- Base metals rise 2.71% in Q3 despite the escalation of the trade dispute between the US and China
- Nickel carries the sector high as an export ban in Indonesia pushes the price over 36% higher for the quarter
- Copper posts a loss on COMEX and the LME- Lead moves higher
- Aluminum, zinc, and tin move to the downside with the most significant decline in the illiquid tin market
- Iron moves lower after an over 30% gain in Q2 while the Baltic Dry Index explodes higher
Base metal prices fell by 23.43% in 2015, but in 2016 they appreciated by 26.77%. In 2017, the sector of nonferrous industrial metals was the best-performing commodities sector posting a 21.99% gain for the year. In 2018, the industrial commodities shed 15.78% of their value.
The base metals sector dropped 8.14% in Q2 after a 10.77% rise in Q1 for this year. In Q3, the sector rose by 2.71% on the back of an over 36% gain in the price of nickel forwards on the LME. After the first nine months of 2019, the six LME metals were 5.58% higher from the closing level at the end of December 2018. The best performing commodity in the base metals sector in Q3 was nickel, which rose 36.72%. Zinc dropped by 6.95%, and tin suffered a 14.52% loss, the second consecutive double-digit percentage quarterly decline for the price of tin forwards. COMEX copper futures declined by 4.69% while the LME three-month forward copper contract moved 3.71% lower in Q3. The price of aluminum moved just 3.99% to the downside for the quarter while lead was 8.73% higher over the period.
Meanwhile, the price of iron ore moved 18.30% lower in Q3, giving more than back half the gains from Q2. The Baltic Dry Index rose by 38.58% in Q3 after a 93.64% rise in Q2. So far in 2019, nickel leads the pack with a 62.64% gain over the first nine months, followed by lead, which was 3.77% higher so far in 2019. COMEX copper is 1.88% lower in 2019 as of the final day of September. LME copper was 3.70% lower for the first nine months of the year; aluminum has declined by 6.74%, zinc was 5.24% lower in 2019. Tin has been the worst-performing base metal with a 17.27% loss over the first three quarters of this year.
Most base metal prices experienced selling pressure on the escalation in the trade dispute. The strength in the U.S. dollar index, which moved 3.51% higher in Q3 and was 3.43% higher over the first nine months of this year was another bearish factor for prices. Optimism over a trade deal with China has been changing places with pessimism over the recent months adding to price volatility in the industrial commodities sector. The divisions within the US branches of government make it impossible to move forward with any infrastructure legislation.
China is the demand side of the fundamental equation in the commodities asset class because of their massive population and economic growth. The trade dispute escalated in early August when US President Trump slapped new tariffs on China and the Chinese retaliated. However, in mid-September, some optimism returned, which lifted some prices. Copper, the leader of the base metals sector, fell to a new low in early August but recovered when some confidence returned to the market.
Tariffs distort supply and demand fundamentals in all commodities, and the industrial sector of the market is a focal point. As we head into the final quarter of 2019, the trade issues and path of least resistance of the U.S. dollar are likely to continue to provide direction for these industrial commodities that are the building blocks for infrastructure around the globe. A trade deal between the US and China is in the best interest of both nations. China needs a deal from an economic perspective as its economy is suffering the most in the current environment of protectionism. However, with the 2020 election on the horizon, a trade deal would be a political victory for President Trump as it would fulfill a campaign promise from the 2016 election where he pledged to level the playing field on trade with the Chinese. Even if a deal moved the needle slightly in the direction of the US, the President could claim victory as he campaigns for reelection in what is looking like a hostile political environment. I continue to believe that the worst in the trade dispute is behind us when it comes to the increase in protectionist policies that hit the markets in August. Time will tell if the Chinese and US administration can reach common ground and achieve a deal. Meanwhile, the US Fed’s pivot towards accommodative monetary policy and lower interest rates around the globe are supportive of the base metals sector as lower interest rates lower the cost of carrying inventories.
The Invesco DB Base Metals product (DBB) reflects the price action in copper, zinc, and aluminum on the London Metals Exchange. The base metals tend to move together when it comes to macroeconomic issues like trade. In Q4, the Brexit issue could also impact the path of prices.
