Zinc the metal for 2006

[Magdoran]

Point taken Mag, from my perspective, I have no knowledge to offer re zinc etc. other than what I read from these "analysts", and I would hope that since they are writing for "Basemetal's" site, they should hopefully carry some creedence (certainly more than I have) ...... My main reason for quoting their slightly "negative" slant was to give a balance re the continuing "over-positive" position of zinc often touted ....... I for one got caught in that euphoria just prior to the last "correction" and did my dough yet again It was actually a good wake up call, cause I've been doing well since (The old saying ..... Don't fall in love with a stock holds true) Anyway, that was my motivation for posting those reports.... to keep other "punters" balanced on their thinking, and not just accept that zinc, or any other metal, will continue up exponentially ............. Hope that makes the posts seem more appropriate...... All the best, Barney.

Hi barney,


Actually my comment was not specifically directed at your post. I think when I posted my general request for more rigour I hadn’t read your post…

I am genuinely interested in considering well thought out FA views on Zinc as I am a believer in factoring in fundamentals into my technical analysis. Sounds odd, but F/A can be helpful at times.

Hence my request for more in depth comments than some of the linked commentaries which I felt were fairly threadbare when you examined them (although I appreciate Rederob posting up the recent links and will follow them up in due course).

I also don’t have a problem with negatively slanted comments if they are well thought out, and marshal their thoughts with some rigour.

Anyway, good to hear you’re having a good run!


Regards,


Magdoran

 

[Magdoran]

True to form, when zinc went into backwardation at a price that made delivering into spot a more desirable position than holding inventory, LME (in recent weeks) has began to receive inflows of metal on a more regular basis than anytime in the past year. This trend will continue, as backwardation offers a good price premium to those chancing their arm with any "spare" metal.

...

"Destocking" zinc is all good and well if you believe you can turn the market around. Note that the Chinese have achieved this through the intervention of the SRB in the global copper market. And the Chinese are presently trying the same for zinc except they do not have a strategic reserve to rely on - just some short term capacity to deliver some excess metal to spot.

...

In relation to the USD, good point.
Don't know the answer.
If one were to rely on "trends", then the USD has further to fall.
So will the trend of continuing higher commodity prices match the ongoing inverse relationship?
And if not, at what price point of the USD will the relationship end?

Hello Rederob,


Thanks for taking the time to post your views, much appreciated. You have raised some interesting points in your recent posts today.

I know you are not a professional in this area, but you have demonstrated an informed grasp of the subject, hence I hope you don’t mind me asking you some probing questions to map out more fully your F/A view on Zinc, and related markets.


Backwardation:
I am curious about your views on backwardation.

The LME lists currently the Cash buyer price at 4464, the 3 month buyer rate at 4365, the 15 months buyer rate at 3722, and the 27 month buyer rate at 3215.

Why are the future rates so different to the current prices? I note that you consider the effect of this as an incentive to deliver Zinc now at the current prices. If the future contracts are currently at such levels, doesn’t this mean that the market believes the price is likely to fall, perhaps to around the price levels indicated in the 15 and 27 month time frames? Or am I missing something here?

Currency Impact:
Regarding your view on the USD, then I take it you expect the USD to continue to fall further below the current levels? What kind of magnitude are you expecting, and in what specific time frame?

Specifically, do you expect the Australian dollar to exceed 0.81 US? If so, what are your projections – are you expecting a move as far as US 0.90 for example? Can you please map out a broad timetable of when you expect the currency moves to occur (say indicate a month in which you expect a price to be struck). (In addition, your general views on the Euro would also be helpful, and perhaps your view on the effects to the Asian currencies).

Would you also mind outlining your rationale for such projections as to why you expect the US dollar to continue to fall?

Would you accept that if the US dollar strengthens that this may have a dampening effect on the current commodity bull market, or do you think that these are independent, or is there a partial relationship, and if so, what do you think are the salient areas of relevance? Essentially to what extent do you think the US currency moves are relevant to the price of Zinc?

US Slowdown?
What is your view of the current perception of a US economic slowdown (possibly in part caused by the interest rate increases) – if you accept there is a slowdown, do you see this having an impact on the demand for Zinc in any time frame, and if so, what kind or magnitude would you anticipate?

Do you hold the view that the US market is increasingly less important to commodity markets, and that China’s attempt to develop a more cohesive domestic market will ameliorate the effects of a recession or depression in the US should one eventuate? Essentially to what extent are Zinc prices effected by the US market?



Ok, that should keep you busy for a while! Sorry to bombard you with so many questions, but I am genuinely interested in your viewpoint and rationale from an F/A perspective. I am working on my own T/A models, and would appreciate the opportunity to compare and contrast these.

As you know, wavepicker and I both tend to be more chart oriented, and I tend to agree with his position that the market to some extent drives the fundamentals, although I view it as a fluctuating reciprocal relationship with a range of reflexive tipping points (kind of a Soros model as opposed to a classical economic efficient market). But like all of us, I’m still trying to flesh this out, and it is still evolving…

Also, I was interested in your comments about hedging, why did this knowledge change the way you view commodities out of interest?


Anyway, nice to see you posting, great to see the discussion move to a higher level.


