ICG Commodity Update – July 2023
The ICG Commodity Update is our monthly published comment on the energy, industrial metals and precious metals market.
Crude soared last month after OPEC and its allies cut supplies in a bid to lift prices. According to analysts, the visible tightness has convinced the market that announced cuts are not just empty rhetoric – market optimism that we are nearing the end of a rate tightening cycle also helped oil prices gain. Widely-watched metrics are also strengthening, with the gap between the US benchmark’s two nearest contracts at the widest backwardation since November. Berkshire Hathaway is using this year’s dip in commodity prices to load up on some of Buffett’s favorite oil and gas investments, showing that the famous investor sees opportunity in a sector long disfavored due to its volatility and effects on the climate. Berkshire agreed to spend $3.3 billion to boost its stake in an LNG export terminal. This year it has also increased its holding in Occidental Petroleum by 15% and bought more stock in five Japanese commodity traders. Meanwhile, Berkshire’s energy division is lobbying hard for a bill that would see Texas spend at least $10 billion on natural gas-fired power plants to back up its grid. TotalEnergies on the other hand agreed to buy the remaining shares in French clean-power developer Total Eren for $1.66bn from Eren Groupe SA and a group of financial investors, boosting the oil major’s foray into renewable energy. The CEO has pledged to spend $5 billion this year on low-carbon energies, almost a third of total capital expenditure, as the company reduces its exposure to petroleum with ongoing sales of Canadian oil-sands assets and some of its European service stations. By buying out the 71% in Total Eren it doesn’t already own, TotalEnergies gains full control of a firm that has 3.5GW of operating solar, wind and hydropower assets, with a project pipeline of more than 10GW. The world’s thirst for energy, both fossil fuels and renewables, is insatiable, even as the climate crisis accelerates. Both temperatures and oil demand are hitting record highs this year and are poised to keep rising through the rest of this decade. Environmental concerns may have prompted some investors to shun energy, but they may also have left the door open for others to profit. Energy trades at the lowest price-to-earnings valuation of any sector in the S&P 500 Index, according to data compiled by Bloomberg. But it also generates the most cash flow per share.
In July, metals rose as China stepped up relief measures for property developers, although there was skepticism on whether they were enough to support a sustained rally. Financial regulators asked banks to ease loan terms for companies in the real estate sector, which accounts for about 1/3 of China’s steel demand and is important for the likes of copper, aluminum, and zinc. Several newspapers also ran reports suggesting more measures to support property were coming. According to analysts, China will likely release a flurry of policies soon to stabilize the economy, including more financing for infrastructure investment. Looking into the future, many industry participants highlight the potential for exponential growth in material demand from the energy transition, while overlaying meagre growth projections for mine supply. Currently, most metals markets seem to be balanced though. Recently, the IEA released a new report tracking a surge of investment into the mining sector. Investment in the industry has jumped 50% over the past two years, driven mainly by increases in lithium projects, which indicates that supply is catching up with an anticipated boom in demand through the end of the decade – however, while this might be true for lithium, the investment in mining hasn’t been evenly distributed and more traditional metals such as copper could still face shortages unless spending picks up. While some project developments happen at glacial speed toward commissioning, there are those that remain stalled in the exploration phase. The lack of success progressing from defined deposit through to operating mine is evidenced by the length of time most of these assets have sat on the shelf. Notably 69% and 67% of the projects (by tonnage) in the zinc and copper incentive price curves, respectively, were included within the project populations almost a decade ago. In fact, only 5% and 6% of zinc and copper projects, respectively, were discovered in the last 15 years. Given spot prices have comfortably surpassed the so-called project incentive price in the interim and swathes of these projects were not incentivized, this would suggest many of these projects are at least to some degree price inelastic. Looking at companies, Anglo American and Teck Resources became the latest mining behemoths to post steep falls in profit as China’s economic slowdown dampens earnings. Same for Rio Tinto, the No. 2 miner saw both its profit and payout fall by about a third.
Gold prices closed above $1’960/oz in July as cooling US inflation spurred hopes that interest rates have peaked. The metal largely traded above $1,950/oz in the 2nd half of July after surging earlier in the month on weaker-than-expected price-growth data. US economic data showed a gauge of employment costs rising less than forecasted, cementing bets that the Fed is finished tightening. Still traders are divided on the outcome of the central bank’s next meeting, with the market seeing a roughly 20% chance of another hike in September. According to the Financial Times, demand for gold by wealthy individuals and corporates kept prices elevated in 2Q despite a slowdown in central bank buying. Gold demand rose 7% to 1’255t in the 3 months to June on an annualised basis, according to a report by the World Gold Council. Despite record central bank buying in the first half of 2023, the pace of purchases slowed 35% year-on-year to 103t in the second quarter, as the Turkish central bank sold gold to satisfy domestic investment demand. The People’s Bank of China, at 103t, was the largest buyer in 1H of the year, extending its buying streak to 8 consecutive months. Looking at gold-backed ETFs, investors are about to return after shunning them for months, as consensus grows that US interest rates are approaching a peak, according to UBS. The bank expects inflows into ETFs will turn positive in the 4th quarter and forecasts gold will climb toward a record high in 2024 as the bank sees the Fed relieving markets with a 25bp rate cut in December. Sustained ETF buying is usually a key driver for bullion, yet the metal itself has avoided tracking the sharp downturn seen in the investment vehicles. As gold has performed as well as it has without the support from ETF buying, market participants imply that bullion has further to rally when those investors return to the market. On the company side, Barrick wants to expand and extend the life of its copper mine in Zambia and explore for more copper deposits in Congo as it seeks to grow its presence on the continent according to the CEO. Also, Hochschild said an environmental permit for its flagship mine was approved by the Peruvian government for an additional 20 years – good for the company and a good sign to the markets.