The red metal posted a gain of just over 18% gain on the COMEX and 17.4% gain on the LME in 2016. In 2017, COMEX and LME copper gained 31.57% and 30.25% respectively. Copper was trading at the highest price since 2014 at the end of 2017. Copper on the COMEX futures market moved 20.38% lower in 2018. LME copper three-month forwards lost 16.83% last year. In Q1 2019, COMEX copper futures rebounded by 11.7% while LME forwards moved 8.3% higher. In Q2, copper continued to decline as it lost 7.85% on COMEX and 7.64% on the LME. In Q3, the COMEX futures fell by 4.69% while LME three-month copper shed 3.71% of its value. Over the first nine months of 2019, the red metal was 1.88% lower in the futures market in the US and 3.70% lower on the three-month forward market at the LME in London.
Copper rose to the highest level since January 2014 when COMEX futures traded $3.3220 per pound on December 28, 2017. Copper started 2019 on a bearish note as it dropped to a new low at $2.5430 per pound on the second trading session of the year on January 3. Copper fell below that price to a low at $2.4675 during the week of September 3 when it put in a bullish reversal on the weekly chart. The low came after the US and Chinese trade war escalated in August.
As the weekly chart highlights, copper has made lower highs and lower lows since mid-April. Copper was below neutral territory on the weekly chart at the end of Q3 even though some optimism over a trade deal between the US and China returned to the market in September.
As the daily chart shows, the now active month December COMEX copper futures contract was rallying in the first half of September after reaching the latest new low before running out of steam on the upside. Both price momentum and relative strength indicators declined into oversold territory.
As the monthly chart illustrates, copper remained closer to the bottom end of its recent trading range at the end of Q3. From a technical perspective, volume and open interest have been steady as copper faces trade issues, lower interest rates, and a rising dollar.
Open interest in the COMEX futures market moved from 244,928 contracts at the end of Q2 to 234,768 contracts at the end of Q3, a decline of 10,160 contracts or 4.15% lower over the past three months. The path of least resistance will depend on the Chinese economy, which hinges on the trade dispute with the United States.
A significant indicator of the short-term price direction of the base metal tends to be the level of LME stocks. LME stocks rose to a high at over 388,000 tons in March 2018. At the end of 2018, they stood at the 130,025-ton level. After falling to a low at 111,175 tons in mid-March, stocks moved higher as metal came into LME warehouses and rose to 241,400 tons at the end of Q2.
At the end of Q3, they stood at 264,425 tons a rise of 23,025 tons or 9.54% on a quarter-to-quarter basis. During Q3 stocks peaked at 337,675 tons. The rising stockpiles are likely weighing on the price of the red metal as they are a sign of economic weakness in China, the world’s leading consumer of copper.
Meanwhile, stocks on COMEX were at the 33,415 tons at the end of Q2 and rose to 39,719 tons at the end of Q3, an increase of 6,304 tons or 18.9% which also weighed on the price of the red metal. The LME is working to improve the transparency of the inventory data as dominant market participants have a history of manipulating stocks to push prices higher or lower.
At the June Fed meeting, the US central bank told markets that US rates would move lower by the end of 2019. On July 31, the Fed cut rates by 25-basis points for the first time in years. At the same time, the central bank ended its program of balance sheet normalization that had been pushing rates higher further out along the yield curve. In September, the ECB cut rates by the basis points to negative 50 points. The Fed followed with another 25-point reduction in the Fed Funds rate on September 18.
The moves by the Fed and ECB are likely supportive of commodities prices when it comes to lower rates, which decrease the cost of carrying long positions or inventories. Meanwhile, since the Fed has been moving slowly when it comes to rate cuts, the dollar has been rallying and made new highs during Q3. Given the inverse relationship between the dollar and commodities prices, a stronger dollar weighed on the price of copper. However, the rally in the price of gold in Q3 was a sign that all currencies are moving lower even though the dollar continues to be the strongest foreign exchange instrument. The dollar may be the king of currencies, but gold as emerged as the monarch of money. Lower rates tend to be bullish for commodities prices over time.
The European Central Bank remains highly accommodative when it comes to monetary policy. Short-term rates at negative fifty basis points are stimulative along with a return of QE to the tune of 20 billion euros per month starting in November. The sluggish economic growth in Europe means that rates will remain low and the balance sheet at an elevated level for as far as the eye can see on the other side of the Atlantic.
