Zinc prices to slide further on oversupply

LONDON (Reuters) - With sliding zinc prices taking their toll on miners, they can be forgiven for asking when the market will turn upwards -- not any time soon, according to market experts.

The industry has seen mine closures and output cuts as energy, labor and equipment costs rise while zinc prices drop.

And the pain will continue -- the question is whether weak demand and global oversupply will keep prices falling into 2010, or whether the market will turn around next year.

"We would need very, very, very significant production losses to bring the market back to balance" in 2009, said Giles Lloyd of industry consultants CRU Group.

"Some producers are now realizing that they were being a bit hopeful thinking that the market could turn in 2010."

The metal, mainly used to galvanize steel, is one of the worst performers in the metals complex this year. In August it dropped to its lowest level since November 2005 and is now trading around $1,745 a tonne, down almost 25 percent this year.

It's no wonder prices have dropped.

Zinc stocks at the LME have jumped 80 percent this year to 160,000 tonnes, and a Reuters survey of analysts showed an expected surplus of about 281,250 tonnes this year, growing to 328,758 tonnes in 2009.

However, some market watchers still expect a shift to a deficit in 2010 as producers cut spending and smaller companies, which typically operate zinc-lead mines, struggle to find financing for new projects and to gain environmental approvals.

"The market will turn around quite considerably in 2010," said analyst Gayle Berry at Barclays Capital. "The concentrate market is going to move into deficit due to closure of mines ... and a number of smaller mines will reach lower ore grades."

Berry expects prices to average $2,073 a tonne this year, $1,900 in 2009 and to jump to $3,100 in 2010.

A Reuters poll in July found that cash zinc prices are forecast to average $2,133 a tonne in 2008 and fall to $2,000 in 2009. On Tuesday cash zinc was trading at $1,762 a tonne, and has averaged $2,155 so far this year.

CHINESE DEMAND SLOWS

Weaker demand will also slow the recovery of zinc prices.

CRU's Lloyd said the signs are that demand in China, the world's biggest consumer of the metal, is beginning to slow strongly, and that the debate is whether internal demand will slow as export markets for China also weaken.

Consumption is also falling in Europe, the next biggest consuming region after China, as economies slow down.

European refined zinc demand fell 7.8 percent in the first half of 2008 from the year-earlier period, according to the International Lead and Zinc Study Group. Demand in Japan and the United States was little changed.

Still, Michael Jansen, analyst at JP Morgan, said: "The only way you are going to end up with a surplus post 2010 is if you assume a lot of mines are going to open and demand is going to fall through the floor."

A number of miners have already closed operations or slashed output and CRU estimates that the cuts and closures announced so far will result in the loss of around 275,000 tonnes of zinc next year.

Teck Cominco Ltd (TCKb.TO) and Xstrata Plc (XTA.L) will close the Lennard Shelf lead-zinc mine in Australia about three years earlier than planned. HudBay Minerals Inc. (HBM.TO), Western Mining (601168.SS) and Perilya Ltd (PEM.AX) are just some of the other miners to be hit by lower prices.

"There will be more pain for zinc miners," said analyst Leon Westgate at Standard Bank.

In early 2000, the costs of production for the economic and least economic producer were around $1,100-1,300 a tonne, but this band has now shifted up towards $1,500-1,800, said Mike Baker, account manager at Ambrian Commodities.

"Unless we get a really significant move in the dollar and oil prices that pull the cost of production right down then over the next 12-18 months we will see more damage in the sector and things will look quite tight again in 2010," said Jansen.

Future projects have also been abandoned due to funding problems, such as plan to dig a zinc mine in Burkina Faso that was called off in July.

"I think there is going to be a real struggle to bring on new zinc-lead projects in the mid- to short-term," said Jansen. "There is no other commodity that has such a poor (project) pipeline."

(Editing by Michael Urquhart)