The Metals & Mining industry encompasses the extraction
(mining) as well as primary and secondary processing of metals and
minerals. These include aluminum and gold, other precious metals,
coal and steel. The industry is oligarchic in structure, with a few
producers accounting for a lion’s share of the output.
Iron and steel commands the largest segment of the global metals
market. They comprise more than half the metals industry in terms
of volume, followed by aluminum. The iron and steel industry
includes metal ore exploration and mining services, as well as iron
and steel foundries for smelting, rolling, forging, spinning,
recycling, stamping, polishing and plating of iron and steel
products. These include pipe and tube, wire and spring, rolls and
bars.
The precious metal and minerals industry consists of companies
engaged in the extraction and primary processing of gold, silver,
platinum, diamond, semi-precious stones, uranium and other rare
minerals and ores, along with the cultivation of pearls.
The global metal industry is highly cyclical and competitive.
Historically it has suffered from overcapacity (excess of supply
over demand). Metal producers are subject to cyclical fluctuations
in prices, general economic conditions and end-user markets. The
recent focus on the weakening outlook for global economic growth
has emerged as a major headwind for the global metal industry.
These near-term challenges aside, the group’s long-term dynamics
appear attractive.
A Detailed Look into Metals: Performance and
Outlook
Steel
As the major stakeholder (about 60%) of the metals market, the
steel industry was severely bruised by the global economic
downturn. Recovery, however, has been swift and forceful. According
to the World Steel Association, world crude steel production
reached a record level of 1,527 million tons (Mt) in 2011,
outperforming the 2010 record of 1,414 Mt, a 6.8% jump. This trend
has largely remained in place this year, though the emerging growth
worries will likely force some producers to take production
off-line.
China remains the largest steel-producing country, accounting for
roughly half of all global production at 46%, though its first
quarter 2012 volumes were barely up from the year-earlier level.
Japan, the second largest producer, posted a 4.1% decline.
The U.S. is in the third position, though its first quarter
production was 9.2% higher year over year. North American crude
steel production was up 7.7% in the first quarter, Asia was flat,
while Europe dipped 3.8%. In April 2012, world crude steel
production was down 3% from March, but up 1% from the April 2011
levels.
As we look into the first quarter results of the steel companies in
our coverage -- ArcelorMittal (MT), United
States Steel Corp. (X), Nucor Corporation
(NUE) and AK Steel Holding Corporation (AKS) -- we
find revenues benefitted from higher average steel prices. On the
volume front, ArcelorMittal and U.S. Steel saw a rise, while Nucor
and AK Steel suffered declines. Revenues increased at all the
companies except AK Steel. However, we note margin compression
across the board.
The automotive and construction markets have historically been the
largest consumers of steel. The automotive sector has shown
significant promise. In February 2012, total motor vehicle sales
reached their highest level since February 2008 at 15.1 million
SAAR (Seasonally Adjusted Annual Rate). For the first five months
of 2012, sales have averaged 14.4 million SAAR. Many auto
manufacturers made their best Memorial Day sales in over five
years. Motor vehicle sales were at 13.8 million in May, declining
from 14.4 million in April. Even though sales slid to the lowest
level so far in 2012, it is still better than consensus
expectations from the beginning of the year. On a year-over-year
basis, sales increased 26% in May.
The construction sector has been a drag on steel companies’
earnings. According to the American Institute of Architects, the
architecture billings index, an economic indicator that provides an
approximately nine- to twelve-month glimpse into the future of
non-residential construction spending activity, was 48.4 in April
2012. This followed a 50.4 reading in March, and of significance
since any score above 50 indicates an increase in billings. After
remaining at a level over 50 for five consecutive months, the index
has slipped into negative territory. Given the continued
uncertainty in the market, we do not expect any immediate recovery
in this sector.
The residential construction market has improved in recent months,
but the pace of improvement has been very slow and halting. This
means that this end market is unlikely to emerge as a key growth
driver for steel producers any time soon.
The World Steel Association projects global steel usage to rise
3.6% in 2012, a sharp deceleration from 2011’s 5.6% growth. This
reflects continuing slowdown of Chinese steel demand and Eurozone
debt crisis uncertainties. Questions about the U.S. growth outlook
make another cloud on the horizon.