Brexit continues to be an issue dividing the UK and EU. The deadline for Brexit is now October 31. The new Prime Minister promised to take the UK out of the EU with or without an agreement by the deadline. However, the Parliament blocked the move, and a new election will likely serve as a second referendum for the departure from the union. Brexit is an issue that could cause volatility across all markets, and copper is no exception.
Copper traded to lows of under $1.25 in 2008 in the wake of the world financial crisis. In 2000, the price of the red metal was 85 cents per pound. Before the mid-2000s, copper never traded above $1.60 per pound. Copper traded to a low of $1.9355 in January 2016 and had not looked back until Q3 of 2018. The technical resistance level for the red metal is now at $3.00 as we move into Q4, and then at $3.3220 on the continuous COMEX futures contract, the December 2017 high. Critical support is at $2.4675, the Q3 low. Little has changed from a long-term technical perspective since the end of 2018, but the path of least resistance for the price of the red metal continues to hinge on whether protectionism continues.
Copper was in a bear market from 2011 through the beginning of 2016. After ten months of consolidation, the metal broke out to the upside and the bear of past years had turned into a raging bull in 2017. The first half of 2018 had been a year of consolidation, but during Q3 of last year copper broke to the downside, and the price fell to a marginally lower low in Q3 2019. Copper reversed higher on the daily chart in September, but trade remains the critical issue for the nonferrous metal. As stocks on the LME and COMEX rose and trade remains an issue, Q3 came to an end with copper still in the crosshairs of the trade war between the US and China.
Nearby copper futures on COMEX settled at $2.5785 on September 30, and three-month forwards on the LME were at $5759 per ton.
Copper Prospects for Q4 2019
Copper’s bull market that commenced in January 2016 had been almost picture-perfect as it has never violated a technical support level on the weekly chart. The pattern held over the first six months of 2018, but in Q3 the price fell significantly destroying the bullish trend from a technical perspective. In Q4 2018 and Q1 2019, copper worked its way to a marginal new low which triggered a relief rally on the back of optimism over a trade agreement between the US and China. In Q2, the red metal remained above the Q1 low. In Q3, the price fell to a lower low.
The path of least resistance for copper will demand on trade in Q4 as the red metal is one of the leading barometers for the negotiations between the US and China. Copper moved lower after the trade dispute escalated in early August as the US and Chinese exchanged new protectionist measures. Volatility will likely increase if the optimism and pessimism over an agreement swing back and forth over the final three months of 2019.
From an economic perspective, the Chinese economy needs a trade deal with the US. From a political perspective, President Trump needs a victory that he can carry into his 2020 reelection campaign, which will heat up over the coming weeks and months. On the campaign trail in 2016, he pledged to level the playing field on trade and moving the needle, even slightly, would amount to a win for the US President. A trade deal has the potential to launch copper and take the price back over the $3 per pound level during the coming three months. However, disappointment and frustration would likely take the nonferrous metal the other way and could send it towards the $2 per pound level as the global economy suffers the effects of a prolonged trade war. Lower interest rates in the US and a weaker dollar would be bullish for the price of the metal. While rates have declined, the dollar continued to make higher highs making the landscape confusing. Rising inventories and the price action continue to be bearish. Trade between the US and China will be the deciding factor when it comes to the price direction.
Copper traded in a range from $5560 to $6532 per ton on the LME over the first nine months of 2019 and finished the quarter closer to the low than the high as it did on COMEX.
I will be keeping my eyes on the dollar, LME and COMEX stocks, and progress on stocks which are the variables for an equation that will contribute to the path of least resistance for the price of the nonferrous metal. However, it will be trade and the Chinese economy that determines the price direction of copper in the third quarter. Given the ups and downs of the trade issue, we could be in for a rocky road in the copper market, which is a leader for all of the nonferrous metals that trade on the London Metals Exchange. Little has changed for the red metal since the end of Q2 as trade is the main factor when it comes to the price path of the red metal.
The price of aluminum moved 12.43% higher in 2016 after falling by 18.35% in 2015. In 2017, aluminum moved 32.33% higher, but the base metal fell by 17.99% in 2018. In Q1, the price of aluminum rose by just 3.63%. In Q2, aluminum moved to the downside with the other members of the base metals sector as it posted a decline of 6.27%. In Q3, aluminum forwards posted a 3.99% loss. Three-month LME aluminum forwards was 6.74% lower over the first nine months of 2019.