Regards


Magdoran

 

[barney]

Hi barney,


Actually my comment was not specifically directed at your post. I think when I posted my general request for more rigour I hadn’t read your post…

I am genuinely interested in considering well thought out FA views on Zinc as I am a believer in factoring in fundamentals into my technical analysis. Sounds odd, but F/A can be helpful at times.

Hence my request for more in depth comments than some of the linked commentaries which I felt were fairly threadbare when you examined them (although I appreciate Rederob posting up the recent links and will follow them up in due course).

I also don’t have a problem with negatively slanted comments if they are well thought out, and marshal their thoughts with some rigour.

Anyway, good to hear you’re having a good run!


Regards,


Magdoran

Howdy Mag, I figured your original post wasn't directed at my post, but I wanted to make my position clear anyway ............ Its funny, but even though I'm relatively new to all this trading stuff etc. I kind of feel it my duty to try and "warn" other "punters" not to make the same mistakes I have/still do hence my posting a "negative" stance in a raging "bull-zinc" market ....just to keep the "balance" so to speak

I agree that Rederob, W/P, and others have some great stuff to say on this thread, so keep it coming lads!! All the best, Barney.

 

[rederob]

Magdoran
I will try to be brief as I am mixing real (paid) work with the pleasure of cricket in the background.

Backwardation:
I only concentrate on the difference between spot and 3 month forward; the spreads further out are for traders to deal with rather than investors.
"Balance" is the natural tendency of a commodity market, and in this balanced market a warehouse profits by buying (holding) inventory today at a price cheaper than it will be sold down the track - or the warehouse goes broke. This natural tendency is called "contango".
As supplies start to leave the warehouse quicker than it is replenished the balance obviously changes and the warehouse has to profit; doing so by altering the price mix so that immediate departures are priced higher than future departures. This latter condition of a tight market is called "backwardation", I think because it literally represents a position that is "backward" to the norm, although there might be a more technical explanation.
By tracking the rate of change of spot to 3 month forward you get a good feel for market tightness (or otherwise). And when you map this against inventory, and corroborate it with global trends you can get a good idea about probable future price movements.
I think anyone trying to just use one or two indicators and hoping for a quick fire solution to making a million is living in a fool's paradise: A holistic approach is essential.
While wavepicker might trust his charts, I can glean a great deal from the trend in spot:futures but do not consider it definitive.
In relation to zinc at present, if the sentiment had changed considerably and quickly we could surmise that market players had thrown in the towel: They clearly have not.
Moreover, the natural tendency of a market going into high backwardation is to attract "spare" metal back into LME warehouses, and this has now happened for zinc: Consider it normative for now.
If we look down the track, and assume nickel to be a year or so ahead of zinc in relation to the "natural" tendencies of commodity markets in tight supply, we will find that backwardations become less relevant, albeit entrenched: The reality is that there is no "spare" metal (nickel) and LME becomes the determinant of ongoing price action by closely examining the volume and location of daily flows of metal.
Magdoran, the specific matter of long dated futures being considerably lower certainly does reflect the present view that there is an expectation that prices will be lower. However, the reality and the expectation bear little resemblance: You can confirm this by finding the forward prices published 12 months ago, 15 months ago, etc - we are not in territory that was vaguely contemplated back then.

Currency Impact:
Seriously, way out of my depth!
My observations of global markets over recent years suggest that the USD is going to continue to decline for years to come.
Increasing Chinese trade with eurozone nations does suggest that currency diversification is encouraged, and I believe this will continue to favour an appreciation of the euro over the greenback.
I really can't see what can save the greenback, and would be grateful for contrary views.
I believe that in time our respective dollars will be at parity, and would not have a clue how long it will take, although I suspect more than 3 years would be needed.
Sorry that I am really not able to give any useful response to your detailed questions in this area.
Although, it is very interesting to note the clear inverse relationship between the greenback and commodity prices.
If I ever get a sense that this will break down, I hope I remember to post on it: The reality is that I expect it to continue for the time being and it remains a reason why I continue to be more bullish than not!

US slowdown:
I think it was the BHP thread where I commented more at length. I regard the US as relevant to our global view and global trends. But I regard US relevance as decreasing while Asian relevance increases, particularly in relation to commodities.
Perhaps more importantly I believe we need to acknowledge the growing influence of middle classes in BRIC nations, while at the same time we have Japan and Europe in reasonably sound economic shape.
Can you think of a better time for the US to suffer a slowdown?

Hedging (and in part reply to Barney):
A "hedge" is most simply described as a product that allows a buyer to exercise some future right in order to achieve a degree of financial protection.
The main winners with hedges are the writers of the protection rather than the buyers; a bit like life insurance!
When commodity prices surge, one needs to be on the biggest producers of metals that are selling them into the market without encumbrance.
That's because hedges don't have the capacity to contemplate price surges from bull markets.
Hedges that are below prevailing delivery rates can cost companies millions (perhaps billions in the case of Barrick gold) in foregone revenue.
Phelps Dodge incurred a half billion cost on its "hedges" in the second quarter 2006 alone via contracts set at half the prevailing spot price.
Some recent examples of hedging contracts that have killed companies are the gold miners Croesus and Sons of Gwalia.

