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Msg  60144 of 65647  at  5/4/2009 12:47:09 PM  by


China Update

China Update

China Commodities Weekly for the Week of April 27-May 1, 2009

Macro – Sell in May and Go Away?

Data released last Friday show that China’s official PMI rose to 53.5 in April from 52.4 in March. The April reading represents the fifth month in a row that the PMI figure has improved and the second straight month in which China’s manufacturing activities have expanded.

Although this data point fits well with our call for a “spring revival” of manufacturing activities, we do observe that the expansion is weaker than in previous years. As shown in the Chart of the Week, although the survey data are claimed to be “seasonally adjusted,” China’s PMI has shown very strong seasonality in recent years. March and April (the yellows bars) have always registered the strongest PMI for any given year. In past “boom times”, the PMI usually peaked at 55 points or higher in either March or April. In contrast, this year’s readings – 52.4 for March and 53.5 for April – are obviously weaker than previous spring numbers.

The relatively weak PMI is in line with two other key concurrent indicators – electricity and steel. The latest data show that China’s electricity output was still down 3.94% year over year (YOY) in mid-April. Steel prices also abated in the month. The PMI, electricity, and steel data show that although the Chinese economy is clearly recovering, the recovery remains moderate and fragile, so far.

For the raw materials sectors, from a seasonality perspective on the Chinese economy, “Sell in May and Go Away” does make sense. May is usually the transitional month from the “Spring Revival” of Chinese manufacturing activities in March-April (the yellow bars in the chart) to the typical “Summer Lull” from June to August (the blue bars in the chart). This is why the raw materials sectors usually suffer from some pullback in May or June.

For this year, we are hoping that the super-strong loan growth in the winter months will show its full impact in the economy beginning in the second quarter. In other words, by maintaining our overweight call for the raw materials sectors as of today, we are actually fighting against a proven historical seasonality pattern of China’s manufacturing/construction activities.

Fortunately, the two forward-looking indicators under the PMI survey, the “PMI Sub-index of New Orders” and the “PMI Sub-index of New Export Orders” are supportive of our call. The New Orders Sub-index rose by 2 points from March to 56.6 in April. The New Export Orders Sub-index rose to 49.1 in April from 47.5 in March, which is very close to the “expansionary line” of 50. The rise of the export orders is a piece of good news not only for the Chinese economy, but also for the Western/global economy.

News in Brief

Potash – Domestic Producer to Cut Price

Qinghai Salt Lake Group, China’s largest potash producer, is rumoured it will reduce its list prices to RMB3,400/tonne from RMB4,200/tonne previously. We note this is additional evidence of the weakness in the local market.

DAP – A Sharp Drop in Retail Price

Last week, China’s average DAP retail price dropped over 6% from the previous week. Now the DAP retail price is over 30% lower on a YOY basis.

Molybdenum – China Buying Continues

Last week, in both domestic and overseas markets, molybdenum prices continued to edge higher on strong China buying. “China is still enquiring for large volumes,” said a trader. It seems that the Chinese buying found a new impetus ahead of the May 1 holiday.

Uranium – Kazakhstan and Australia Aim at China Purchase

Kazakhstan signed a deal last Wednesday that would see it build nuclear power plants for China, as well as provide China with more than 24,000 tonnes of uranium.

The deal between state nuclear agency Kazatomprom and the China Guangdong Nuclear Power Group, or CGNPG, calls for the creation of a joint venture to build power plants for China, the Kazakh firm said in a statement. A long-term contract has been signed on uranium sales from 2008 to 2020 for a total volume of 24,200 tonnes.

Separately, BHP Billiton said that uranium exports to countries like China will underpin a planned expansion at its giant Olympic Dam mine in Australia, the world’s largest known uranium deposit.

“Exporting uranium to new customers like China will be an integral part of creating value from the Olympic Dam ore body,” said Dean Dalla Valle, chief operating officer for the company’s Uranium Australia unit. “We can do this with confidence because China is subject to the same strict safeguard arrangements as all of our other customers,” he said.

Oil – Diesel Exports to Be Cut

China will cut diesel exports in May by 40% versus April volumes to a four-month low of 180,000 tonnes, to meet rising domestic demand and stockpiling at a time of refinery maintenance, traders said on Wednesday.

State refiners Sinopec Corp. and PetroChina are projected to slash diesel exports from this month’s 300,000 tonnes due to the peak farming season when tractors crank up fuel usage and as wholesalers and retailers stockpile on hopes of another round of price increases.

Signalling a strengthening market, wholesale diesel prices in China have risen some 7% in April.

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 negotiations 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 bull, 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 be overweight, market weight, or underweight in the global raw materials and energy sectors as a whole? To this question, our current answer is overweight.

Individual commodity sectors: On individual commodity sectors, we are now positive on copper, steel, iron ore, uranium, molybdenum, urea, DAP, methanol, and hardwood pulp. We are neutral on aluminum, zinc, nickel, coking coal, thermal coal, potash, wheat, corn, soybeans, ethylene, and crude oil. 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.

Views on annual contract negotiations: We now look for a 35% drop in the 2009 annual iron ore contract. We expect the potash 2009 China contract price to drop US$51/tonne from its 2008 level to US$525/tonne FOB.

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