The new USMCA that replaced NAFTA removed the 10% tariffs on aluminum and steel imports into the United States from Canada and Mexico in Q2. Mexico and Canada approved the new trade agreement, but it still awaits ratification by the US Congress. Aluminum production in China has been declining, reflecting the weakness in the economy. Through the first half of 2019, Chalco’s output was 8% lower. Global production has slumped but so has demand for the metal. A deal on trade between the US and China would likely lift the price of aluminum forwards on the LME.
Aluminum inventories on the London Metals Exchange fell from 996,725 metric tons at the end of Q2 to 927,475 tons at the end of Q3, a drop of 69,250 tons or 6.95%. So far in 2019, aluminum stockpiles fell from 1,267,125 tons at the end of 2018 for a total of 339,650 tons or 26.8%.
As the one-year chart highlights, aluminum stocks are on the lows. LME prices fell because of concerns over the global economy.
Shares of Alcoa (AA) almost doubled in value in 2017. In Q4, the lower price of aluminum, trade issues, and a weak stock market pushed the stock from its Q3 closing level at $40.40, to $26.58, down 34.21% over the final three months of 2018. In Q1, AA stock recovered marginally with the stock market and the price of aluminum and closed on March 29, 2019, at $28.16 per share, just 5.9% higher. In Q2, AA shares closed on June 28 at $23.41 or 16.9% lower over the past three months. In Q3, AA shares moved lower again to $20.07, down 14.3% for the quarter. AA underperformed both the price action in aluminum and the overall stock market in Q3.
Aluminum Prospects for Q4 2019
The decline in production from China as the country moves to clean the air and environment and sanctions on Russia did little ignite the price of aluminum in 2018 or 2019.
In recent quarterly reports, I wrote, “Politics will continue to play a significant role in the path of least resistance for aluminum in 2019. The tariffs issue has placed the aluminum market on the front lines. A trade war could cause wild swings in the price of the metal, but it could also result in a risk-off period in markets across all asset classes. During risk-off periods, the prices of all assets decline, and aluminum is likely to be no exception. I believe that an eventual trade deal with China will ignite economic growth around the world, and any sell-off in the aluminum market on the back of new deals and compromise will be a buying opportunity. It is likely that we will continue to see lots of volatility in the price of aluminum in 2019.” My view has not changed as we head into the final quarter of 2019. Now that the protectionist pressures are off Mexico and Canada, China is the critical issue as we head into the second half of 2019.
As the chart shows, aluminum stocks on the LME declined significantly over the past five years, which is a supportive factor for the price of the metal. I believe that the downside is limited in the aluminum market, and the potential for a rally on the back of a trade deal is high as we head into Q4. Falling interest rates in the US and low rates around the world are supportive of the price of the nonferrous metal. Three-month aluminum forwards on the LME traded in a range from $1712 to $1944 during the first nine months of the year. In Q3, aluminum made a lower low. Aluminum three-month forwards closed Q3 at $1721.50 per ton. I would be a buyer of aluminum on dips. A trade deal with China could ignite the price of aluminum and shares of aluminum producers like AA, which was trading at a very low level at the end of Q3.
As the chart shows, AA shares are at a level that is in the buying zone for those who believe that the price of aluminum will rebound. A trade deal between the US and China could be the horizon before the 2020 election in the US.
The price of three-month LME nickel, a highly volatile metal, plunged by an astonishing 42.57% in 2015 and then rallied by 15.98% in 2016. In 2017, nickel posted a gain of 21.90%. Nickel posted a 13.17% loss in 2018. In Q1, nickel was the best-performing base metal as it appreciated by 22.8%. In Q2, nickel was again the leading performer as it only fell 3.13%. In Q3, the trend continued as nickel rose by 36.72% and was 62.64% higher over the first nine months of 2019.
Indonesia is the world’s leading nickel producer. The market had expected a mineral export ban to begin in 2022. However, the government accelerated the ban, which will now start on January 1, 2020. The price of nickel exploded higher on the back of the export ban in Indonesia. The trend towards electric automobiles continues to underpin the nickel market.