Hedges are entered into for a variety of reasons. For new players turning from explorer to producer - who need to borrow money - it is often a requirement that a proportion of production is locked in to a forward price to ensure the lender is repaid.
In some cases a producer might want to have the peace of mind that a proportion of production will give a sound future return and lock in what they believe to be a beneficial price. They tell shareholders this is a good deal, too!
In other cases a company is approached by a finance institution with complex derivative products or a complex cocktail that defies breaking down by even a good accountant, particularly as maturity dates may overlap for different types of products.
A good business will expose itself to the market and compete on merit. That is, it knows its products are world class and its costs are at the lower end of the industry benchmark.

 

[barney]

Magdoran
I will try to be brief as I am mixing real (paid) work with the pleasure of cricket in the background.

Backwardation:
I only concentrate on the difference between spot and 3 month forward; the spreads further out are for traders to deal with rather than investors.
"Balance" is the natural tendency of a commodity market, and in this balanced market a warehouse profits by buying (holding) inventory today at a price cheaper than it will be sold down the track - or the warehouse goes broke. This natural tendency is called "contango".
As supplies start to leave the warehouse quicker than it is replenished the balance obviously changes and the warehouse has to profit; doing so by altering the price mix so that immediate departures are priced higher than future departures. This latter condition of a tight market is called "backwardation", I think because it literally represents a position that is "backward" to the norm, although there might be a more technical explanation.
By tracking the rate of change of spot to 3 month forward you get a good feel for market tightness (or otherwise). And when you map this against inventory, and corroborate it with global trends you can get a good idea about probable future price movements.
I think anyone trying to just use one or two indicators and hoping for a quick fire solution to making a million is living in a fool's paradise: A holistic approach is essential.
While wavepicker might trust his charts, I can glean a great deal from the trend in spot:futures but do not consider it definitive.
In relation to zinc at present, if the sentiment had changed considerably and quickly we could surmise that market players had thrown in the towel: They clearly have not.
Moreover, the natural tendency of a market going into high backwardation is to attract "spare" metal back into LME warehouses, and this has now happened for zinc: Consider it normative for now.
If we look down the track, and assume nickel to be a year or so ahead of zinc in relation to the "natural" tendencies of commodity markets in tight supply, we will find that backwardations become less relevant, albeit entrenched: The reality is that there is no "spare" metal (nickel) and LME becomes the determinant of ongoing price action by closely examining the volume and location of daily flows of metal.
Magdoran, the specific matter of long dated futures being considerably lower certainly does reflect the present view that there is an expectation that prices will be lower. However, the reality and the expectation bear little resemblance: You can confirm this by finding the forward prices published 12 months ago, 15 months ago, etc - we are not in territory that was vaguely contemplated back then.

Currency Impact:
Seriously, way out of my depth!
My observations of global markets over recent years suggest that the USD is going to continue to decline for years to come.
Increasing Chinese trade with eurozone nations does suggest that currency diversification is encouraged, and I believe this will continue to favour an appreciation of the euro over the greenback.
I really can't see what can save the greenback, and would be grateful for contrary views.
I believe that in time our respective dollars will be at parity, and would not have a clue how long it will take, although I suspect more than 3 years would be needed.
Sorry that I am really not able to give any useful response to your detailed questions in this area.
Although, it is very interesting to note the clear inverse relationship between the greenback and commodity prices.
If I ever get a sense that this will break down, I hope I remember to post on it: The reality is that I expect it to continue for the time being and it remains a reason why I continue to be more bullish than not!

US slowdown:
I think it was the BHP thread where I commented more at length. I regard the US as relevant to our global view and global trends. But I regard US relevance as decreasing while Asian relevance increases, particularly in relation to commodities.
Perhaps more importantly I believe we need to acknowledge the growing influence of middle classes in BRIC nations, while at the same time we have Japan and Europe in reasonably sound economic shape.
Can you think of a better time for the US to suffer a slowdown?

Hedging (and in part reply to Barney):
A "hedge" is most simply described as a product that allows a buyer to exercise some future right in order to achieve a degree of financial protection.
The main winners with hedges are the writers of the protection rather than the buyers; a bit like life insurance!
When commodity prices surge, one needs to be on the biggest producers of metals that are selling them into the market without encumbrance.
That's because hedges don't have the capacity to contemplate price surges from bull markets.
Hedges that are below prevailing delivery rates can cost companies millions (perhaps billions in the case of Barrick gold) in foregone revenue.
Phelps Dodge incurred a half billion cost on its "hedges" in the second quarter 2006 alone via contracts set at half the prevailing spot price.
Some recent examples of hedging contracts that have killed companies are the gold miners Croesus and Sons of Gwalia.

Hedges are entered into for a variety of reasons. For new players turning from explorer to producer - who need to borrow money - it is often a requirement that a proportion of production is locked in to a forward price to ensure the lender is repaid.
In some cases a producer might want to have the peace of mind that a proportion of production will give a sound future return and lock in what they believe to be a beneficial price. They tell shareholders this is a good deal, too!
In other cases a company is approached by a finance institution with complex derivative products or a complex cocktail that defies breaking down by even a good accountant, particularly as maturity dates may overlap for different types of products.
A good business will expose itself to the market and compete on merit. That is, it knows its products are world class and its costs are at the lower end of the industry benchmark.

