China Commodities Weekly for the Week of January 12-16, 2009
■ Last week,
China’s base metals, steel, and iron ore markets were down slightly, except for
zinc and rebar. Grain prices were largely higher, supported by the government’s
reserve purchase plan. Fertilizer retail prices continued to drop. Ethylene and
methanol prices were both higher. As for energy, oil product prices dropped,
but coal prices were stable.
■ In this report,
on the macro front, we discuss the surge of China's loan growth in December and
its implications for our “buy the dip” call. We also take a look at China’s
surging purchase of U.S. treasuries. On the commodities side, we examine
China's export economics for urea, amid speculation over a change in urea
export taxes. We also discuss the recent price direction for coke and coking
coal, both within and outside the Chinese market.
Macro – Strong December Imports and Loan Growth
Strong Imports for Key Commodities
■ Last week, China released preliminary trade data
for key commodities. The data shows strong import growth in December 2008. In
the month, China’s copper imports, including semis, were up 32% MOM to 286,576
tonnes; iron ore imports climbed 6.2% MOM to 34.53 million tonnes; crude oil imports
grew 11.6% YOY and 4% MOM to 3.38 million bpd; net refined oil products imports
soared 145.5% MOM and 12.5% YOY; and soybean imports increased 12.8% YOY to 3.3
■ We observe that the strong imports of key
commodities in December coincide with other positive developments we discussed
in detail last week – the price rebound and inventory drawdown of steel, iron
ore, and coal in the local market. These market dynamics continue to support
our “buy the dip”call on the global raw materials sectors.
■ That being said, if investors “choose” to see the
bearish side of the strong import data, they can raise a very legitimate
question: if China is still importing and we still get US$1.40/lb copper and
US$40/barrel oil, what would happen if China stops buying? At the very least,
strong Chinese purchases of copper did not save the copper market, for example.
■ On the export side, in December 2008 China’s
finished steel products exports rose 7% MOM to 3.17 million tonnes; coal
exports jumped 66% MOM to 4.47 million tonnes; and unwrought aluminum exports
rocketed 155% MOM from a dismal November.
A Spike in Loan Additions
■ More encouraging than the strong imports data are
the very robust loan additions in December. In the month, Chinese banks issued
RMB771.7 billion of new yuan loans, compared with RMB476.9 billion in November
2008 and RMB48.5 billion in December 2007. M2 money supply rebounded to 17.8%
year-to-December, compared with 14.8% year-to-November.
■ Last October, when the Chinese central bank took notice
of the deteriorating economic situation, it scrapped the loan quota system. Essentially,
since November, commercial banks in China were allowed to lend as much as they wanted,
without a quota cap. As a result, we saw China’s loan additions rebounding sharply
into November and December (see Exhibit 1). This is very encouraging, as loan
additions are the main fuel for China’s economic growth. In contrast to Western
banks, Chinese banks are still lending, and are actually accelerating lending.
This means that the government is not having any trouble in getting financing
for its massive fiscal projects.
■ Today’s lending translates into construction/manufacturing
activities about three months later. Therefore, the strong loan additions at the end of 2008 bode well for a
spring revival of economic activities in March-April 2009, when
migrating workers come back from their rural families to the urban areas after
the Spring Festival.
Winter Lull to Be Followed by a Spring Revival
■ To summarize our recent views, we believe investors
should continue to buy the dip in the global raw materials sectors, but should
not chase upside momentum, if any, too aggressively before mid-February.
■ Why not chase upside momentum? For three reasons:
(1) real demand for key commodities has not recovered yet (the Sichuan
earthquake rebuilding being an exception); (2) the Spring Festival is coming
and it represents weak seasonality for construction activities; and (3) Q4/08
GDP and December macroeconomic data, to be announced later this week, are
likely to be weak.
■ Why continue to buy the dip? Also for three
reasons: (1) strong loan growth indicates demand will come, eventually; (2)
more stimulation is to be announced, according to Premier Wen last week; and
(3) March and April have strong seasonality for construction/manufacturing
activities. When the money is ready (loan additions are strong), the projects
are ready (a lot of government-sponsored projects have been approved), and labour
is ready (migrating workers come back to the cities), a typical spring revival
in March and April looks highly likely.
■ We note that our view about a March-April “spring
revival” is not a consensus view. Most economists
are looking for a rebound in Chinese economic activities in 2H/09, not Q2/09.