On the LME, nickel stocks fell from 207,924 tons at the end of Q4 to 182,574 tons on March 29, down 25,350 tons or 12.2% in Q1. Nickel inventories continued to decline in Q2 and were at the 164,718-ton level on June 28, down 9.8% for the quarter. At the end of Q3, inventories on the LME stood at 157,986 tons, 6,732 or 4.1% lower than at the end of Q2. Nickel stocks were 24% lower over the first nine months of this year. In 2018, LME stocks fell by over 150,000 metric tons, and the trend continued in 2019. At the end of 2018, I wrote, “The significant move lower in inventories did not stem the price slide in the nickel market during the second half of 2018. While ore supply will likely increase because of supplies from Indonesia, rising demand from electric vehicle batteries is a reason for the drawdown in stocks. Exchange stocks of nickel tend to be a higher grade suitable for battery production, while nickel for steelmaking requires a lower grade. These days, only around 5% of annual nickel production goes into batteries while 1% is required for EV power plants, but that percentage is likely to rise, particularly with the increase in the price of crude oil and petroleum-based fuels.” The stock declines provided support for the price of nickel, but the acceleration of the Indonesian export ban lit a bullish fuse under the market that has taken the price over 60% higher so far in 2019.
When it comes to nickel, keep an eye on iron ore and steel demand over the months ahead. Nickel is likely to be highly sensitive to changes in global economic conditions. However, Indonesia will remain the leading issue in Q4 and into 2020. Russia is a significant producer of the metal, and sanctions against the Putin government are likely to continue to cause some dislocations in the nickel market in coming months. Nickel is a very volatile metal, and we could see a wide price range for the metal during the final quarter of 2019. Three-month nickel forwards closed Q3 at $17,370 per ton. A continuation of demand from electric cars is supportive of the price of the nonferrous metal. Indonesia has made the price move parabolic.
Nickel Prospects for Q4 2019
Nickel tends to be one of the most volatile metals that trade on the London Metals Exchange. Over 2017, nickel ran into selling each time the price moved above the $12,000 per ton level which had been critical technical resistance for the base metal. $12,000 was critical resistance, but in 2018 it had made great strides above that level. Nickel broke down below that level during the final three months of last year, but it moved back above the price, which was a pivot point in Q1. The price closed at over that level in Q2 and took off on the upside in Q3.
In the late 1980s, Russian delivery and production problems caused the price of nickel to move higher; it ran to north of $20,000 per ton violently. Any rally in nickel will likely occur in the nearby forward contracts, and a large backwardation where nearby prices move quickly higher and deferred nickel contracts remain lower will develop. At the end of Q3, the cash to three-month nickel prices was at a backwardation of around $190 per ton which increased by $235 from the end of Q2 indicating that a significant supply shortage in the nickel market could be developing.
Dislocation in steel and other industrial metals could increase price volatility in the nickel market. Keep an eye on those nickel stocks on the LME. At the end of Q4 I wrote, “While falling inventories did not provide support in Q4, a further decline in 2019 could cause buying and upward pressure on the price of the nonferrous metal that trades with limited liquidity.” Stocks supported the price so far this year as the Indonesian ban that starts in at the start of next year.
LME nickel traded from lows of $10,525 to highs of $18,450 per ton over the first nine months of the year and put in a new high in Q3 and closed not far below that level at over $17,000 per ton. A trade deal with China would be bullish for all base metals, but the issue facing supplies in Indonesia will be the primary driver of the price of nickel over the coming three months and into 2020. Indonesian nickel output is around twice that of the world’s second-leading producer, the Philippines. In the nickel market, all other factors take a backseat to Indonesia.
Lead, the worst-performing nonferrous metal in 2014, falling by 17.65 % and then it was the best performing nonferrous metal in 2015, declining by only 3.36% in 2015. In 2016 lead gained 11.14%. Lead appreciated by an incredible 25.31% in 2017. The price of lead fell 19.32% in 2018. Lead was the worst-performing base metal in Q1 as it only gained 0.74% for the quarter. In Q2, lead dropped by 5.27%. In Q3, the price of lead reversed and posted an 8.73% gain. Lead was 3.77% higher through the first nine months of 2019. Three-month LME lead closed on September 30, 2018, at $2,093 per ton.
