Zinc in Oversupply For Now, But What's to Come?

Zinc buyers (and/or metal-with-a-significant-zinc-content buyers) may be forgiven for feeling pretty sanguine about the supply market for the zinc content of their components. Rising LME inventory levels and prices of zinc that have moderated from the highs of last July suggest a market that is comfortably in oversupply, and indeed the International Lead and Zinc Study Group (ILZSG) and World Bureau of Metal Statistics both confirm the market continues to be in surplus.

While we are not about to debunk this position, several articles lately raise questions about the real level of zinc inventory, what’s driving zinc stock rises, and the true level of zinc production and real consumption. Even though there’s little doubt that several major mines will be closing around the middle of the decade, the exact timing of those closures and the partial replacement by new mines or expansion to current mines is also very unclear.

An interview in Mineweb with Huw Roberts of CHR Metals explores the uncertainty around production and consumption in some detail, but although some 40 percent of global production and consumption goes on in China, clear statistics are very hard — and in fact becoming harder — to come by.

Roberts seems clear in saying consumption is weak or weakening in Europe, South America, India and probably also China. Only the US is showing signs of rising consumption, although while construction remains depressed, this growth will be moderate. Although China has been seen to import significant quantities of primary metal, the belief is little is being actually consumed; most has contributed to a rise in visible Shanghai stocks and invisible traders’ stocks which are probably being used for financing deals.

Meanwhile, a Reuters article explores the apparently bizarre rise in LME inventory in spite of a spot-to-3-month contango of just $3 per ton this week, way below what is required to finance the stock and carry trade we saw last year and which has become the main dynamic of rising stocks on the aluminum market.

At the start of 2009, a “cash-and-carry” financing deal for 18 months generated a gross yield of 9.0%, according to Reuters, yet today it would generate a gross yield of just 2.4%, from which rent, finance and insurance costs have to be met.  Yet exchange-registered inventory hit 936,650 tons this month and is now the highest it’s been since 1995, following the arrival of a further 30,450 tons in the last couple of weeks.

About two-thirds of all LME zinc stocks are said to reside in New Orleans, yet little or no inventory is being withdrawn or consumed in that area. In fact, the only locations with any remotely significant withdrawals are Chicago and Johor in Malaysia.

So although the fundamental supply-demand situation is clearly in oversupply, for the time being physical metal is largely disappearing into inventory and the price has held up relatively well. Certainly in Roberts’ opinion, most miners remain profitable, particularly those with co-production of lead or silver as in Mexico and Peru. Only some Australian producers battling against a strong Aussie dollar are feeling the pinch.

Nor is the oversupply deterring several new projects, due to come on-stream around the middle of the decade, so maybe our zinc buyers have it right.

For now, prices have little to drive them higher and even the expected tightening in the market by 2014-15 (as major old mines close) will be met in part from new supply, but any shortfall met from this conveniently rising store of metal, both in LME exchanges, off-market and in China.

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