In commodities markets, China will trump Trump
Even if Donald Trump can deliver the massive stimulus package he promised, this alone cannot justify the extreme optimism being priced in, writes Clyde Russell
Launceston — The election of Donald Trump as US president has added froth to prices for metals and bulk commodities, but the real driver is, and will remain, the outlook for China.
While price volatility associated with the somewhat surprising election of the brash real estate mogul was always likely, hopes for a Trump-led revival of industrial commodities and coal look way too optimistic.
Even if Trump can deliver a massive stimulus package as promised when he takes occupancy of the Oval Office in January, this alone would unlikely be enough to justify some of the extreme optimism now being priced into commodities.
The market also seems to be ignoring the threat to commodities posed by Trump’s stated trade protectionism, with the possibility of higher tariffs on Chinese goods probably a greater downside risk than the upside potential of a Trump stimulus programme.
Is the outlook for copper now so strong that it deserved to enjoy its best week since 2011? The London benchmark reached $5,601 a tonne on November 10, its highest close in 16 months.
While profit-taking saw the price slip back to $5,549 a tonne on November 11, the industrial metal is still almost 20% higher than the $4,635 it closed at on October 21, its most recent trough.
While the election on November 8 that delivered the White House to Trump may have acted as a spur to copper, it’s also clear that the red metal was rallying fairly hard before the Republican candidate’s victory over more-fancied Democrat Hillary Clinton.
And that rally has a lot more to do with developments in China than it has to do with whether Trump can convince fellow Republicans to send the US budget further into deficit to fund a mooted $1-trillion infrastructure programme.
The optimism surrounding China is built largely on the ongoing infrastructure spending being undertaken by the world’s largest producer, consumer and importer of commodities.
China’s factory activity, as measured by the official Purchasing Managers’ Index (PMI), expanded at its fastest pace in two year in October, with the index rising to 51.2, solidly above the 50-mark that separates growth from contraction.
Housing and other construction are the drivers behind the rising PMI, even though there are question marks as to how long Beijing can keep the current stimulus going without risking re-inflating a property bubble.
In the meantime, China remains the main positive factor behind rising prices for industrial and bulk commodities.
Steep price graphs
Iron ore has been a major beneficiary of rising steel output and demand, with the spot price jumping 7.4% to $79.70 a tonne on November 11, its highest in two years.
Coking coal has also enjoyed a spectacular rally, partly as a result of the stronger steel picture but also because of China’s decision earlier this year to limit the number of days domestic mines may operate.
The spot price of premium hard-coking coal in Australia, the world’s largest exporter of the fuel used in steel making, last week rose above $300 a tonne for the first time in five years.
Coking-coal futures on China’s Dalian exchange ended at 1,563 yuan ($229.85) a tonne on November 11, almost triple the start of the year.
The question now for commodity investors is whether the price gains this year have reached the point of no longer being justified by both the stronger demand and limits to supply.
Certainly with the price graphs for many commodities showing steep accelerations in the past few months, it raises the risk of a sharp reversal should market participants decide it is time to take profits, or the flow of data and news becomes somewhat less bullish.
China’s commodity imports were on the soft side in October, but this was largely brushed off as some seasonal weakness combined with the impact of the extended national day holidays early in the month.
Unwrought copper imports fell 14.7% in October from September, while those of iron ore slid 13.1% and coal dropped 11.7%. For the current rallies in commodity prices to sustain, it will need to be the case that the October dip in China’s commodity imports was just a blip.
This may be the case, with China seemingly determined to stick to its plans to cut excess capacity in the coal and steel sectors.
But it’s also clear that the authorities in Beijing are becoming concerned about runaway prices, particularly in both thermal and coking coal, and it is likely they will take increasing steps to lower them.
China recently ordered two major coal miners to lower prices in contracts with utilities, and domestic commodity exchanges have also been making it more expensive to trade, in a bid to drive so-called hot money from the market.
These measures have met some success in the past, the most recent example being curtailing a spike in iron ore earlier this year, although it must be pointed out that the price continued its upward trajectory, just in a less volatile fashion.
Overall, the balance of risks seems to be shifting more to a correction in industrial and bulk commodity prices, especially if China’s housing sector does start to moderate in 2017, and Trump’s infrastructure plans stumble but his protectionist trade policies don’t.