In contrast, we believe seasonal economic strength might well come in the spring
in China. Of course, investors should always balance our view
on China against their own views on the rest of the world. Even though we are comfortable that China will show
strength in the spring, whether or not it is sufficient to offset the slackness
in the rest of the world is a question that is beyond our ability to answer. (As
we have written above, even though China’s copper imports have remained very
strong in 2H/08, it did not prevent the copper price crash on the LME).
Macro – A Big Buyer of U.S. Treasuries
■ In November 2008, foreign investors dumped a record
US$56 billion in long-term U.S. securities (US$4 billion in stock purchases
offset by US$60 billion bond sales), following an upwardly revised net sale of
US$36.6 billion in October. Among bonds, the net sale of longterm U.S.
treasuries was seen for the first time since August 2007, when the credit
crisis erupted, and was done all by official institutions.
■ That said, China, the largest holder of treasuries,
actually increased its holdings of U.S. treasuries by US$29 billion to a record
US$681.9 billion. This fact shows that China has been very “cooperative” in
supporting efforts to bail out the U.S. financial system. It also shows that
the fear that China might dump U.S. treasuries to either “diversify” or to “fund”its
domestic fiscal expenditures had not materialized, at least up to last
■ Exhibit 2 shows that China has been aggressively
buying U.S. treasuries. In addition, China’s holdings in U.S. treasuries as a
percentage of its foreign exchange reserve is also on the climb. We understand
that some observers believe that China’s increased purchase of treasuries
merely represents a shift from U.S. agency debt holdings to treasuries.
■ With such a high level of holdings, does the
Chinese central bank feel nervous? To this question, we really do not know the answer.
If one wants to identify some “warning signs,” one can observe that in November,
China’s net holdings of longterm treasuries fell by more than US$9 billion,
while its short-term holdings rose by US$38.2 billion. “The creditor is giving
up yield to give itself the option of exiting quickly,” wrote a fellow at the Council
on Foreign Relations.
Urea – Export Economics
■ As we wrote last week, producers and traders in
China are still awaiting further news on possible changes to the urea export
tax starting February 1. The current off-season tax rate of 10% is due to end
January 31, and from February to July, the export tax was initially scheduled
to be enforced at 110%, consisting of a 75% special tax and a 35% base export
tariff. Chinese urea producers have been aggressively pushing for a complete
removal of the export tax in recent weeks. We believe that there is a 30% chance
that the 75% special tax will be removed, making the effective export tax rate
35% starting February 1. (Our expectation for China’s urea export tax in
February is: a 60% chance of enforcement at 110%; a 30% chance at 35%; and a
10% chance of it remaining at 10%.)
■ For the time being, mainstream export prices are at
US$270-US$290/tonne FOB Chinese ports. Domestic prices are at around
RMB1,650/tonne, implying a minimum return at US$265/tonne to break even with a
10% export tax. Local anthracite coal prices recently rebounded, supportive of
local prices from a cost perspective.
■ With benchmark U.S. New Orleans urea prices now
having rebounded to US$300/st, due to the Russia-Ukraine disputes on natural
gas supply, it is clear to us that at a 110% export tax, China will not be able
to export at all. At a 35% export tax, Chinese producers would require a
minimum US$325/tonne to make the export business profitable. With a 10% export
tax, Chinese exports would continue, but not on a large scale.
Coking Coal – A Bit of Clarity
■ In the Chinese domestic market, coking coal prices
have climbed from lows seen in late November by some 20%. Domestic coke prices
also rebounded sharply. In Shanghai, the spot price for #2 Grade Coke has
climbed from its low of RMB1,400/tonne in late November to RMB1,900/tonne last
■ On the export market, Chinese coke is now quoted at
US$350/tonne, up from its low of US$300/tonne at the end of November (Exhibit
3). On April 7, 2008, when BHP
and Posco concluded the US$300/tonne deal for
coking coal, the export price for Chinese coke was US$565/tonne. A drop of US$215/tonne
in coke prices implies a drop of US$150/tonne in coking coal prices. From this
perspective, the most recent Chinese coke export price indicates a coking coal 2009
contract price at US$150/tonne.
