Zinc prices have soared in the past few years and often, the question arises as to how long it will last. While the bull case for the rally in 2018 still appeared to have legs, it tottered a bit this week after an unexpected spurt in physical zinc stocks at LME (London Metal Exchange) warehouses. A steady drawdown of LME inventories was one factor supporting a tight supply position, essential for prices to remain firm.
Zinc stocks in LME warehouses rose by 59% to 209,050 tonnes while on-warrant stocks nearly doubled to 162,825 tonnes, according to Reuters.
While zinc prices fell by about 2% and then steadied, the event just highlighted the risk of what may happen to prices if the bears begin to take over. Investors in Hindustan Zinc Ltd need not stress over this event but should keep a closer watch over what’s happening on this front.
The increase in zinc prices has played a significant role in its performance in recent years. In the nine months ended December 2017, its refined zinc output rose by 28% but its Ebitda (earnings before interest, tax, depreciation, and amortization) rose by 49%, partly explained by the 32% increase in the LME price of zinc. It has made a bigger difference in quarters when output growth was slower. For instance, in the December quarter, zinc output was down by 3% over a year ago but Ebitda still rose by 19%, on the back of a 29% increase in zinc prices.
As rallies go, they are bound to peak some time. The International Lead and Zinc Study Group said the refined zinc market was in a deficit of 495,000 tonnes, and inventories held in warehouses, with producers and with consumers declined by a fourth to around one million tonnes. In 2018, some gain in supply is expected as the increase in prices has led to producers regaining confidence.
Is the threat to zinc real? The fundamental view has not changed, says Chris Parker, research director at Wood Mackenzie, a research and consultancy firm, whose outlook for 2018 is for a refined metal deficit of 560,000 tonnes and a tight metal market of 32 days of consumer demand by the end of the year.
The fact that there are unreported stocks is known (not the quantum though), and only after they are utilized that LME stocks will truly reflect the tight supply situation, and after that metal premiums will increase, said Parker. This is when prices could rise further and the situation will become clearer around June.
Till this happens, though, Parker expects LME inventory levels could move up and down, in turn affecting prices. Wood Mackenzie’s forecast is for a zinc price of $3,500/tonne in Q2 2018 and $4,000/tonne in Q3 while the 6 March LME spot price was $3,335/tonne.
If these forecasts play out as expected, Hindustan Zinc’s investors can breathe easy but in the volatile world of commodities, it always pays to remain alert. Keep a watch for developments in zinc related to metal inventory and demand-supply shifts in 2018.