August 24, 2015 1:19 pm

Explainer: Why commodities have crashed

By Henry Sanderson, Anjli Raval and David Sheppard in London

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Bloomberg

A broader collapse of commodity prices has knocked the wind out of developed commodity countries

Commodity prices have fallen to their lowest level since the financial crisis and by at least one
measure to the lowest this century. While the natural resources sector has been caught up in
fears about Chinas growth slowdown, each commodity still has its own market dynamics. Here
is a quick guide to what is happening.
OIL
Growing signs that the oil glut will persist has unnerved traders and investors. But it is China
that is spreading real fear. The country has been a bigger contributor to oil demand growth than
any other in the past decade, so any slowdown in the Chinese economy may spell bad news for
crude consumption.
The US shale industry has also been more resilient than expected, as has output from other
non-Opec producers. Meanwhile, members of the Opec producers cartel such as Saudi Arabia
and Iraq are pumping at near record rates.

Heading into September, the industry is keeping an

eye on refinery maintenance as seasonal repair and
upgrading work tends to lower oil demand in the
autumn months.
Analysts at BMI Research said a sharp rise in hedge
fund bets against the oil price had added
significant downside pressure on both Brent and
WTI in recent weeks. The oil rout, which began in
June 2014, has further to run, they said.
Although demand had picked up since the start of
the year, it has so far failed to soak up the
additional supplies. Analysts estimate the overhang
in the second half of this year to be as high as 2m barrels a day.
With the macroeconomic picture deteriorating in recent weeks, the market cannot rely on
improvements in demand alone to rebalance, said analysts at Energy Aspects, a London-based
consultancy. A meaningful supply response from every producer is needed for prices to stage a
rally, they added.
COPPER
Demand for copper in China has grown by about 2-3 per cent this year, weaker than many
analysts originally forecast. Anticipation of that demand shift saw Chinese hedge funds push the
price of the metal down rapidly in January. This month the metal, used in everything from
wiring to power cables, hit six-year lows.
While analysts say physical trade in China has been quite active, with imports of refined copper
rising 2 per cent in July, overall demand still remains relatively weak.
Copper producer and trader Glencore said last
week that copper inventories were at historical lows
and argued hedge funds had pushed the market
lower. You normally get high prices with the low
inventory, said Ivan Glasenberg, chief executive.
But many traders point to a slowdown in Chinese
infrastructure investment, especially in the power
sector one of the biggest consumers of copper.
The price of the red metal is trading below the cost
of production, with Macquarie estimating that
about 17 per cent of mines are losing money at
current prices. That could lead mines to cut output,

which may eventually boost prices. Longer term, analysts say there are few new large mines to
replace older output. Chiles Codelco, the worlds largest producer, is investing billions just to
maintain current output.
ALUMINIUM
Aluminium prices have been hit by a wall of Chinese exports this year and are trading at the
lowest level in six years.
But while the incentive for Chinese aluminium companies to export the metal has arguably
fallen, the market is still oversupplied because no producer is willing to cut output.
Global aluminium supply rose more than 10.3 per cent in the first
half of the year, according to the Aluminium Institute. In China,
while there have been closures, many smelters have increased their
capacity, according to consultancy CRU, with production in western
Xinjiang province up 36.5 per cent in July.
Analysts expect growing Chinese production to force western
producers to close, as the country moves from being a customer to
a competitor.
We feel that the road ahead for aluminium is likely to be very
painful given the huge excess capacity that has been (and is still
being) built in China, Investec said. The new Chinese smelters are
state of the art and have very low costs of production. We therefore feel this will result in the
large-scale closure of western capacity over the next few years.
IRON ORE
Iron ore prices have fared better than base metals over the past two months, rallying about 25
per cent since hitting a record low in early July.
The recovery to $56 a tonne came about because of
lower exports from Brazil and Australia. But prices
are still down 22 per cent this year according to the
Steel Index, as supply continues to outweigh
demand.
Iron ore futures traded in China fell 4 per cent on
Monday, the maximum allowed in a single session
under exchange rules.
While higher-cost mines are feeling the pressure,
the worlds largest miners show few signs of cutting

back. Miner Rio Tinto plans to deliver 20 per cent

more iron ore to China this year than last, it said
last week.
GOLD
Gold has benefited this month on rising
expectations that the US Federal Reserve will hold
off on raising interest rates next month. Boosted
further by investors looking for a so-called haven
for their cash amid the global equity market rout,
gold inched up 6 per cent this month.
The
precious metal faced some pressure on Monday,
however, as some investors cashed in their gold
holdings to help meet margin calls in other market.
Gold is holding its own well despite the heavy
losses suffered by commodities across the board,
analysts at Commerzbank said.
Nonetheless, gold has not been able to gain any
further in spite of the sharp rise in risk aversion
and a noticeably weaker US dollar.
The buyers have mainly been in the west and the
US, and not in the traditional centres of demand in India and China, analysts say. That means
prices are likely to be heavily dependent on the US dollar and the signs coming from the Fed.
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