China’s steel use in 2012 is estimated to grow 4% to 648.8 million
tons, following 6.2% growth in 2011. The slackening is due to the
economy entering a less steel-intensive growth phase as a result of
the government’s efforts to rebalance the economy and restrain the
real estate bubble. After a weak performance in 2011, India is
expected to grow by 6.9% to reach 72.5 Mt.
Apparent steel use in the U.S. is forecast to grow 5.7% in 2012. In
Central and South America, apparent steel use will attain a
historical high of 49.1 Mt, up 6.8% in 2012. Brazil is expected to
return to positive growth. Japan’s steel use is expected to drop
0.6% to 63.7 Mt in 2012 due to the impact of exchange rate
appreciation, despite the reconstruction efforts following the
March 2011 earthquake.
Steel usage in the European Union is expected to decline by 1.2% to
150.9 Mt in 2012 as sovereign debt problems persist. Given
the scenario in Europe, ArcelorMittal, the world's largest
steelmaker by volume and Europe's largest steelmaker, had earlier
decided to idle five of its 25 blast furnaces in Europe and
announced the extended idling of a number of facilities. The
company will continue to align its steel growth projects to match
demand situations.
Furthermore, the company’s focus on its mining business given its
more attractive returns has resulted in some planned steel
investments being deferred. To reduce its exposure to Europe, the
company recently sold its 24% share in European energy company
Enovos International.
To sum it up, despite relatively over-supplied conditions and
softening prices, the outlook for the sector is not that bad.
Prices could potentially stabilize, as visibility on the economic
growth questions of countries like China, India and South Korea
improves. The outlook for key end-markets in the automotive,
transportation, energy, industrial and agricultural sectors remains
favorable. However, the European debt crisis and its potential
global impact remain an overhang on the industry.
Gold
As per the World Gold Council, last year was a milestone year for
gold as global demand for the yellow metal grew 0.4% to 4,067.1
tons at an estimated value of $205.5 billion -- the highest tonnage
level with a value exceeding $200 billion since 1997. The increase
was mainly propelled by the investment sector, particularly in
India, China and Europe.
In the first quarter of fiscal 2012, gold demand was at 1097.6
tons, a 5% year over year decline. Increase in investment demand
was offset by declines in demand for jewelry and in the technology
sectors, due to higher prices. Central banks continued to be
purchasers of gold, accounting for around 7% of total gold demand,
at 80.8 tons.
However, in absolute terms, gold demand in the quarter was valued
at $59.7 billion, a 16% jump compared with the first quarter of
fiscal 2011. Average gold price in the first quarter stood at
$1,690.57. This was 22% above the prior fiscal’s quarter. In value
terms, all the sectors of gold demand posted growth, barring
physical bars and the official sector.
Investment demand posted robust growth in the quarter, particularly
led by ETFs and similar products. Gold demand in the technology
sector was at 107.7 tons, a 7% decline year-over-year due to higher
gold prices, weak consumer demand, higher inventories and the
uncertainty in Europe.
Jewelry demand dipped 6% to 519.8 tons due to higher price levels.
The 22% higher quarterly average price suggests that jewelry demand
is not directly related to price. Value of jewelry demand grew 14%
to a record $28.3 billion. China, Russia and Egypt recorded growth,
while weakness was witnessed in India, a number of Middle Eastern
markets and in Europe.
Jewelry demand in India, otherwise a major consumer of gold, was
down 19% and investment demand declined 46%. This was mainly due to
a sharp decline in the rupee, which led to higher local prices,
rise in import taxes on gold and imposition of excise duty on
jewelry in that country. However the excise duty was later
withdrawn by the government. Gold in India is currently at an
all-time high in rupee terms.
In China, demand for gold increased 10% to a record high of 255.5
tons. China remained the largest jewelry market for the third
consecutive quarter. Boosted by the local New Year holiday earlier
this year, jewelry demand was at 156.6 tons, up 8% year over year,
and accounting for 30% of global jewelry demand. Even though the
pace of growth is slowing, gold demand remains high due to rising
income levels, urbanization, economic growth and inflation.
Mine production increased to 673.8 tons, up 3% year over year. The
additional supply came from new projects coming on stream and the
continued ramping up of projects that entered into production two
to three years ago across the globe. Recycling activity increased
11% to 391.5 tons, bringing the total supply to 1,070.3 tons, up 5%
year over year.
