zinc to average us$2,450/tonne in 2011

Three-month zinc has broken out of its broad downtrend, and rallied significantly to trade at US$2,569/tonne. The multi-month rally since the June low of US$1,600/tonne has further to run in our view, and a close around the current level would presage further gains towards the January high of US$2,736/tonne. We believe that zinc prices will benefit from the broad based rally in base metals, as well as idiosyncratic supply dynamics, and these factors will likely see the metal trade within the US$2,200-2,800/tonne range over coming months.

Core View

We have revised up our 2011 average price forecasts and have extended our forecasts out to 2012. For 2011, we see three-month zinc averaging US$2,450/tonne, up from our previous estimate of US$2,200/tonne. Looking ahead, we expect prices to remain well supported going forward, and forecast an average price of US$2,550/tonne in 2012. Three key dynamics will remain supportive over the coming quarters. First, the US Fed's decision to purchase an additional US$600bn in treasuries over the coming months in a ramping up of its quantitative easing strategy will provide ample liquidity to markets, and will see risky assets head higher over the medium term. Second, the Fed's actions will also put downside pressure on the US dollar, which has an inverse relationship with commodity prices. Third, from a fundamental perspective, strong demand in emerging markets, combined with limits to output increases as China scales back some production, will see the zinc surplus narrow. Our forecasts are slightly higher than consensus estimates collected in November by Bloomberg for 2011, which showed an average price forecast of US$2,319/tonne. That said, we are lower than consensus estimates for 2012, which forecast an average price of US$2,619/tonne. The futures curve has shifted substantially higher in recent months and remains in contango at the very short end with the December 2011 and 2012 contracts priced at US$2,525/tonne and US$2,485/tonne, respectively.

Zinc Surplus To Narrow

Although we forecast a surplus in 2010 and 2011, recent data shows that the market has been tightening, and this suggests that the zinc market should be well supported in coming months. We anticipate a surplus of 252,000 tonnes in 2010, which will narrow to 77,000 tonnes in 2011. While the nominal surplus will rise, the stocks-to-use ratio will remain largely unchanged over the two year period, which suggest some tightening ahead. Moreover, recent data from the International Lead & Zinc Study Group (ILZSG) show that the Zinc market has plunged into deficit in recent months, although the inventory accumulated at the start of the year is large enough to offset the recent shortfalls. Indeed, the ILZSG reported a surplus of 166,000 tonnes over the first eight months of 2010 and an inventory build of 181,000 tonnes over the same period. These figures are also confirmed by the London Metal Exchange where zinc inventories have risen by approximately 144,000 tonnes.


The supply of global refined zinc expanded quickly in the first three quarters of the year and we forecast production to rise by 7.8% y-o-y in 2010. However, supply growth will slow to approximately 5% in 2011 as base effects wear off and production increases are harder to come by. Indeed, a significant proportion of the growth in zinc production is due to strong growth in China, but recent dynamics suggest that output could slow slightly going forward. Cuts to the output of lead and zinc (and other metals) in China in recent months - on the back of energy saving measures enforced by the government - have been exacerbated by the temporary closing down of China's Shenzhen Zhongjin Lingnan Nonfemet in Guangdong province. The smelter was forced to halt operations on October 21 in order to comply with a pollution investigation. Zhongjin's closed smelter accounts for about 5% of the country's refined zinc production. The combined effects of the smelter closure and power cuts could have a more pronounced impact on China's output in the coming months. This is especially so as both the closure and power cuts are expected to last until the end of the year. Indeed, local officials have estimated that more than 300,000 tonnes of annual zinc capacity - about 5% of the country's total - was closed in October alone. That said, in an effort to cap domestic prices, China has started to sell zinc ingots from official reserves in an effort to counter balance the recent decline in output.

On the demand side, we expect ample liquidity from QE2 to flow into emerging markets, which will continue to fuel the cyclical recovery in base metals demand. We forecast global zinc demand to rise by 8.2% in 2010, which is a slight upward revision from our previous estimates of 7.6%. A substantial recovery in demand has come from Europe and Asia, namely, Germany, Italy, Japan and South Korea, but this is largely on the back of base effects from 2009, when demand nosedived. Moreover, Chinese demand has held up well. Although imports of refined zinc are down substantially on a year-on-year basis in recent months, this was largely due to base effects, which saw imports rise in 2009 as China engaged in stockpiling activities. Indeed, compared to 2008 levels, imports remain strong. Furthermore, there has been a strong pull from galvanised steel output, which has continued to rise in recent months. Galvanised steel output in China is up by an average of 55% y-o-y for the first nine months of the year, and we expect still-strong growth in coming months.

Risks To Outlook

We believe the risks are balanced. On the one hand, QE2 and potential for additional supply disruptions in China could lead to a tighter zinc market going forward. This would be price supportive, particularly in a weak US dollar and strong equity environment. However, we still anticipate a slowing of global and Chinese growth over the coming quarters, and any downside surprises to growth numbers could see commodities sell off quite significantly.