Itaú BBA - Trump helps metals, but not enough to trigger a new boom

Commodities Monthly Report

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Trump helps metals, but not enough to trigger a new boom

November 16, 2016

We are revising our metals forecasts upward. OPEC deal murkier, but still in the baseline.

For the full report, see enclosed file

• We are revising our YE17 forecast upward for iron ore (to USD 55/ton from USD 48/ton) and some base metals, acknowledging the improved outlook for demand (in both China and the U.S.) and greater discipline among producers.

• The outlook for an OPEC deal is murkier, given the uncertainty about President Trump’s geopolitical strategy. Nonetheless we still believe that OPEC members will deliver the deal, driving oil prices to USD 50-55/bbl. 

• Prices for corn and soybean CBT futures climbed due to rising export sales, despite normal progress in harvesting in the U.S. and planting in South America. La Niña remains a risk for the summer crop in Argentina and Southern Brazil. 

The Itaú Commodity Index (ICI) rose 1% since the end of September, as a rally in metal prices (19%) and stability in agricultural commodities were partly offset by a decline in oil-related prices (ICI-energy: -9%). Metal prices were already rallying before the U.S. elections outcome, and the surprising result caused another boost. Other commodity prices were roughly unaffected. Oil prices fell with diminishing expectations about an OPEC deal.

We revised our metal price forecasts upward. The ICI-metals is up 41% year to date, a huge surprise for a year that began with fears of a global recession led by China. There are indeed reasons to see better fundamentals. Domestic steel demand in China picked up in 2016 (3% YTD gain vs. -1.5% in the previous year) and iron inventories seem already adjusted. For base metals, recovery in global manufacturing and higher supply discipline is helping to prevent market oversupply. Finally, the outlook for stronger infrastructure spending in the U.S. is positive for metal prices. Hence, we are revising our iron ore prices upward for YE17 to USD 55/ton from USD 48. Together with changes in base metals, the net effect is a 7.1% increase in the ICI-metals forecast for the end of 2017.

Nonetheless, we still forecast a modest decline in metal prices throughout 2017. Our scenario relies on a slowing demand growth in China as the housing market cools by mid-2017 and a supply response from marginal producers. Finally, the promised infrastructure spending in the U.S. will not likely be enough to replace China as the main driver, and in any event, it won’t likely impact prices until 2018 and onwards.

The outlook for an OPEC deal is murkier, with uncertainty about President Trump’s geopolitical strategy. Nonetheless, we maintain our scenario for Brent prices at USD 54/bbl for YE17, assuming the cartel will indeed deliver a deal. The reason is that fiscal considerations can make the Saudis and Iranians push prices to the top of the range (USD 40-60/bbl), which would not trigger a meaningful response from U.S. producers. In other words, prices below this range are fiscally inefficient for these strategic suppliers.

The ICI-Agriculture index has traded sideways since the end of September. We revised our forecasts for coffee, acknowledging that the global balance in 2017 can support prices at current levels. Meanwhile, the overall scenario of oversupply for grain/soybeans was boosted by planting under favorable weather conditions in South America. Risks associated with La Niña remain for planting regions in the south.

Our estimates imply that the ICI will rise 3% by the end of 2016 from its current level (due to a rebound in oil prices) and then remain stable through 2017.

Oil: Trump generates uncertainty over agreement

Brent prices fell to USD 44/bbl from USD 53/bbl, reflecting even greater market doubts about the implementation of the preliminary agreement presented on September 26-28 after U.S. elections. In our view, market prices suggest that the implicit probability of success is below reasonable levels.

Our base scenario assumes that OPEC will reach an agreement by the end of November. Saudis and Iranians still face fiscal restraints that will encourage them to ensure that the agreement is fulfilled, so that revenues will increase. Our rationale assumes that the fiscal conditions will prevail over additional geopolitical tensions. Furthermore, the agreement may lift prices to USD 50-55/bbl from USD 45-50/bbl without a significant supply reaction. The implementation of the minimal adjustment promised in September (limiting the cartel’s production to 33.0 mbpd) is enough to eliminate oversupply before the end of 2016. Given the low probability of success implicit in market prices, upside potential is greater. If the cartel fails to deliver the supply cut, reaching market equilibrium will take a long time (mid-2017).

We maintain our YE16 forecast for Brent at USD 54/bbl (WTI: USD 52/bbl). In our view, a price range between USD 50 and USD 55 would be enough to trigger some reaction in U.S. production – the source of marginal supply in international markets.

The output cut in our base scenario reduces downside risks and raises risks of overshooting, given that the reaction by U.S. producers may take longer to materialize.

Trump-inspired oil-sector deregulation in the U.S. could lift output in the medium term, and it would generate downside risk for prices, which would need to be properly monitored.

Grains: Strong demand offsets favorable weather

Corn, soybean and wheat prices have shows a mixed performance since the end of September (flat, +3%, -2%, respectively). Prices resisted the downward pressure from favorable weather during both harvesting in the U.S. and early planting in South America.

One of the causes may be the unusually strong pace of export contracts for corn and soybeans in the U.S. The amount contracted for the 2016-17 crop so far is higher than in previous years. Gains in corn tend to influence wheat contracts.

La Niña close to the New Year represents a risk for supply, as it increases the likelihood of crop losses in Argentina and Southern Brazil. However, the pattern improves the outlook for the Matopiba area (formed by Brazilian states Maranhão, Tocantins, Piauí and Bahia), partially offsetting losses in the south.

We expect international prices for the three commodities to remain around current levels until year-end. These are our YE17 forecasts (USD/bushel):

  • Corn: 3.6
  • Soybeans: 10
  • Wheat: 4.7

Our scenario assumes an active La Niña by year-end, affecting the next crop in the southern hemisphere but ending before it can affect the next crop in the northern hemisphere.

Sugar/Coffee: High prices for coffee and sugar tend to be sustained in 2017

International raw sugar contracts fell somewhat, to USD 0.216/lb (futures contracts for first delivery traded in New York), with some reduction in the net long position of hedge funds plus the USD strength and lower gasoline prices in Brazil.

International coffee prices rebounded, and the contract for first delivery is above USD 1.60/lb.

The two commodities are up year to date (sugar: 42%, coffee: 28%) due to smaller supplies. The drop in supply was caused by both weather shocks and lower capex due to unfavorable profit margins.

We maintain our forecast for average sugar prices in 2017 at USD0.215/lb. We estimate a deficit of 3.6 million tons in crop-year 2016-17 (after a deficit of 10 million tons in crop-year 2015-16), followed by two consecutive years of surpluses that will likely drive prices lower in 2018.

We revised our YE17 forecast for coffee upward, to USD 1.70/lb from USD 1.50/lb, acknowledging that higher prices are consistent with a tight balance next year.


Artur Manoel Passos, CFA


For the full report, see enclosed file

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