Glencore's Latest Contract a Bullish Call for Zinc?

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Before anyone takes the FT article of this week — reporting on the unusual terms of Glencore’s zinc contract with miner Volcan and containing comments by a senior commodity analyst at Macquarie Bank that this suggests a particularly bullish view on the zinc market by the world’s largest independent zinc supplier, as a prediction that prices are set to rise — should take a look at a follow-up article by Reuters’ Andy Home.

The gist of the original article: Glencore has signed a contract to buy zinc ore with no charge for the cost of converting it into metal (this usually incurs a fee of about $100 per ton), and has an agreement to share in any premium in the metal price above a benchmark of $2,000 per metric ton with Peruvian miner Volcan.

It is normal for traders and smelters dealing with miners to buy concentrates at a discount to the refined metal price to reflect the cost of smelting. (In addition, they normally would agree to a modest share in any uplift in the metal price of about 5 percent.) In this case, Glencore is not taking any discount, but is instead taking a much larger uplift of 25 percent, which is being interpreted as a bullish bet on the market rising.

But before you rush out to buy zinc futures or cover your 2012 forward requirements, take a look at Andy Home’s analysis. The zinc market has been in surplus for the last five years, and although new mine closures are almost cast in stone as the middle of the decade approaches, they are not about to happen this year.

The International Lead and Zinc Study Group (ILZSG) is predicting a further 5 percent growth in mine supply this year while the World Bureau of Metal Statistics reported the zinc market was in surplus of over half a million tons in 2011, up from 425,000 tons in 2010 and expected to remain in surplus this year.

Yet as Reuters observes, the zinc market forward curve is strongly in contango, behaving as if the market were in balance. The LME price has risen some 15 percent this year as the ECB’s flood of cheap money through the banks has raised all commodity prices on a more risk-inclined investor sentiment.

As the world’s largest zinc player, Glencore knows best about this. Arguably, much of the zinc inventory rises in New Orleans can be attributed to them as zinc has enjoyed the same park-and-finance game as aluminum. This appears set to continue and presumably, in Glencore’s view, does not represent a meaningful threat to a price collapse.

The deal with Volcan (so far the only nil-treatment-discount deal Glencore has agreed to, it would seem) doesn’t really kick in until 2013, by which time Brunswick and Perseverance, both in Canada, along with Lisheen in Ireland, are set to close. Although, if prices were several hundred dollars a ton higher, some or all of them could conceivably limp on extracting lower grades. It is not until 2015 that the crunch is likely to come when Century, the world’s third-largest zinc mine, along with a number of others are set to close — adding up to a million tons of lost capacity.

The price will react to such a looming deficit — if indeed a deficit is what transpires — long before 2015, but to suggest the price will rise now on the back of that outcome is overly bullish. Zinc, like aluminum, has little to commend it in terms of the price rising on the back of market fundamentals.

While Glencore’s novel deal may be the forerunner of more contracts like it in the future, it should be seen as longer-term positioning to benefit from firmer prices in late 2013/2014.

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