Itaú BBA - Sustainable Increase for Oil, but Temporary for Iron Ore

Commodities Monthly Report

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Sustainable Increase for Oil, but Temporary for Iron Ore

May 7, 2015

Commodity prices rose in April, driven by a sustainable oil increase and a temporary metals pickup

• Oil prices rose above USD 69/bbl in April, amid stronger signs of a supply adjustment and lower short-term risks for storage. We moved our scenario of convergence of Brent crude prices to USD 70/bbl up by six months, to December 2015.

• Iron ore prices advanced after many months of declines, driven by temporary demand. The outlook, however, is still for losses. We continue to see oversupply in the market and expect prices to fall again.

• Corn, soybean and wheat prices were affected by favorable weather (downward pressure) and stronger external demand (upward pressure) in April. Corn and wheat prices were more influenced by the weather and fell, while soybean prices were more deeply affected by demand conditions and remained stable. We maintain our price forecasts while we wait for information about yields in the next crop.


The Itaú Commodity Index (ICI) has climbed 9.3% since the end of March, driven by increases in oil and iron ore prices. The breakdown by component highlights the contribution of these two commodities: the ICI-Energy soared 19.4% and the ICI-Metals advanced 9.6%, while the ICI-Agriculture fell slightly, by 1.9%, during this period.

We increased our year-end forecast for the ICI by 2.7 pp, as we incorporated faster convergence of Brent crude prices to an equilibrium level of USD 70/bbl. Our scenario considers a 3.6% increase in the ICI from current levels by the end of the year. We expect an additional 3.5% hike during 2016.

Iron ore prices have risen sharply (and unsustainably) since early April, climbing 10% to USD 58/ton. The move was apparently driven by an inventory restocking cycle in China. However, this temporary hike in demand does not change the outlook for oversupply in this market. Growth in global demand tends to remain slow, while low-cost producers continue to expand supply. Hence, we anticipate a resumption of the downward trend, and maintain our year-end forecast at USD 52.5/ton.

Oil: Sustainable recovery and less uncertainty

Oil prices rose in April, as Brent crude advanced to USD 69/bbl from USD 58/bbl.

The hike is consistent with fundamentals. U.S. output is finally starting to decline, consolidating the outlook for lower investments in the O&G industry there. Furthermore, the pace of inventory accumulation slowed down, reducing risks related to storage bottlenecks (which would prevent inventory accumulation in the short term for sale in the future).

Implicit (annualized) volatility slid to 36% from 55%, as uncertainties surrounding supply receded. The two factors that contributed to the hike also explain the drop in volatility. Also, increased tensions between Saudi Arabia and Iran due to the civil war in Yemen further decreased the likelihood of coordinated reaction by OPEC. Although the lower likelihood of coordinated reaction represents downward pressure on prices, it also reduces uncertainties about the future of the oil market.

We moved our scenario of convergence of Brent crude prices to USD 70/bbl up by six months, to December 2015 from mid-2016 previously. The revision follows some decline in U.S. output and a slower pace of inventory accumulation in April. Hence, our year-end call for Brent crude rose to USD 70/bbl from USD 65.0/bbl.

Grains: Favorable weather conditions in April

International futures for corn and wheat fell 3.7% and 8.7% in April, respectively (see chart), while soybean prices remained stable.

April was marked by two factors: favorable weather conditions in producing regions and strong external demand in the U.S. The weather is favored by El Niño, which reduces frost risks and increases rainfall levels. In Brazil, the second corn crop continues to experience good rainfall and heat levels. Although slightly later than its historical average, corn planting in the U.S. is earlier than in the two previous crops. Spring wheat in the U.S. benefits from timely rains, which increased expected yields.

These factors (plus the bird flu) are behind the outperformance of soybeans over corn. The soybean planting cycle in the U.S. is late by a few weeks, so that the oilseed benefited less from planting opportunities. Furthermore, as current inventory levels are lower, prices were more deeply affected by stronger demand for the 2014/15 crop. Hence, soybean prices rose faster than corn and wheat prices, despite the outlook for a larger oversupply in the 2015/16 crop year. Finally, corn demand is likely to be more affected by the bird flu in the U.S.

We maintain our year-end forecasts for corn (USD 4.25 per bushel), soybeans (USD 9.50) and wheat (USD 5.40). This scenario is based on normal weather conditions.


Artur Manoel Passos

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