Gold prices in 2011 ranged from a low of $1,310 per ounce to a high
of $1,895 per ounce, with an average gold price of $1,572 per ounce
in 2011. The record gold price of $1,895 per ounce was attained in
September, 33% higher than the 2010 peak of $1,421 per ounce
recorded in November 2010. So far in 2012, gold has ranged from
$1,540 per ounce to $1,781 per ounce, with an average of $1,657 per
ounce. Continuing concerns about Europe's financial problems and
China’s reduced economic growth forecast led to the climb. Given
the performance in 2011, and thus far in 2012, we expect this year
to be stellar for gold.
It also remains a coveted asset, given its long-term supply and
demand dynamics and influenced by macro-economic factors. Concerns
regarding economic growth in developed countries have made gold an
attractive and safe investment option. The European sovereign debt
crisis promoted gold as a currency hedge for European investors.
Lingering economic concerns, higher inflation expectations in many
countries, including India and China, the relentless Euro-zone debt
crisis and a still-high American unemployment rate will continue to
support gold prices this year, as well.
The value and wealth preservation attributes of gold continue to
attract investors and consumers, and is considered a safe-haven
investment. Jewelry and investment demand in non-western markets
continue to rebound, while industrial demand has started to recover
in response to an improvement in economic conditions. India, which
alone consumes nearly 45%−50% of the world’s gold, should drive
demand for gold along with China. China will likely emerge as the
largest gold market in the world in 2012 and Chinese gold demand is
expected to double in 10 years.
Analyzing the results of the gold companies in our coverage --
Barrick Gold Corporation (ABX), Kinross
Gold Corporation (KGC), Goldcorp Inc.
(GG) and Agnico-Eagle Mines Ltd. (AEM) -- we find
that first-quarter profits were driven by higher average realized
gold prices. As prices for gold rise further, gold giants such as
these will benefit. On the other hand, gold producers like
Newmont Mining Corp. (NEM) and Kinross are slated
to suffer from lower ore grades that subdue production levels,
increase mining costs and negate the benefits of rising gold
prices.
Ironically, rallying gold prices have not had the same effect on
the share prices of the gold companies. This is reflected in our
overall long-term Neutral view on the space. Investors prefer
alternative financial products that allow them to invest in gold,
rather than investment in gold companies per se. These companies
may have labor issues, escalating cost and other risks.
Aluminum
The aluminum industry is highly cyclical, with prices subject to
worldwide supply and demand.
In the first quarter of fiscal 2012, Alcoa, Inc.
(AA), the world leader in the production of primary aluminum,
reported better-than-expected results on the back of growth in the
aerospace and automobile sectors.
The company anticipates that global aluminum demand will go up by
7% this year. It also expects that burgeoning demand for aluminum
along with market-related production cutbacks will lead to a global
aluminum industry deficit of 600,000 metric tons in 2012.
Region-wise, in 2012, China and India are expected to lead with
double-digit growth. Russia and Brazil are projected to have 4% to
5% increases in aluminum consumption rates. Overall, Alcoa believes
that the long-term prospects for aluminum remain bright and
envisions that global demand for aluminum will double by 2020.
Alcoa’s positive outlook notwithstanding, prices have been under
pressure, prompting companies to cut back on production.
Rio Tinto (RIO) plans to sell its aluminium assets
and close its smelter in order to cut costs. Alcoa plans to close
or curtail 390,000 metric tons, or approximately 12% of its global
smelting capacity, in 2012. This will lower the company’s cost
position by 10 percentage points in smelting and 7 percentage
points in refining, by 2015 and improve its competitiveness.
This trend will continue until aluminum prices recover.
Energy prices and other input costs are expected to pose challenges
for the aluminum industry, though oil prices have been trending
down lately. In addition to the curtailments, the company will step
up action to reduce the escalating cost of raw materials.
In the medium to long term, aluminum consumption is expected to
improve globally. The revival is palpable in the automotive and
packaging industries, one of the key consumer markets.
The automobile market is also becoming increasingly
aluminum-intensive, benefiting from the recyclability and its
light-weight properties. The global push to improve fuel efficiency
in vehicles is expected to more than double demand for aluminum in
the auto industry by 2025.
