Industrial metals are used in a wide variety of applications, including numerous construction and manufacturing businesses. The rise in global population, growth in the Chinese economy and increasing requirements from the developed countries had created an unprecedented demand for minerals and metals.
However, over the last couple of months, a stronger greenback, falling oil prices and a slowdown in the Chinese economy have emerged as major headwinds for the global metal industry.
Iron – Prices Going Downhill
Iron ore prices have gone down since the beginning of 2014, losing 50% of its value -- the biggest annual decline in at least five years. Prices have been impacted by excessive inventory along with abundant supply and slow economic growth in China. Global steel production, as per the latest data from the World Steel Association, rose by a meager 1.8% in the first nine months of 2014, mainly dragged down by a slowdown in China's output that affected demand for iron ore, its main ingredient.
The low prices have squeezed margins of iron producers leading to the cancellation or suspension of mining projects. Australia's largest iron ore producer, Rio Tinto plc (RIO), announced in November that it was deferring an investment decision on its proposed Silvergrass mine in Australia. Cliffs Natural Resources Inc. (NYSE:CLF) has ceased production at Bloom Lake iron ore mine in Canada, thus exiting a higher cost operation.
Aluminum – Prices Recovered in 2014
In 2014, the global aluminum industry went through a substantial change to correct the supply-demand imbalance that had affected prices through 2013. Major aluminum producers like Rusal (PARIS:RUSAL) and Alcoa Inc. (AA) effectively cut their aluminum production. This tightening of aluminum supply helped lift aluminum prices from the four and a half year low of $1,675 per ton in February. Prices of the base metal subsequently went on an uptrend.
However, in the past few months, falling oil prices and weak industrial data from China have led to a fall in aluminum prices. Aluminum is an energy intensive industry, with energy costs accounting for nearly 30% of the total cost of production. Falling oil prices tend to have a deflationary effect on aluminum. Nevertheless, aluminum prices ended the year with a 13% gain, higher than January levels.
Aluminum companies have on the whole benefited from rising prices in 2014. Russian producer Rusal reported a turnaround in profits in the third quarter. The U.S. aluminum giant Alcoa also reported better-than-expected results with adjusted earnings skyrocketing 182% year over year in the third quarter.
Copper Prices – The Worst Hit
During 2014, copper prices declined given the slowdown in China amid an oversupply of the metal. Copper prices further dipped to a four-year low in November end to $2.861 per pound on falling oil prices. Overall, copper fared the worst among all industrial metals, with prices declining 11% through the year.
Industry Ranking & Outlook – Positive on Aluminum and Copper, Negative on Iron
Within the Zacks Industry classification, the iron mining and non-ferrous mining industries (aluminum, copper, etc.) are broadly grouped under the Basic Materials sector (one of 16 Zacks sectors). We rank all of the 260 industries in the 16 Zacks sectors based on the earnings outlook for the constituent companies in each industry. This ranking is available in the Zacks Industry Rank page.
The way to align the ranking and outlook from the complete list of Zacks Industry Rank for the 260+ companies is that the outlook for the top one-third of the list (Zacks Industry Rank of #87 and lower) is positive, the middle one-third (Zacks Industry Rank between #88 and #173) is neutral while the outlook for the bottom one-third (Zacks Industry Rank #231 and higher) is negative.
The non-ferrous mining industry features in the middle tier with a Zacks Rank of #69 indicating that the outlook is positive. The iron mining industry, however, is in the bottom tier with a Zacks Industry Rank #213, indicating a negative outlook.
Sector Level Earnings Trend
Sector Q3 Earnings Scorecard – Growth Picks Up
In the Basic Materials sector, earnings jumped 17.6% on the back of a 2.6% increase in revenues. It was a marked improvement from the second quarter wherein sector earnings had increased 8.6% and from the 3.8% decline in the first quarter of 2014. For further detail about earnings for this sector and others, please read our 'Earnings Trends' report.
Q4 & Beyond – Momentum to Continue
The sector’s earnings are expected to grow 13.7% in the fourth quarter, to log overall growth of 8.3% for 2014. For 2015, earnings for the sector are expected to grow at a rate of 5.4% in the first quarter, decline 2.2% in the second but rise 10.9% in the third. Despite the choppiness, the sector’s earnings are projected to grow 14.3% in 2015.
What’s in Store?
Iron: The threat of oversupply looms large over the iron ore industry as major iron ore producers, Rio Tinto, BHP Billiton Ltd. (BHP), Vale S.A. (NYSE:VALE) and Fortescue Metals Group Ltd. (ASX:FMG) continue to ramp up production. Australia, the world’s top exporter, cut its iron ore price estimate for next year by 33% as the surging output will outpace Chinese demand growth, leading to a supply glut.
Per the World Steel Association, global apparent steel use is expected to grow 2% in 2015 to reach 1,594 Mt. The slowdown in China’s steel demand will continue to be a drag on steel demand. China is currently the largest producer of steel and consequently the largest consumer of iron ore, accounting for around 60% of the global seaborne market. Thus, the mismatch between the excess supply and demand for iron ore will keep iron ore prices subdued in the near term.
Aluminum: Aluminum consumption is expected to improve on a global basis spurred by the automotive and packaging industries, its key consumer markets. The airline industry is also expected to boost demand for the metal. Following China, which accounts for over 40% of the global aluminum consumption, India appears promising given its current low level of aluminum consumption and high urban population growth.
With demand remaining strong and the industry pulling in the reins on supply, the aluminum market is likely to witness deficits for a prolonged period. This will support high aluminum prices going forward.
Copper: The copper market seems to be shifting into supply surplus. In the near term, prices will be influenced by economic activity in the U.S. and other industrialized countries. Revival in demand from China will also act as a catalyst.
Notwithstanding the current volatility in prices, we have a long-term bullish stance on copper, supported by its widespread use in transportation, manufacturing and construction, limited supplies from existing mines and the absence of new significant development projects.
To Sum Up
A revival in the Chinese economy on the back of policy support and correction of the supply-demand imbalance will be instrumental in driving growth in the industry. Projected earnings growth for 2015 instills optimism in the industry.