Thanks Rederob, Informative post ............... Excuse my questions if they seem amateurish, (but I am an amateur nevertheless!!) ............ As I understand it Zinifex are basically unhedged against the zinc price; therefore, if zinc goes up, ZFX makes "lots" more cash?? Atm, they are in a great position economically ............ my question ........ If at some stage in the future (ie late 2007) ZFX "hedges" their position by taking future price contracts, would that indicate that they felt their position, or the future economic position of zinc pricing may be on the way down ........... and if this were the case, would this be a "good signal" that the SP may be due for short-medium fall? ........... (Obviously I am thinking from a trading as opposed to Investing perspective here) .... Also, if ZFX did start "hedging", would the average "punter" know/find out about it in a reasonable time frame, or are we simply at the mercy of the "price/volume" chart?? Hope these questions make some sense. Cheers, Barney.

PPS Also, are companies that heavily hedge themselves into the future (such as BHP on their Uranium prices) actually "shooting themselves in the foot" , unless the market turns Bearish??

 

[rederob]

Barney
ZFX are unhedged.
If they did begin to hedge, it may reflect their view that prices might fall.
If they hedged at near market spot rates the share price might have some degree of protection.
However, if the overwhelming evidence was that longer term the zinc prices would remain lower, then nothing will save the share price.
That said, companies with so much free cash flow have other avenues to consider such as buying into ventures that might ameliorate their zinc position, via diversification into another trending market.
Yes, companies that have hedged their bets on the losing side during this bull market have shot themselves in the foot.
Read what SMY are now trying to do to get their hedge exposure reduced - after announcing how happy they previously were to have locked in such good future prices.
I am not sure if BHP "hedged" their uranium prices. They may simply have entered into very long term contracts that did not give them much opportunity to take advantage of future upside.
Unlike PDN which appears to have adopted some form of delivery price that is present-market-price related.
A local gold miner that has done OK recently is Equigold, having managed to lock in some forward delivery when the price spiked early this year: By delivering into some spot and hedges they have managed to receive slightly better than average spot prices.
If you are astute, when the commodity bull collapses, hunt for the most heavily hedged producer and buy into their equities when spot prices near their hedge prices. These companies will "bounce" because their bottom line will not suffer to their extent of their industry peers.

 

[barney]

Barney
ZFX are unhedged.
If they did begin to hedge, it may reflect their view that prices might fall.
If they hedged at near market spot rates the share price might have some degree of protection.
However, if the overwhelming evidence was that longer term the zinc prices would remain lower, then nothing will save the share price.
That said, companies with so much free cash flow have other avenues to consider such as buying into ventures that might ameliorate their zinc position, via diversification into another trending market.
Yes, companies that have hedged their bets on the losing side during this bull market have shot themselves in the foot.
Read what SMY are now trying to do to get their hedge exposure reduced - after announcing how happy they previously were to have locked in such good future prices.
I am not sure if BHP "hedged" their uranium prices. They may simply have entered into very long term contracts that did not give them much opportunity to take advantage of future upside.
Unlike PDN which appears to have adopted some form of delivery price that is present-market-price related.
A local gold miner that has done OK recently is Equigold, having managed to lock in some forward delivery when the price spiked early this year: By delivering into some spot and hedges they have managed to receive slightly better than average spot prices.
If you are astute, when the commodity bull collapses, hunt for the most heavily hedged producer and buy into their equities when spot prices near their hedge prices. These companies will "bounce" because their bottom line will not suffer to their extent of their industry peers.

Thanks Red, Some good info there as always ............ Just a quick follow up .... Is it "public" knowledge when a Co. "hedges", or is that kind of info slow to "hit the streets" so to speak. Thanks.

 

[rederob]

Barney
Companies usually indicate their hedging strategies, and are required to include hedges in their financial reports under AIFRS.
However, I believe "hedges" are operational policies of companies and can be entered into as and when seen fit.
Some companies are lax (not transparent) and don't think too much about their investors' information needs.
Given the recent collapse of CRS due to its poor hedge position its wise to have some idea of the extent that a company hedges, "just in case".
I do not believe that the average person in the steet would get info on a company's hedge position unless it was generally announced to the market. And any insider knowledge may not be an issue if the hedge position is minimal of near-term benign. Companies are not in the business of entering into hedges on the basis it will be bad for their business - it's just that it often turns out that way!

 

[nizar]

Thanks Red, Some good info there as always ............ Just a quick follow up .... Is it "public" knowledge when a Co. "hedges", or is that kind of info slow to "hit the streets" so to speak. Thanks.

Im just gonna go directly to the short answer here. Public knowledge. It must be disclosed to the ASX (open market). Though it probably wont be in a separate announcement, it would be in, say, the annual report, for example. Nobody reads that 100page book, but as long as its there, ZFX are ok.

Once ZFX start hedging their sp will fall big time. If they hedge and spot zinc prices keep going up, they are effectively losing money ie. the difference btw the hedged price and the spot price PLUS the cost of the hedge.

If they hedge and prices go down, then the market will punish the share price.

If Dugald river comes through by 2010, and century/roseberry exploration yields encouraging results, then increases in mine life and/or zinc production will increase company earnings even if spot prices fall by even 1/3.

 

[imajica]

with ZFX and KZL approaching fair value - people are looking for emerging companies that are relatively cheap. I believe that INL (the only new zinc production this year - coupled with their patented technology) will surge in 2007!

