Commodity prices have climbed almost all the way back after the sell-off last month. LME copper has gone up from $7,650 per tonne on 20 March to $8,700, while LME Aluminium is up from $2,830 per tonne to $3,095. Zinc, nickel and lead prices have also clawed their way back. Crude oil prices too have scaled new peaks, recovering from a brief interlude below the $100 a barrel mark. The irony is that commodity prices have moved up at a time when the International Monetary Fund (IMF) has scaled down its growth projection for the world economy to 3.7% for 2008, half a percentage point lower than the estimate they made last January.
One reason has been a weaker dollar. The US dollar had strengthened briefly, leading to the sell-off in commodities. Now that it’s weakening again, commodities and gold are rallying. An index that measures the nominal value of the dollar against the major currencies recovered from a low of 69.26 on 18 March to 70.92 on 1 April before falling again—on 9 April, it was back to 70.63.
The accompanying chart, culled from the IMF World Outlook, shows the correlation between the US dollar and crude oil, gold and non-fuel commodity prices over the last six years. The inverse correlation is clear.
Does this mean a downturn in commodity prices will finally come about when the dollar stops weakening? The last time the US went into a recession, after the dotcom bust, the dollar actually rallied. From a low of 99 in June 2000, the dollar index rallied to 112.7 by February 2002, before starting the long slow ride down. The US Fed Funds rate went down from 6.5% to 1.75% over that period. Yet the dollar appreciated because the European Central Bank (ECB) too cut interest rates over the period. The Bank of Japan reduced its discount rate from 0.5% to 0.1% over the period, while the Bank of England too reduced its policy rate.
To cut a long story short, the reason for the weakness of the dollar during the current recession is because both ECB and the Bank of Japan have not cut rates, while the Bank of England has just started its rate cutting cycle. It’s only when the other central banks start reducing their rates that the dollar will rise and commodity prices weaken.
NTPC impresses with high load factor
The provisional results of NTPC Ltd for the year ended March 2008 point to an impressive performance in the fourth quarter. The company reported that its coal-based plants recorded the highest ever plant load factor (PLF) of 92.24% for the year. PLF is the measure of output of a power plant vis-à-vis the maximum output it could produce, and it stood at 90.19% for NTPC’s coal-based plants in the nine months till December 2007. The fact that the year’s average has risen to 92.24% points to a marked improvement in the fourth quarter.
An analyst with a domestic brokerage points out that incentives start kicking in for most power plants at a PLF of 80%, and the high load factors achieved by NTPC augur well. Profit after tax, adjusted for exceptional items, rose by 13% last year, more or less in line with the growth achieved in the first nine months (14%). The company has provided about Rs297 crore on account of forex variations and has also provided a large amount for wage revision, which have been treated as exceptional items. Although the revised wage bill will be here to stay, it has been treated as an exceptional item because although it’s included as a cost in the books of accounts, it won’t be allowed as a pass-through cost when it comes to billing revenues. That will happen only when the wage agreement is signed. It’s commendable that annual profit has increased by 4% despite the above provisions and the additional incentives paid by the company.
NTPC has reiterated its plan to achieve 50,000MW in capacity by 2012 (current capacity is at 29,144MW). It also said that it will double coal imports to meet its input requirements. While costs would increase, note that NTPC works on a fixed return where costs are passed through. The NTPC stock has now corrected by about 36% from its 52-week high and the price-book valuation is now at about 2.6 times estimated fiscal 2009 book value. With return on equity being as high as 22%, valuations seem reasonable, especially compared with other players in the sector such as Reliance Power Ltd and Tata Power Co. Ltd.
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