Further, the surge in copper prices this year is triggering a
switch among manufacturers to aluminum. Automobiles, air
conditioners and industrial components manufacturers are now
shifting their focus on the more economical metal. In response to
the spurt in automotive demand, Alcoa has invested $300 million in
expansion projects at its Davenport, Iowa rolled products
plant.
We expect aluminum demand to increase over the next three years,
outstripping supply growth. As a result, the aluminum market is
likely to witness deficits for a prolonged period. This provides a
backdrop supportive of high alumina and aluminum prices. China and
India are undergoing rapid industrialization.
Both these factors are positive for underlying aluminum demand.
Leading aluminum producers such as Alcoa and Aluminum
Corporation of China Limited, or Chalco
(ACH) should benefit from the improving demand outlook.
Copper
Copper is a major industrial metal, with its price strongly
correlated with the outlook for economic growth. The metal’s strong
cyclical leverage accounts for its nickname “Dr. Copper.”
The metal’s popularity in industrial usage reflects its high
ductility, malleability and thermal and electrical conductivity,
and its resistance to corrosion. In terms of consumption, copper
ranks third after iron and aluminum. Construction is the single
largest market for copper, followed by electronics and electronic
products, transportation, industrial machinery, and consumer and
general products.
Copper prices were at high levels from 2006 through most of 2008 as
limited supplies, growing demand from China and other emerging
economies resulted in high copper prices and low level of
inventories. In December 2008 copper prices dipped to a low of
$1.26 per pound, due to reduced consumption, turbulence in the U.S.
financial markets and concerns about the global economy.
However, copper prices have since improved, thanks to strong demand
from emerging markets and limited supply. During 2011, London Metal
Exchange (LME) spot-copper prices ranged from $3.08 per pound to a
record high of $4.60 per pound, with an average of $4.00 per pound.
In the first quarter of 2012, LME spot copper prices ranged from
$3.39 per pound to $3.93 per pound, averaging $3.77. This rising
trend has benefited copper producers like Freeport-McMoRan
Copper & Gold Inc. (FCX) and Southern Copper
Corp. (SCCO).
Notwithstanding the volatility in prices, we have a long-term
bullish stance on copper prices. Prices will be influenced by
demand from China, economic activity in the U.S. and other
industrialized countries, the timing of new supplies of copper and
production levels of mines and copper smelters.
Despite near-term challenges, the outlook for the copper remains
positive, supported by widespread use of copper, limited supplies
from existing mines and the absence of significant new development
projects. Companies that have a high leverage to copper prices will
benefit immensely from the potential demand for the metal in the
developing markets.
Overall Industry Outlook
Growth in the emerging markets, particularly China and India, was a
major driver of metals demand over the last few years. In the
developed world, Europe’s problems have likely pushed it into a
recession already, which will have residual effects elsewhere in
the world. The U.S. economy, which looked very promising earlier
this year, no longer offers a robust picture.
This synchronized global economic slowdown is the biggest headwind
for the metals space overall at present. That said, the long-term
picture remains a lot more promising as the emerging market
economies are expected to get back in shape with the help of
expected fiscal and monetary stimuli.
The U.S. Federal Reserve also appears to be actively engaged in
sustaining the economy’s momentum. But the Fed’s ability to make a
meaningful change may be limited in the absence of fiscal measures
that are unlikely to come through in this election year.
ALCOA INC (AA): Free Stock Analysis Report
BARRICK GOLD CP (ABX): Free Stock Analysis Report
ALUMINUM CP-ADR (ACH): Free Stock Analysis Report
AGNICO EAGLE (AEM): Free Stock Analysis Report
AK STEEL HLDG (AKS): Free Stock Analysis Report
FREEPT MC COP-B (FCX): Free Stock Analysis Report
GOLDCORP INC (GG): Free Stock Analysis Report
KINROSS GOLD (KGC): Free Stock Analysis Report
ARCELOR MITTAL (MT): Free Stock Analysis Report
NEWMONT MINING (NEM): Free Stock Analysis Report
NUCOR CORP (NUE): Free Stock Analysis Report
SOUTHERN COPPER (SCCO): Free Stock Analysis Report
UTD STATES STL (X): Free Stock Analysis Report
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