Lead is a thinly traded metal, and it is always a possibility that there are both price and stockpile manipulation in the lead market. Lead stocks on the LME were at 78,750 tons, down 28,725 tons on a quarter-by-quarter basis in Q1. Inventories were at 66,175 tons at the end of Q2, down another 12,575 tons or 16%. At the end of Q3, inventories were at 69,650 tons, an increase of 3,475 tons or 5.25%. The stocks have declined by 35.2% so far in 2019. Demand for batteries around the world is supportive of the price of the toxic base metal. China is, by far, the world’s largest producer and consumer of lead and the biggest player in the market which lends the price of the metal to price manipulation. The Chinese anti-pollution policies have increased the demand for electric automobiles, which is supportive of the price of lead. There is some degree of correlation between the price of oil and lead as higher oil prices increase the demand for electric vehicles and falling oil prices do the opposite. Economic weakness in China on the back of the trade dispute and escalation of protectionist policies in August was bearish for the price of the metal. On a longer-term basis, lead is a promising metal because of its consumption in batteries, a global market that continues to grow. Since optimism on trade returned to the market in September, the price of lead forwards rose.
Lead Prospects for Q4 2019
Given the growth in the battery market around the world, and China’s intention to increase the number of electric automobiles, I believe the prospects for an increase in the price of lead are high once economic conditions improve. A trade deal with China could cause a rebound in the price of the metal. My target for the toxic nonferrous metal remains at $2800 per ton despite the poor performance, which is almost 34% above the current price of the metal. I am friendly to the price of lead as it is likely that increasing demand will cause stocks to continue to decline, providing fundamental support. However, any risk-off periods in markets because of trade issues could trigger selling in all base metals as we witnessed at times over the first three quarters of 2019. Trade was a risk-off issue for the base metals sector during the second half of 2018 and the second quarter of this year. Lead traded in a range from $1787.50 to $2164 over the first half of this year, and it settled at the end Q3 near the top of the range but did not make a new high during the quarter.
Liquidity in the lead market is thin, but the metal has an expanding addressable market, which may limit the downside when it comes to the price of the metal in Q4. Meanwhile, lead is likely to continue to reflect the ups and downs of the Chinese economy.
The price of zinc dropped by 25.8% lower in 2015. Zinc was the best-performing metal on the LME in 2016, gaining 59.53%. Zinc added to those gains as it rallied by 27.54% in 2017. Zinc moved 25.49% lower in 2018, making it the worst-performing base metal of the year. In Q1, the price of zinc rose by 18.98%. In Q2, the nonferrous metal gave back almost all of its gains as the price dropped 14.41% making zinc the worst-performing base metal for the quarter. The price of zinc continued to slip in Q3 as it was 6.95% lower over the three months. Zinc was 5.24% lower over the first nine months of this year. Three-month zinc forwards on the LME closed at $2,321.50 per ton on September 30, 2019. After achieving a multiyear high in February 2018, the price of zinc plunged in Q2 and Q3 of 2018 on a combination of increasing stockpiles, and weak Chinese demand. Supplies of zinc concentrates have been rising because of high prices last year, and that trend is likely to continue. New production from China and Peru weighed on the price of zinc, and lower demand because of escalating trade tensions had sent prices significantly lower. The zinc market had been tight because of depleted mine supply, but higher prices brought new production to the market, and the $2500 per ton level which has become a significant pivot point for the metal. In Q1, the price climbed back above the pivot point, in Q2, it was just below that level. In Q3, the price moved below the midpoint level. LME stocks moved lower in Q3. LME inventories declined from 97,000 at the end of Q2 to 67,300 tons on September 30, a decrease of over 30.60%. Zinc inventories have declined significantly over the past two years. The fundamentals for zinc have shifted with new production at higher prices, and we have witnessed a shift in the production and pricing cycles in the zinc market. The price of zinc is likely to follow the stock level and trade issues over the final quarter of 2019.
Zinc Prospects for Q4 2019
As the production cycle for the zinc market shifted because of higher prices, more zinc concentrates have come onto the market, which has depressed the price of the metal. We witnessed the first significant increases in stockpiles in Q2 as they almost doubled in the on a quarter-to-quarter basis. However, in Q3 they fell by 30.6%. $2500 per ton continues to be a pivot point for the zinc market on the LME, and the price closed below that level. Zinc traded in a range from $2201.50 to $2948 over the first nine months of the year and made a lower low in Q3. A trade deal with China could send the price higher, but increased supplies could put a cap on any rallies. Meanwhile, an escalation of the trade dispute between the US and China would likely weigh on the demand for galvanized steel and zinc. Zinc is another metal that is in the crosshairs of the trade war as we head into the final quarter of 2019.
