Why have zinc prices been so strong in 2016?

Since the start of 2016 zinc prices have increased by over 30% to over $2000 per tonne. Its nearest challenger is tin, up 18% while aluminium and nickel have only posted gains of 10%. Copper and lead meanwhile have barely changed since the start of the year.

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So what has been behind the strength in zinc prices and what does it mean if anything for other base metals?

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Falling production: Several large zinc mines have closed in recent years as reserves have dried up. Meanwhile over the past year other mines have cut production, finally reacting to the earlier fall in prices. According to the International Lead and Zinc Study Group (ILZSG) mine supply outside of China is forecast to contract by 9.4% this year due to a combination of mine closures and price-related cutbacks.

Declining stocks: Refined zinc stocks in LME approved warehouses have declined by almost 60% over the past year. However, some in the market believe that stocks have just been moved to other warehouses rather than actually being used by industry.

Higher Chinese demand: More than half of zinc production goes into coatings to protect steel from corrosion. According to the World Steel Association Chinese production hit 70.5 million tons in May, up 18% from January/February levels. Indeed, China’s imports of refined zinc climbed about 45% in the first five months of the year.

The concern is that any further rebound in the price will discourage other miners from cutting production, or indeed those that have already cut from ramping up output. Indeed, a look at historical base metal price cycles suggests that zinc prices just haven’t stayed low enough, for long enough to create the necessary environment for a sustained rebound in prices.

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Copper and nickel prices tell a different story.

Related article: History points to nickel leading rebound in base metal prices

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What does Brexit mean for commodity markets?

As of 5AM

Gold +6%, silver +3%, copper -4%, Brent crude -6%, nickel -4%, corn -2%, cotton -2%

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Given the shock of the outcome (markets were pricing in almost a 90% probability of the UK voting to stay in the EU before voting commenced) the reaction in the markets was much more extreme earlier in the night.

So what will Brexit mean for commodity markets for the rest of 2016?

In the short term markets everything depends on the words of politicians in the UK, Europe and elsewhere. Those campaigning to remain have used the fear of an adverse economic reaction in the short term to try to persuade UK voters to stay in the EU. Now that we know the outcome they will be trying to do everything they can to say smooth words about how things will not be as bad.

Investors have understandably moved to gold over the past six months and more as a hedge against the uncertainty of Brexit. Further flows are likely to happen which could support the gold price, until at least more confidence returns. There may be a further flight to the safety of gold if the UK’s decision to leave sparks an appetite from other Euro-sceptic countries to leave. Will this spark renewed fears over the future of the Euro?

Nexit could be next!

While silver prices have benefited from Brexit in the metals role as a safe haven. However, given its primary role as an industrial metal this may be short-lived (more on that below).

Brexit has led to the pound dropping to its lowest level against the US dollar since 1985 early on the 24th June. Safe haven currencies such as the US dollar, the Swiss Franc and the Yen are benefiting from the uncertainty. A strengthening in the US dollar is generally viewed as negative for commodities as it becomes gradually more expensive for buyers in other currencies to purchase commodities prices in the US dollar. The US dollar could become significantly stronger and that would be a major negative pressure on commodity markets in general.

Brexit will ultimately force markets to gauge what the longer term impact will be on global trade and investment. If the UK (the 5th biggest economy remember) suffers economically in the short term then the impact could reach far and wide. This might slow demand for everything from copper to cotton and crude to corn.

Since the start of 2016 commodity markets have had their best run for several years. Markets have largely ignored the the risk that Brexit could represent with remain being the odds on favourite throughout. This shock could be the spark to unwind the strong long positioning in many commodity markets, particularly oil.

Which commodity market is likely to strengthen? Cocoa. One of the few commodity markets that is denominated in sterling, the sharp drop in the currency this morning should support the price of cocoa. According to Commerzbank

“The significantly weaker pound that would result from a Brexit would probably overcompensate for the anticipated price weakness on the commodities markets and could even drive the cocoa price in sterling up,”

 

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Pigs might fly: Why China’s plan to reduce meat consumption is more than just about the environment

Last month the Chinese Nutrition Society called on consumers to reduce the amount of animal-based food they eat from about 300 grams to 200 grams a day and their meat consumption from about 62 kg to 27 kg per year.

The Beijing-backed health agency hopes the guidelines will help ward off a growing obesity and a diabetes time-bomb in China, while global warming campaigners believe they could also result in huge benefits for the planet.

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But there is also a macroeconomic benefit too.

Pork prices are a serious matter in China, and is a significant driver of consumer inflation. Chinese consumer inflation is closely watched by authorities eager to maintain social stability and food security. For example, the “blue-ear pig” disease that forced Chinese farmers to slaughter millions of pigs in 2008 drove the country’s inflation rate to its highest level in a decade.

To prevent further disruptions, the Chinese government established a strategic pork reserve, keeping icy warehouses around the country stocked with frozen pork for release during times of shortage. The government was forced to add to the reserve in the spring of 2010 when a glut led to prices collapsing.

Since the start of 2016 pork prices have surged 70% in China after the nations herd was cut following clampdowns on waste and pollution, coupled with rising demand. In response to the sharp rise in prices Beijing’s municipal government unveiled an unprecedented release of 3.05m kg of frozen pork reserve into the capital’s market over two months.

Reducing Chinese consumers consumption of meat could reduce its impact on overall consumer inflation, enabling Chinese policymakers to manage its economy more effectively. The impact would be far wider however reducing Chinese demand for animal feed including soymeal and corn.

Ultimately it is going to be very difficult to change Chinese consumers taste for meat. As with other economies as they reach a certain stage of development consumers demand a greater proportion of protein based food such as meat, eggs and dairy products. That is unlikely to change anytime soon.

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