 

[wizz]

I agree that inl with monthly shipments of 5000 to 10000 te is becoming a signifigant zinc player
It seems undervalued but the key question is what would be a fair pe , just on its zinc earnings.There is a lot of talk re their extraction technology for copper,lead,gold etc but that won't impact next years earnings
At a 7 pe the share should be worth 50-60csoon with blue sky upside. The market is only valuing it at 26c despite lots of attempted upramping with talk of cappers etc blurring the picture]

I hold a reasonable number of shares and would appreciate views on the normal pe a company like this should have in say March when shipment reliability is proven

 

[michael_selway]

with ZFX and KZL approaching fair value - people are looking for emerging companies that are relatively cheap. I believe that INL (the only new zinc production this year - coupled with their patented technology) will surge in 2007!

ZFX - Earnings and Dividends Forecast (cents per share)
2006 2007 2008 2009
EPS 219.9 345.9 255.7 152.8
DPS 80.0 160.7 106.5 69.0

KZL - Earnings and Dividends Forecast (cents per share)
2006 2007 2008 2009
EPS 16.8 81.4 76.4 64.5
DPS 0.0 15.0 13.8 24.5

Do you reckon ZFX is fair value?

thx

MS

 

[nizar]

with ZFX and KZL approaching fair value - people are looking for emerging companies that are relatively cheap. I believe that INL (the only new zinc production this year - coupled with their patented technology) will surge in 2007!

ZFX approaching fair value?
Do some research buddy.

 

[Magdoran]

Magdoran
I will try to be brief as I am mixing real (paid) work with the pleasure of cricket in the background.

Backwardation:
I only concentrate on the difference between spot and 3 month forward; the spreads further out are for traders to deal with rather than investors.
"Balance" is the natural tendency of a commodity market, and in this balanced market a warehouse profits by buying (holding) inventory today at a price cheaper than it will be sold down the track - or the warehouse goes broke. This natural tendency is called "contango".
As supplies start to leave the warehouse quicker than it is replenished the balance obviously changes and the warehouse has to profit; doing so by altering the price mix so that immediate departures are priced higher than future departures. This latter condition of a tight market is called "backwardation", I think because it literally represents a position that is "backward" to the norm, although there might be a more technical explanation.
By tracking the rate of change of spot to 3 month forward you get a good feel for market tightness (or otherwise). And when you map this against inventory, and corroborate it with global trends you can get a good idea about probable future price movements.
I think anyone trying to just use one or two indicators and hoping for a quick fire solution to making a million is living in a fool's paradise: A holistic approach is essential.
While wavepicker might trust his charts, I can glean a great deal from the trend in spot:futures but do not consider it definitive.
In relation to zinc at present, if the sentiment had changed considerably and quickly we could surmise that market players had thrown in the towel: They clearly have not.
Moreover, the natural tendency of a market going into high backwardation is to attract "spare" metal back into LME warehouses, and this has now happened for zinc: Consider it normative for now.
If we look down the track, and assume nickel to be a year or so ahead of zinc in relation to the "natural" tendencies of commodity markets in tight supply, we will find that backwardations become less relevant, albeit entrenched: The reality is that there is no "spare" metal (nickel) and LME becomes the determinant of ongoing price action by closely examining the volume and location of daily flows of metal.
Magdoran, the specific matter of long dated futures being considerably lower certainly does reflect the present view that there is an expectation that prices will be lower. However, the reality and the expectation bear little resemblance: You can confirm this by finding the forward prices published 12 months ago, 15 months ago, etc - we are not in territory that was vaguely contemplated back then.

Currency Impact:
Seriously, way out of my depth!
My observations of global markets over recent years suggest that the USD is going to continue to decline for years to come.
Increasing Chinese trade with eurozone nations does suggest that currency diversification is encouraged, and I believe this will continue to favour an appreciation of the euro over the greenback.
I really can't see what can save the greenback, and would be grateful for contrary views.
I believe that in time our respective dollars will be at parity, and would not have a clue how long it will take, although I suspect more than 3 years would be needed.
Sorry that I am really not able to give any useful response to your detailed questions in this area.
Although, it is very interesting to note the clear inverse relationship between the greenback and commodity prices.
If I ever get a sense that this will break down, I hope I remember to post on it: The reality is that I expect it to continue for the time being and it remains a reason why I continue to be more bullish than not!

US slowdown:
I think it was the BHP thread where I commented more at length. I regard the US as relevant to our global view and global trends. But I regard US relevance as decreasing while Asian relevance increases, particularly in relation to commodities.
Perhaps more importantly I believe we need to acknowledge the growing influence of middle classes in BRIC nations, while at the same time we have Japan and Europe in reasonably sound economic shape.
Can you think of a better time for the US to suffer a slowdown?

Hedging (and in part reply to Barney):
A "hedge" is most simply described as a product that allows a buyer to exercise some future right in order to achieve a degree of financial protection.
The main winners with hedges are the writers of the protection rather than the buyers; a bit like life insurance!
When commodity prices surge, one needs to be on the biggest producers of metals that are selling them into the market without encumbrance.
That's because hedges don't have the capacity to contemplate price surges from bull markets.
Hedges that are below prevailing delivery rates can cost companies millions (perhaps billions in the case of Barrick gold) in foregone revenue.
Phelps Dodge incurred a half billion cost on its "hedges" in the second quarter 2006 alone via contracts set at half the prevailing spot price.
Some recent examples of hedging contracts that have killed companies are the gold miners Croesus and Sons of Gwalia.

