yamal pipeline, as well as being able to obtain material via a link with Lithuania (from 1st May at 2.5bcm) and an interconnector with Czech Republic (1.5bcm). In addition to this, shipments from Slovakia could be made providing 5-6bcm, while LNG could enter via the Baltic Sea from the Swinoujscie terminal (at 6bcm). Furthermore, Poland is due to complete a key pipeline to Norway (known as the ‘Baltic Pipe’), set to be operational by winter. Meanwhile, the outlook for Bulgaria is more uncertain and it indeed prompts the question – how will the EU react to this move from Russia?
(If you wish to read our latest energy analyst report, please visit our StoneX Energy Report page here).
What Developments Have We Seen Regarding Future EU Sanctions?
Rumours have been divided in the market regarding the reality (then increasingly towards the timeline) of the EU placing a 6th tranche of sanctions on Russia, which could include potential energy sanctions. This topic arose pre-Russia cutting off natural gas to Poland and Bulgaria, instead being seen to be a natural progression of Emmanuel Macron winning a second term as France’s President, given that it is known he supports the comments made from France’s Economy Minister over setting an embargo on Russian oil this year. However, following the election result on 24th April, confused messages out of Germany appeared to push back expectations that sanctions would be released in the near-term, given that Germany’s Economy Minister and Finance Minister made comments over differing timelines. Here, Germany’s Foreign Minister Annalena Baerbock supports Russian crude oil imports to be halved by summer and then ended by year-end, while Germany’s Finance Minister Christine Linder announced that Germany would move “as fast as possible”, but couldn’t give a timeline. In conjunction with this, on 22nd April, Germany’s Bundesbank released a report highlighting the potential implications an outright energy ban would have on its economy, with a ban on natural gas alone set to take off as much as 5% of GDP this year, stoking inflation and placing the country into recession. In the meantime, the markets will have to play wait and see, although in our view, it is more a question of ‘when’ the EU will release energy sanctions on Russian, rather than ‘if’ they will. Upon this thinking, it is also likely that any sanctions that are announced, will have a generous (if not vague) timeline for implementation (indeed the export ban of coal into the EU from Russia is not in action until August).
What Are the Main Implications on the Base Metals?
If we do see sustained higher energy prices in Europe, the metals most at risk remain zinc, aluminium (and to a lesser degree lead). Indeed, both zinc and aluminium smelters (which are high energy intensive) have suffered from poor profitability from rising natural gas prices even before the invasion of Ukraine, and a further rise (or sustained rise) in prices is likely to see output further curtailed. As it stands, as much as 750-800,000t of aluminium and 300,000t of zinc capacity has been impacted since Q4 2021, with expectations of European aluminium restarts now dashed for this year completely. As a result, global market balances for both these metals have been altered since the beginning of the year, with aluminium set to face a deficit just under last year’s record and zinc set to post a deficit of close to 200,000t (from a balanced market) (this marks less than one week’s worth of global demand for each metal respectively). Please note, zinc, aluminium and lead EU production accounts for 20%, 13% and 16% of global supplies.
Finally, while higher natural gas prices in Europe would be detrimental to ex-China output for these metals, the timeline of when sanctions are put in place will be vital to either a more moderate or more severe supply risk situation. Here we allude to demand in China, which for the most part this year has suffered under the spread of COVID-19, which has not only dampened growth projections in the country but has placed tremendous strain over logistics of raw material supply. If the EU imposes sanctions later in the year (upon a possible recovery in China), then the supply situation in the west would evolve into a more serious situation (than if EU sanctions are placed in the near-term), upon higher demand in China needing increased flows into the country. For example, Italian zinc markets have benefited of late from some (~50,000t) of Kazakhstan material being rerouted from China.
- Base Metals
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