Tin is the most volatile and illiquid metal traded on the LME. Tin declined 25.13% in 2015. In 2016, tin was the second-best performing base metal, rising by 44.10%. In 2017, tin was the only loser in the base metals sector posting a 5.4% loss. Tin fell 1.89% in 2018, making it the best performer of the six base metals that trade on the LME. In Q1, the price of tin rose by 10.17%, and in Q2 it gave that all back and more as the price dropped by 12.15%. The price of tin continued to fall in Q3, posting a 14.52% loss for the quarter, leaving the tin market 17.27% lower over the first nine months of 2019.
China is the world’s largest producer and consumer of tin. Indonesian output is on the decline, but in other areas of the world, it has risen. Above $20,000 per ton, things got dicey for tin throughout 2017, but economic growth in China provided stability and support for the price. The $20,000 had become the pivot point for the price of three-month tin forwards. In 2019, the price moved away from the level on the downside. Stocks on the LME moved a bit higher in Q3 they were at the 6,855-ton level, up 465 tons as of September 30. Three-month tin forwards on the LME closed at $16,070 per ton on the final day of September. Tin traded in a range from $15,630 to $21,675 over the first nine months of 2019 and put in a lower low in Q3.
Tin Prospects for Q4 2019
Tin is a thin market which makes the metal susceptible to wide price swings. When it comes to tin, it tends to move on supply and demand fundamentals because of the lack of speculative interest. Tin is in a small contango when it comes to cash to three-month forwards on the LME. I suggest monitoring the supply and demand situation in the tin market by watching and paying close attention to the tin spreads. Tin can swing back and forth between contango and backwardation, and those moves tend to impact the path of least resistance for three-month prices. Tin can be a heavily manipulated market on the LME because of the limited liquidity.
The bottom line: Outlook for Q4 2019
Base metals and industrial commodities are battling bullish and bearish factors as we head into the second half of 2019. Lower interest rates in the US, a continuation of stimulus in Europe, and Chinese devaluation of the yuan are all bullish for the prices of the industrial metals and ores. If lower US rates cause the dollar index to decline, that would add another supportive factor to the picture. However, the reason for stimulus is protectionist trade policies. Since China is the demand side of the equation for the base metals, a slowdown in the Chinese economy is a bearish factor for the sector, which sent prices of all of the metals lower during Q2. A trade deal would likely light a bullish fuse, as would a rise in inflation. However, economic weakness and fears of a global recession are bearish for the sector. With bullish and bearish factors pulling at the LME metals, we could see an increase in price variance over the coming days, weeks, and perhaps months. In Q4 2018, we saw lots of volatility as the stock market dropped during a risk-off period, which weighed on the prices of industrial commodities. A repeat performance in 2019 depends on developments on trade between the US and China. The closer the 2020 Presidential election comes; the more likely President Trump will want a victory and a trade deal that moves the needle towards a more level playing field for commerce between the world’s two leading economies.
Any risk-off period that comes from a disappointing result to trade negotiations or a rising risk of a recession could cause selling in this sector of the commodities market. The prices of the base metals reflect a bit more optimism over trade in Q3 compared to the end of Q2. However, the gain was due solely to the rise in the price of nickel.
When it comes to fundamentals, keep track of LME stock movements as the trend in inventories can be the best guide for the path of least resistance of prices. In Q3, we witnessed many examples where stocks pushed prices around. However, always view inventories with a grain of salt as they can create a mirage when it comes to the path of least resistance of prices. The LME announced that it is working towards a plan that would increase transparency when it comes to stockpile data over the coming months.