Hedges are entered into for a variety of reasons. For new players turning from explorer to producer - who need to borrow money - it is often a requirement that a proportion of production is locked in to a forward price to ensure the lender is repaid.
In some cases a producer might want to have the peace of mind that a proportion of production will give a sound future return and lock in what they believe to be a beneficial price. They tell shareholders this is a good deal, too!
In other cases a company is approached by a finance institution with complex derivative products or a complex cocktail that defies breaking down by even a good accountant, particularly as maturity dates may overlap for different types of products.
A good business will expose itself to the market and compete on merit. That is, it knows its products are world class and its costs are at the lower end of the industry benchmark.

Thanks rederob,


That is an interesting interpretation of backwardation. I follow crude oil futures a lot, and noticed the prices were contango during the recent correction in crude, where the spot prices continued to fall noticeably while the contracts were contango.

Oddly I thought backwardation was supposed to signal that the market perceived that there is a shortage of the underlying commodity. However, through recent observation I have found both conditions with many commodities often did not reflect the price action of the spot market.

My question in part is along this line of thinking that the backwardation in Zinc seemed odd to me. Not being a specialised Fundamental analyst in the Zinc market, I was hoping to glean some more about the nuances of the futures contracts behaviour, and tie it in with the broader market supply and demand imperatives.

I still don’t understand what is driving the Zinc price other than a rudimentary understanding of steel demand/construction, and other industrial uses, and the international context from a broad macro economic view point.

While it’s clear that there is hedging and speculation going on, what do you think the mix is currently – more speculative, or more hedging going on, or a balance of the two. What is the consequence of this mix given an Ameranth scenario?

Re your comments on US influence in Asia, I am currently more persuaded by this line of thinking, seeing a more diversified currency/economic outlook emerging.

Regarding hedging, as you know this is a field I am interested in, so I was curious as to how your understanding of hedging techniques, and the broader use of these techniques in the commodities you are involved in altered your approach. Essentially, what did you glean, and how did this reshape your analysis?

Just out of interest, do you know which zinc producers here are hedged? While I’d love to find the time to do my own research, I’m not an F/A player, and would appreciate any suggestions you have.

Re the USD, interesting viewpoint. I have a variety of models in play here. There seems to be an orthodox view with many of the Australian currency analysts that most do not expect the AUD to climb much higher than 0.80 US, and that it is likely that the AUD will swing back lower in the near future.

Long term movement of the US currency down is certainly plausible if the current global economic structures continue in the current direction.

Once again, thanks for making the effort, much appreciated.


Regards


Magdoran

 

[barney]

Howdy Mag,

You and Red should generate some interesting questions and answers here ........... From a very basic perspective I'd just like to add a couple of things I've noticed re ZFX (zinc) ................

Firstly, as far as I am aware ZFX is basically "unhedged" re the price of ZInc ........... Yesterday, base metals basically dropped, yet on news of their proposed new mine (2008) ZFX SP went up. Today, base metals relative to ZFX rose a little (Zinc and Lead) yet ZFX fell from its open to close nearer its low for the day (4 out of 5 days now) ......

Imo ZFX is the type of stock that (at times) gets "worked over" by the "smart money" , and the fundamentals often don't seem to stack up (in the short term trading scenario that is ..... In the longer term I'm sure that will be totally different/normal) ........

I guess what I'm saying is that even though the fundamentals might be 95% in favour of a stock like ZFX increasing atm, the market in general is always subject to outside/inside factors which make it hard to predict what the share price will do .............

As traders (particularly new ones like myself) we all obviously need to keep a balanced/open perspective of what stock prices are doing, regardless of our opinion/personal perception is, so that we don't get lulled into the idea that a given stock is a "sure thing" ................

My comments are simply for the "novice" investors like myself ........... Be studious, and don't take any comments as "gospel" ..... Nothing about the markets is cut and dry ..... Cheers, Barney.

 

[rederob]

Thanks rederob,


That is an interesting interpretation of backwardation. I follow crude oil futures a lot, and noticed the prices were contango during the recent correction in crude, where the spot prices continued to fall noticeably while the contracts were contango.

Oddly I thought backwardation was supposed to signal that the market perceived that there is a shortage of the underlying commodity. However, through recent observation I have found both conditions with many commodities often did not reflect the price action of the spot market.

My question in part is along this line of thinking that the backwardation in Zinc seemed odd to me. Not being a specialised Fundamental analyst in the Zinc market, I was hoping to glean some more about the nuances of the futures contracts behaviour, and tie it in with the broader market supply and demand imperatives.

I still don’t understand what is driving the Zinc price other than a rudimentary understanding of steel demand/construction, and other industrial uses, and the international context from a broad macro economic view point.

While it’s clear that there is hedging and speculation going on, what do you think the mix is currently – more speculative, or more hedging going on, or a balance of the two. What is the consequence of this mix given an Ameranth scenario?

Re your comments on US influence in Asia, I am currently more persuaded by this line of thinking, seeing a more diversified currency/economic outlook emerging.