■ Outside China, we understand that Australian
producers have reportedly offered
prices of US$140/tonne for hard coking coal to
Asian buyers for the 2009 contract, while Japanese buyers are seeking a price
back to the 2007 level (US$98/tonne). We also understand that Russian miner
Belon is offering coking coal at US$100/tonne to Asian customers (and
US$68/tonne to domestic users). On the spot market, most reports indicate
recent spot deals in the US$120-US$140/tonne range.
■ Given the above information, we maintain our view
that the 2009 coking coal benchmark contract price will drop to US$130/tonne.
News in Brief
Copper – “Chinese the Only Buyers”
■ Jerrold Annett, our metals sales specialist, made
the following comments last Friday: “A call this morning to my main industry
contact who sells about 5% of world cathode supply tells me the Chinese are the
only buyers right now. He is becoming frustrated with the outright lack of
interest from the rest of the world. Any buying in Europe and the U.S.A.
(collectively account for about 45% of world demand) is done through spot
purchases and through various traders but not via producers direct. This
demonstrates the diverging interests between cathode end-users and cathode
producers. Eventually, cathode producers sitting with high levels of unsold
inventory will need to sell to the LME/Comex warehouses. We haven’t
seen the worst. China is the only buyer right now but this will likely stop as
they are simply stocking up ahead of the Chinese New Year … by the end of January,
we will start to see some big inventory increases and prices are likely to
Copper – TC/RC to Be Up 60%
■ Chinese copper smelters are expected to settle term
treatment and refining charges (TC/RC) for 2009 very soon at US$75/tonne and
7.5 cents a pound with BHP, according to industry sources. This represents a
rise of nearly 60% over 2008. A similar deal had already been made with
Copper – Jiangxi Copper Sees Low Demand Growth in
■ China’s refined copper consumption will rise about
2% in 2009, Wang Chiwei, executive director at Jiangxi Copper, said yesterday.
Copper – SRB to Buy from Abroad
■ “The State Reserve Bureau has a lot of ways to
purchase copper and probably it will purchase on the international market
because domestic copper smelters have limited stockpiles for the government to
buy. If we delivered the copper to SRB, we might have to break contracts with
our customers,” said Wang Chiwei from Jiangxi Copper.
Zinc – SRB Bought Small Amount
■ China’s State Reserve Bureau bought 59,000 tonnes
of zinc from seven state smelters last Wednesday at RMB11,800 (US$1,726) per
tonne, 3.5% higher than spot prices in Shanghai on the same day. The agreed
volume was lower than an expected 100,000-200,000 tonnes because smelters
considered the price too low.
Nickel – Nickel Ore Stock Down
■ China’s laterite ores at discharging ports are
being consumed quickly over the most recent month. On January 8, 2009, the
total stockpile was 7.9 million tonnes at all ports, decreasing by 600,000
tonnes from December 2008, according to Antaike.
■ Chinese low-grade nickel pig iron producers started
to resume partial production in November 2008, due to lower coke prices and
better realization of Fe credits. Currently, about 10 enterprises using blast
furnaces operated at full capacity in Shandong province.
Steel – Baosteel Raises March Prices After February
■ Baosteel raised its sales prices for major
hot-rolled and cold-rolled steel products for March by RMB300/tonne from
Steel – China Will Control Steelmaking Capacity
■ China will strictly control total steelmaking
capacity and will not allow any new steel capacity expansion projects, China’s
State Council said on Wednesday. The China Iron and Steel Association estimates
the total capacity at 616 million tonnes at the end of 2008, up from 550
million tonnes at the end of 2007. The association estimates that in 2008,
China produced 500 million tonnes of steel, up only 2% YOY.
Steel – China Wants to “Stabilize” Its Market Share
for Steel Exports
■ The State Council also said it would adopt a
flexible tax policy on steel exports to stabilize China’s share of the global
Iron Ore – Atlas Saw Iron Ore Demands Strong
■ Australia’s newest iron ore miner, Atlas Iron, said
last Thursday its expansion plans remained supported by demand from China,
although steel mills are pushing for a 40% cut in contract prices for 2009.
■ “There’s something of a chasm out there – there’s a
huge disconnect between the financial pages and what my marketing team is
hearing. We’ve got 10 keen expressions of interest yesterday from people
wanting to buy iron ore,” Atlas Chief Executive David Flanagan said.
■ Project funding was not a problem, according to
Flanagan, who said China’s steel groups stood ready to become project partners
and sign long-term off-take agreements. “The money is coming at us thick and
fast … China wants alternatives,” he said.
