MI WEEK IN REVIEW: Any expectations that we had seen the worse of the fund-selling storm were last week dashed with new waves of liquidation from technical and systems-based funds washing over the LME complex.
Somewhere behind the day-to-day noise of the market-place there is a sense that zinc’s underlying dynamics are shifting from short-term negative to short-term positive but while the black-box players are in the ascendancy, fundamentals must take a back seat.
Here We Go Again
After several days of successive fund-induced pain the previous week LME 3-month zinc had staged an end-week bounce to close Friday, May 18 at $3,720.
Last Monday saw that bounce extended to $3,790 with opportunists and other coat-tail hangers covering back short positions. The tentative recovery continued on Tuesday morning with a retest of a former resistance level at $3,835. However, just as the bulls were preparing to put their heads back above the parapet, they were sent running for cover by a new round of fund selling.
It swept through the LME complex in successive waves over the next three days sometimes exacerbated by volatility and poor liquidity as London locals got out of the way of what one called “the freight train”.
The selling action climaxed on Thursday afternoon, LME 3-month zinc following copper and sinking to a low of $3,540, where it found support from the 100-day moving average.
As in the week before, Friday brought the reaction to the action with a tentative recovery to $3,640 by the day’s close. It was a third successive week-to-week loss, although the $80 given up was smaller than the previous week’s $330 net loss. That said, zinc is now showing a year-to-date net loss of 13.95% having missed the early-year bull party and now being hit by the overspill of selling in the likes of copper.
This mass shift in positioning by the funds seems to have been triggered by a combination of seasonality (“sell in May and go away”), portfolio re-weighting (no coincidence in our mind that this sell-off started around the time of the last meeting of the US Fed’s interest-rate-setting committee) and technical performance (an over-extended copper market in particular).
In the case of LME zinc it has seen the likes of the CTA systems-based funds switch from collective long of around 20% of historic capacity in early May to around 10% collective short as at the end of last week. Such a turnaround is equivalent to something like 375,000t of metal.
China Switch
Such funds do not trade off the market’s fundamentals, so trying to find a reason for the recent sell-off in the market’s underlying dynamics is like trying to hammer a square peg into a round hole.
However, zinc’s earlier underperformance relative to most of the rest of the LME complex is easily explained by the fact that China had been pumping metal out into the world market since the end of last year.
That has served to cloud the other dynamics at work and, not surprisingly, left everyone a bit confused as to where zinc really is right now. The best sound bite of the industry conference underway last week probably came from Al Paterson, a trader at Ocean Partners in the US: “Before China, I used to have faith in my forecast--now all I do is worry about China.”
Both the International Lead and Zinc Study Group and the World Bureau of Metal Statistics have pegged the refined zinc market as being in surplus in Jan-Mar to the tune of 84,000t and 119,000t respectively. But be warned that both calculations will overly reflect low apparent consumption in China caused by the impact of those high exports.
As such, the key development in zinc’s fundamentals is the switch back by China to net importer of zinc in April.
This does not seem to have had anything to do with the most recent adjustment to the export tariff regime””the 5% rebate on SHG zinc was left unchanged””but more an end to what appears to have been a major de-stocking cycle, encouraged by high prices late last year and favourable price arbitrage.
The removal of that metal cushion now seems to be feeding through into a renewed downtrend in LME warehouse stocks of zinc, which are punching out fresh cycle lows with each passing day. In this context, the nearby market structure””cash-to-3-month metal flipped into $1 contango at Thursday’s valuations before returning to $5 backwardation on Friday””continues to look anomalous.
It is by no means certain that Chinese exports won’t pick up again if the price is right, but it seems unlikely they will hit the sustained pace seen over the Nov 06-Mar 07 period.
Similarly, although new mine capacity is starting to build, it is doing so only slowly and being mitigated by production losses such as that we mentioned in this column last week at Australian producer Perilya.
This market remains finely balanced, not that you’d know that from the waves of technical selling that have hammered it for the past two weeks. The “black-box traders” follow their own price drivers, not fundamentals. As with coppeit may be a case of “caveat venditor”…”seller beware.”