Regarding hedging, as you know this is a field I am interested in, so I was curious as to how your understanding of hedging techniques, and the broader use of these techniques in the commodities you are involved in altered your approach. Essentially, what did you glean, and how did this reshape your analysis?

Just out of interest, do you know which zinc producers here are hedged? While I’d love to find the time to do my own research, I’m not an F/A player, and would appreciate any suggestions you have.

Re the USD, interesting viewpoint. I have a variety of models in play here. There seems to be an orthodox view with many of the Australian currency analysts that most do not expect the AUD to climb much higher than 0.80 US, and that it is likely that the AUD will swing back lower in the near future.

Long term movement of the US currency down is certainly plausible if the current global economic structures continue in the current direction.

Once again, thanks for making the effort, much appreciated.


Regards


Magdoran

Magdoran
Oil I follow, but you make an interesting point about its contango and I admit that I have never even bothered to look at it.
For example, US refiners have to manage the mix between gasoline, diesel, heating oil and the many other variants on both a day to day and medium term (ie 2-3month) time frame. US refiners simply do not have the capacity to store crude or refined product for any length of time: For all intents and purposes we could look at it as "just in time" inventory management.
This is markedly different from metal commodities that can be dumped in large warehouses for many years quite safely and without deterioration - just a relatively small storage cost.

Regarding zinc, your understanding is probably as good as it needs to be, and is pretty well on the money.
The extent that speculation or fundamental demand drives the prices is about as well known for zinc as it is for any other market sector: We know the "longs" are presently in control, and demand for actual metal is firm so does that just mean the longs are "comfortable". More importantly, I don't know if it is the speculators that keep bidding up the price on the assumption they are on a winning bet, or whether it is first the consumers who MUST have the metal and need to outbid the speculators in order to ensure they have a physical commodity to keep their factories running: Perhaps it's both and the order is not important - I do not know.
On the opposite side of the equation, we do know that any downside to zinc is presently the result of speculators reducing exposure as consumers simply do not have that luxury while the market is so tight. Another way of thinking about it is if you were a consumer and decided to sell into the tight spot market to take advantage of backwardations, thinking you could buy back in more cheaply because you could "collapse" the price enough to profit from the buyback. Consumers are business people, and running the business demands you have access to physical supply. So the above scenario is more akin to a gambler's logic or a game of Russian roulette - where the odds could be a killer!

I think if you really want to see what "speculation" is doing/can do to a metal market, you just need to keep watching what is presently happening to copper. The "shorts" are in control at the moment, but copper is consistently being bid up whenever it drops under US$3/lb. The bears and bulls are playing a game of "first to blink", but they start a new game every day, rather than see it as a test match.
Perhaps the most interesting aspect of copper's price action is the reducing spread between spot and 27 month forward prices: Not just because of "contraction" in the average spread, but because the underlying implication is that metal prices will stay higher for longer.

In relation to hedging techniques, I am definitely not a person who can offer advice. However, as an investor, I have a general understanding of the impact of the application of various hedging instruments, and at the end of the day it is the "application" rather than the strategies that we are dealing with when making our minds up on whether or not to buy.
That said, all hedging does is give a company peace of mind because they believe they have achieved some degree of financial certainty. The reality is that if the assumptions for their hedges undergo significant change, their positions can cause financial pain rather than gain. Long-dated hedges are a recipe for disaster in my book and companies that lock themselves into such arrangements need to be looked at cautiously. Kagara Zinc is unhedged on zinc output but has hedges ("collars") on a portion of its copper production. The price collars reduce each year, and are supported by a floor price (which is set at a level which at least will give rise to a profit on today's cost margins). The problem we have is that in 2 or 3 years time, if copper prices remain near present levels, then KZL will forego substantial profits by being "collared".
Another, worse, problem with hedges is encountered if there is a failure to deliver. In this regard you can review what has happened to Croesus. Inadequate disclosure and statements from the company suggested their hedging position could be adequately accommodated - I recall they used some statement suggesting only 30% of reserves were hedged. That's all good and well but it did not say that it was not actually possible to mine the required amount from the "reserve base", and that default was imminent!
I guess the lesson with hedging is to gain an understanding of both the future price impacts AND the extent that forward production is locked into hedges.
In relation to how "hedging" impacts on my decisions: I adopt the very simple approach of only investing in the least hedged producers of the greatest output and lowest cost - and occasionally have to make some compromise on other factors such as prospectivity.

In relation to the strength of the AUD versus the USD (and therefore future direction), my views are based mainly on the ongoing debasement of the greenback by the Federal Reserve to "manage" inflation.
Whereas, in Australia the RB has a greater focus on policies that reduce unemployment: Interest distinctions.
Putting that aside though, I think our dollar's strength will be enhanced by its capacity to trade commodities with Asia, while America's dollar will decline further as other nations continue to realise that what is backing the greenback is "debt" - a debt they might continue not be willing to perpetuate!

 

[wizz]

Hmmmmmmmmmm ZFX or INL???? Or both

Myra Saefong's Commodities Corner
Zinc supplies are quietly running out

By Myra P. Saefong, MarketWatch
Last Update: 7:49 AM ET Dec 15, 2006

SAN FRANCISCO (MarketWatch) -- It's zinc's turn to shine.
Spot prices for high-grade zinc have more than tripled on the London Metal Exchange in the last two years -- and the price rally won't likely end soon with demand for the industrial metal far outpacing supplies, analysts said.
After many years of languishing at low levels caused by abundant supplies, spot prices for high-grade zinc climbed to over $4,400 per metric ton as of Wednesday on the LME -- up almost 270% from 2004's levels.
That's quite a change for the metal that's mostly used to coat steel and to act as a rust inhibitor.