Potash – Mosaic’s View on the Negotiation
■ During Mosaic’s Analyst Day on January 13, the
company said China could potentially take six months to strike a deal with
international potash suppliers. China has carryover stocks from last year, but
not enough to get through the calendar year, according to Mosaic.
Grain – China Will Raise Grain Procurement Prices
■ China may raise the minimum prices for grain “more
than expected” this year to help stem a widening income gap between urban and
rural areas, local media reported.
Coal – Still a Net Exporter in 2008
■ In 2008, China registered a net export position for
coal of 5 million tonnes. Imports fell 21%, to 40.4 million tonnes in the year,
while exports dropped 15%, to 45.43 million tonnes.
Coal – Output Grew 7.7% in 2008
■ China’s coal output climbed 7.7% YOY in 2008 to 2.7
billion tonnes, according to the China Coal Industry Association.
Oil – Product Prices Trimmed by a Few Percent
■ The National Development and Reform Commission
(NDRC) reduced the ex-factory price of gasoline and diesel starting from
midnight on January 15. The price of #90 gasoline will be reduced by 2.5% from
RMB 5,580/tonne to RMB 5,440/tonne, whereas the price of #0 diesel will be
reduced by 3.2% from RMB 4,970/tonne to RMB 4,810/tonne. Maximum retail prices
will be reduced by the same magnitudes.
■ After the cut, Chinese consumers are still paying massively
higher prices than American consumers. The NDRC said after the cut that it will
not adjust fuel prices too frequently.
Oil – IEA Sees Only 1.1% Demand Growth in 2009
■ China’s oil demand is likely to rise a mere 1.1% in
2009, compared with estimated growth of 4.2% in 2008, according to the IEA. The
growth would be only 90,000 bpd in 2009, the slowest since 2001.
Auto – China Unveils Plans to Boost Auto Industry
■ China unveiled a wide-ranging plan, including tax
cuts and subsidies last Wednesday to boost its auto industry.
■ The State Council said it would cut in half, to 5%,
the sales tax on purchases of cars with engine sizes below 1.6 litres. The
government will also give one-off cash subsidies totaling RMB5 billion to
owners of high-emission vehicles who trade them in for more fuel-efficient, cleaner
ones. It will also set up a RMB10 billion fund to promote new technology,
including renewable energy, over the next three years, while supporting the
eventual mass production of electric vehicles.
■ The auto sector has been hit hard by waning
consumer confidence, with growth in sales of passenger cars slowing to 7.3% in
2008, the first year of single-digit growth in over a decade.
Recap of Our Calls
■ Essentially, we are making four calls in our China
Commodities Weekly: economic trends in China, our overall sector call, our
individual commodity sector views, and our calls for the contract negotiation
for certain commodities. We recap our calls as follows:
■ Economic Trends: There
are three intertwined trends for the Chinese economy – seasonal (the current
and next few months), cyclical (the current and next few years), and secular
(the current and next few decades). We are currently a seasonal bear, a
cyclical bear, and a secular bull.
■ Overall Sector Call: Our
overall sector call is to answer one question: purely from a China perspective,
should investors in the Western world overweight, market-weight, or underweight
the global raw materials and energy sectors? To this question, our current answer
is “overweight,” despite the fact that we are both a seasonal and a cyclical
bear for the time being. In our opinion, the raw materials sectors have sold
off so severely to a level where the secular bullish trend should offer a
■ Individual Commodity Sectors: On
individual commodity sectors, we are now positive on the oil, copper, steel,
uranium, potash, DAP, and hardwood pulp sectors. We are neutral on aluminum,
zinc, nickel, molybdenum, iron ore, coking coal, thermal coal, urea, wheat,
corn, soybean, methanol, and ethylene. We are cautious on paper products.
■ Please note that our positive, neutral, or cautious
views on individual commodity sectors are all on a relative basis from a China
perspective. More importantly, our views on a sector are not purely based on
near-term price direction for the underlying commodity. We are positive on a commodity sector if we believe the equity market is discounting an
unsustainably low commodity price.
■ Views on Annual
Contract Negotiations: We are now
looking for a 30% drop in the 2009 annual iron ore contract. We expect the 2009
coking coal contract price to drop to US$130/tonne. We expect China’s 2009
potash contract to increase by US$24/tonne, to US$600/tonne.