From Macquarie
Metallurgical coal: USD price lower, producer currency prices higher
- Metallurgical coal markets continue to rebalance faster than bulk commodity peers, helped by the underlying structure of the supply side. With the US being the second largest seaborne supplier, and already at the top end of the cost curve, it was inevitable that supply from this region would be under pressure. Recent trade data has confirmed this, and when coupled with stagnation at Australian operations means global seaborne supply will almost certainly be down YoY.
- However, with global steel consumption weak a lack of supply growth is aligned with a lack of demand growth. Moreover, key import regions look to be well stocked – ex-China met coal imports rose 9% YoY in 2014, compared with equivalent pig iron output growth of 4.1%. Moreover, with ex-China pig iron output now trending negative YoY, the demand side is becoming more of a drag.
- This leads to a situation where the USD price is still trending lower – the current hard coking coal spot price is $102/t, the lowest since February 2007. We now forecast an average hard coking coal contract price for 2015 of $114/t FOB Australia, down 3.8% from our previous forecast. We have also lowered our 2016 forecast to $125/t FOB Australia, down from $130/t, with equivalent falls for PCI and semi-soft material.
- However, unlike iron ore and thermal coal, there isn’t the same aggressive need to cut immediate supply. As a result, the AUD price of coking coal has been rising – our $112/t FOB Australia estimate for Q2 2015 equates to ~A$147/t, compared with A$143/t for Q1 for the current quarter.
- Reports from IHS suggest BHP has already settled at $109.5/t for premium hard coking coal with Nippon Steel, though this is as yet unconfirmed. Were this to gain traction as the benchmark, this would mean only a small QoQ gain in A$ terms, being US$2.5/t below our expectation.
Thermal coal: Producers win the battle, but the war is just starting
- For thermal coal, we have raised our Japanese Fiscal Year (JFY) contract expectation to $70/t FOB Australia from $64/t previously. This is not reflecting any improvement in underlying market conditions, but rather the successful strategic efforts of producers to play into the insecurities of Japanese buyers through potential for production cuts. We forecast a full year FOB Newcastle spot price of $60.25/t, reflecting the expected drop off in price once the mating season is over.
- To put in context how successful the producers have been, based on current spot FX in Australian dollar terms this year’s contract will be marginally up YoY, and the highest since FY 2012. This comes at a time when production costs have fallen markedly over the past 8 months. Logically, Japanese utilities will be more inclined to settle a higher price (and potentially larger volume) if they view supply security and quality to be at risk, and Glencore’s recent announcement of 15mt of supply cuts has brought this into focus. We remain sceptical that the full 15mt outlined will be cut for a sustained period; though if it were, it would likely result in a YoY decline in 2015 global seaborne exports, playing into the concerns of still brand-sensitive Japanese consumers.
- Despite this, current market fundamentals remain very weak, with India the only bright spot on the demand-side. In particular, we still feel the wider market is underestimating how much lower YoY Chinese imports could be in 2015. January imports of thermal + anthracite fell 61%YoY. Based on this, the thermal coal market’s buyer of last resort is disappearing, following a series of protectionist measures implemented over the past 6 months (with more potentially to come). In our view, these measures can remain in place until the Chinese coal industry’s corporate debt problem is brought back under control. Even with this, the current market oversupply has seen Chinese price start to trend back below RMB 485/t (5,500kcal) over the past week.
- Historically, we have assumed that the thermal coal market surplus clears through Chinese imports, by displacing high cost domestic production. On this methodology, we previously forecast that Chinese imports in 2015 would fall by a similar magnitude to their 2014 fall of ~23mt (i.e. ex-China demand growth outpaces global supply growth). Assuming that the full magnitude of the announced producer cuts are implemented and using this same methodology, this implies Chinese imports could drop by a larger 38mt YoY in 2015.
- But as the market of last resort disappears, this method of supply/demand modelling is increasingly under question. Certainly China’s January import of 127mtpa indicates that full-year 2015 imports could be quite a bit lower than that implied by our model. In this scenario, the question is where does the market surplus end up? The general conclusion is that there is no other importer capable of absorbing such a large volume of material and that prices should fall to low enough levels for supply cuts to occur.
- The net result is that the market needs to lose tonnes into Q2, and with the thermal coal cost curve being conspicuously flat, the spot price will have to work hard to make this happen. As a result, we expect FOB Newcastle, FOB Richards Bay and delivered Europe spot prices to trade back below $60/t over the coming months. As a result, producers who are not exposed to the certainty of the Japanese contract will be under increasing margin pressure through the remainder of 2015.
- We have also raised our 2016 JFY contract expectation to $70/t FOB Newcastle from $66/t previously to reflect the Japanese inertia to settling lower prices.
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