Each non-ferrous metal traded on the London Metal Exchange has different supply and demand fundamentals. Some of the metals are in deficit, and some have surplus inventories. On a macroeconomic basis, these strategic metals are all essential building blocks of infrastructure, and as such, China is the number one consumer across the board. Meanwhile, the prospects for infrastructure building in the United States, if the administration and the new Democratic majority in the House of Representatives can come together in a bipartisan effort on a piece of infrastructure rebuilding legislation, would provide additional demand for the sector which could support prices gains. However, the current environment of political divisiveness makes that scenario unlikely in 2019. The upcoming Presidential election means that the two parties will continue to oppose any initiatives from the other side of the political spectrum. Any bipartisan efforts on infrastructure will have to wait until 2021 in all likelihood.
The price of iron ore, the main ingredient in steel moved 3.55% lower in 2018, after a 10.02% loss in 2017. In Q1, iron ore exploded 24.81% higher on the back of a production problem in Brazil where a dam collapsed and stopped output at one of the world’s leading iron ore mines. In Q2, supply concerns continued to cause the price to rally as it gained another 30.72%. In Q3, it corrected by 18.30% but was still 33.29% higher at the end of the first nine months of 2019. Nearby iron ore futures finished Q3 at $92.24 per ton. Iron ore is the primary ingredient in the production of steel. We could see lots of price volatility in the steel market in 2019 as the commodity is ground zero for some of the protectionist policies. U.S. Steel (NYSE: X) stock was trading at $11.55 per share compared to $15.31 at the end Q2; the stock was down 24.6% per share in Q3 despite gains in the stock market. Weaker economic conditions in China weighed on the price of steel. On a quarterly basis, the tariffs have done nothing to bolster the price of X shares which tanked in Q4, experienced a small rebound in Q1, and tanked again in Q2and Q3. X trades at a very low 2.02 P/E ratio making it a cheap stock. X call options limit the risk of the volatile stock. The shares were paying a 1.77% dividend at the end of Q3.
The Baltic Dry Index moved 42.14% higher in 2017. In 2018, the BDI experienced a 6.95% loss compared to its closing price at the end of 2017. In Q1, which is a seasonally weak time of the year for shipping, the index fell by 45.55%. In Q2, the BDI rose by 93.64%. In Q3 it rose by 38.58% and was 46.11% higher over the first nine months of this year. The index that represents the freight rates for shipping dry bulk commodities around the world is often a sign of demand for commodities. China is the most influential factor when it comes to moves in the BDI as it is the 800-pound gorilla when it comes to the demand side of the fundamental equation in the raw materials market. New restrictions on cleaner fuels boosted shipping rates and the BDI over the past months. The BDI closed Q3 at the 1,857 level. The BDI could be highly sensitive to the trade issues over the coming months. However, we are coming into a time of the year where the shipping index tends to decline as freight activity decreases during the winter months in the northern hemisphere.
Many issues face the industrial commodities sector of the raw material market that could cause lots of price volatility in Q4 and intom2020. The dollar, interest rates, and most of all, trade between the US and China will determine the path of least resistance of prices. A recessionary environment would weigh on the prices of industrial commodities. While economic growth in the U.S. is a supportive factor, China is slowing, and growth in Europe is sluggish, at best. The most significant variable continues to be the trade issue as we head into the coming three-month period. The news cycle will have lots of influence on LME metals and other industrial commodities, along with markets across all asset classes. I continue to believe that the US and China will compromise on a trade deal. China needs one for economic reasons, and President Trump needs a political victory going into the 2020 election season.
DBB is the ETF product that tracks the base metals sector. DBB moved from $15.50 at the end of Q2 to $14.77 at the end of Q3. DBB fell by 4.71%. Since DBB does not hold any long positions in nickel, it did not keep pace with the average rise in the sector as an almost 37% gain in the nickel market skewed the sector results. The prices of copper, aluminum, and zinc fell for the quarter. DBB does not list lead or nickel LME forwards in its top holdings, and the prospectus says, “The index Commodities consists of aluminum, zinc, and copper-Grade A.”
Expect a continuation of price volatility in the industrial commodities in Q4. The dollar, trade issues with China, and global economic growth will determine the path of least resistance for the commodities in this sector over the second half of 2019. I continue to favor a move to the upside when the US and China agree to end their trade dispute.
Any investment involves substantial risks, including, but not limited to, pricing volatility, inadequate liquidity, and the potential complete loss of principal. This document does not in any way constitute an offer or solicitation of an offer to buy or sell any investment, security, or commodity discussed herein, or any security in any jurisdiction in which such an offer would be unlawful under the securities laws of such jurisdiction.