"Zinc has been perhaps the worst investment in major metals during the past several decades, which has resulted in significant underinvestment in exploration," said Dr. Harlan Meade, president and chief executive officer of both Pacifica Resources Ltd. (CAAX: news, chart, profile) and Yukon Zinc Corp. (CA:YZC: news, chart, profile).

"The addition of several large mines in the mid 1990s simply flooded the market with zinc," he said.

New zinc output, in part, was made possible because of byproduct credits such as copper and silver that sometimes provided enough added revenue to offset zinc prices that really weren't high enough to encourage exploration or development, he said.

Now the zinc market faces a supply deficit, "caused by the depletion of many of our large mines," Meade said.

Exacerbating the problem, China, "who dumped zinc on the market during the 1980s and 1990s, became a net importer of the metal in 2003 as the country's consumption took off," he said.

China's influence
Indeed, China's zinc demand has been "rising at an amazing rate," said Eric Coffin, co-editor of HardRockAnalyst.com, which offers publications focused on resource stocks.

He blamed "extremely high capital investment growth," much of which is centered on construction, for the increase in Chinese consumption, which climbed 35% between 2003 and 2005.

"Zinc is a pretty basic industrial material," said Lawrence Roulston, editor of Resource Opportunities. "Most consumers would not even be aware that they come in contact with it many times a day," he said, pointing out that a typical car uses about 22 pounds of zinc.

"Car makers will pay whatever they need to pay to get enough zinc to keep making cars," he said, and "an extra dollar on the zinc price will not reduce demand for cars."

Similarly, demand won't slow even if "couple of tens of bucks" is added to the cost of a new house because of the zinc used in galvanized steel for construction, he said.

The recent run in the zinc price has "demonstrated ... the critical shortage of metals supply coming from the mining industry," said Roulston. "There are many small new mines constantly being developed, but no big mines."
Meanwhile, "mines are constantly being shut down as the ore bodies are depleted, [so] the net result is that production has been flat at a time of rising demand," he said.

Overall, the zinc industry will "have a hard time at any price bringing on enough new supply to balance supply and demand in 2010 and thereafter," Meade said.

Eating up supply
Against that backdrop, warehouse stocks of zinc have been depleted.
On the LME, supplies were down to around 85,750 metric tons as of early December -- down from 450,000 a year ago and close to their lowest level since March 1991, according to Martin Hayes, a senior correspondent at London-based BaseMetals.com.

And inventories are "set to keep on falling," he said.

The supply deficit this year will likely be close to 300,000 metric tons, he said, with supply of 6.8 million metric tons not enough to satisfy 7.1 million metric tons of consumption.

 

[wavepicker]

A more reliable chart to compare zinc against is that of copper a year ago, or of nickel, but certainly not one of gold.
These are commodities that zinc is paralleling on a "lagged" basis.

Hi Rederob, when comparing these charts was doing so in terms of wave structure and patterns of the trend. Don't even care what commodity,stock, index etc the chart is representing!! Primarily was looking at the final sideways consolidation(wave 4) that was similiar in the Gold chart back then to Zinc now. These types of patterns precede a final blow off to a new high(wave 5) which is where zinc is now(wave 5 terminal). If I have seen these patterns once then I have seen them 100 times in financial charts.

When considering these patterns one thinks in terms of probabilities and risk reward.

As for zinc lagging all the other metals, all the more reason it will correct as expected in 2007 back to 3000-3500, as the other metals such as copper are looking technically weak ATM on the price charts

However, I present my views on zinc based on fundamental drivers that are well in place and only likely to change in the medium term if there is a substantial change to global markets. Typically my successes are within an 80% probability range.

As mentioned in earlier posts, fundemental drivers generally lag the psychological trends in place that can be seen in charts.
I see a rise in the USD next year, not withstanding commercial fundementals this will generally negative on metals and foreign currencies.

Have a great xmas

 

[rederob]

wavepicker
You have a great Xmas too.
Appreciate all the comments.
I look at charts a lot, but charts in combination rather than in isolation.
I look at the "waves", the trends, the "indicators" and the the very long term price patterns for possible clues.
In the case of zinc the highest probability for the price in the medium term is a new high.
What is now occurring is a well earned consolidation for the metal.
It will probably be this time next year before we seriously get a pivot that will see zinc do what copper is presently doing.
But on the basis I am 20% wrong, there is always that consideration!
Good luck to those who continue to hold ZFX and KZL.
Into 2007 there are only two other metal picks - in preference, uranium, and then nickel (although nickel will find it hard to do stellar things given its 160% increase this year).
Although copper came and went (rising over 170% year on year to its May price peak) it is definitely not "collapsing", as many have feared.

 

[rederob]

wavepicker
I didn't comment on your AUD/USD view: But I think it is a brave call.
If you are right then I think my commodity boom scenario will have gone up a gear.
I see a very mixed bag for commodities next year.
I think the greeenback is a basket case in need of a new weaver.