(Repeats from Monday. The opinions expressed here are those of the author, a columnist for Reuters.)
* China PMI vs LME Metals Index: tmsnrt.rs/38ipqQy
* Shanghai Futures Exchange metal inventory: tmsnrt.rs/2TeaFtF
By Andy Home
LONDON, March 2 (Reuters) - The scale of the coronavirus hit to China’s giant manufacturing sector was laid bare by the slump in the country’s purchasing managers indexes (PMI) for February.
The official PMI imploded from 50.0 to 35.7, while the Caixin index, which captures activity among smaller companies, tumbled from 51.1 to a record low of 40.3. The collapse in manufacturing activity last month was worse than that seen during the global financial crisis.
Base metal prices have fallen but by nowhere near as much as they did in late 2008, suggesting traders are still expecting a fast rebound in activity and metals demand once the virus is contained in China.
However, there are ominous signs that a physical demand shock is playing out in China which may generate a second-wave hit to prices.
Shanghai Futures Exchange (ShFE) holdings of copper, aluminium and zinc are trending sharply higher.
More may be accumulating in the off-exchange shadows.
A call by China’s Nonferrous Metals Industry Association (CNIA) for a government stockpiling plan is a clear distress signal from China’s producers.
It’s also an unwelcome echo of crisis past. The last time the Chinese government bought up metal stocks to support its producers was during the worst of the 2008-2009 manufacturing slump that followed financial meltdown.
ShFE stocks of copper have more than doubled from 124,000 tonnes since the end of December to a current 310,760 tonnes.
Zinc inventory has mushroomed from 28,000 to 160,011 tonnes and aluminium stocks are up 254,000 tonnes since the end of last year, reversing a downtrend that had been running since the middle of 2018.
Chinese exchange inventories always rise over the Lunar New Year holiday period but this year’s build has been faster and bigger than “normal”.
The seasonal disconnect between China’s producers, who largely maintain output over the new year holidays, and manufacturers, who tend to shut up operations completely, is this year being accentuated by the delayed restart of many downstream operators due to quarantining.
This disconnect varies from metal to metal.
China is the world’s largest producer of aluminium and aluminium smelters run most efficiently at continuous high utilisation rates. Moreover, national run-rates rose in January as new and restarted capacity hit the domestic market just at the wrong time.
China’s aluminium supply chain is complex and the coronavirus is causing multiple dislocations but the steep rise in visible exchange inventory suggests a sector ill-equipped to prevent a fast build in surplus metal.
China’s zinc smelters have also been in the process of lifting collective production after a prolonged period of raw material shortfall. They too are now pumping metal into a demand hole.
Not all Chinese metal markets are being affected in the same way though.
Shanghai lead stocks, for example, have fallen by 6,551 tonnes to 38,011 tonnes over January and February.
The divergence with other metals suggests Chinese lead supply is being impacted more by the virus than demand, possibly reflecting disruption to the scrap battery segment of the supply chain.
Battery collection and transportation have ground to a halt in parts of the country, cutting off feed for lead recyclers.
Lead, however, is something of an outlier in a broader picture of plunging first-stage metals demand.
“The demand for metals has declined temporarily,” was the possibly understated prognosis of Jia Mingxing, deputy secretary general of the CNIA, as quoted in an Association newspaper.
The CNIA is calling for the government to initiate a stockpiling programme to “alleviate the increase in inventory” at metal producers and address falling prices and operational difficulties, according to Jia.
There is a precedent for such action.
The state stockpiler, the State Reserves Bureau (SRB), bought smelter stocks of both aluminium and zinc during the December 2008-March 2009 period, when Chinese manufacturing activity also plunged.
Analysts at Macquarie Bank estimated at the time that the SRB purchased around 590,000 tonnes of aluminium and 160,000 tonnes of zinc at a series of tenders restricted to top state producers.
As significant as the tonnage were the prices paid. These were at a hefty premium to prevailing ShFE price levels, generating a powerful signal that caused future markets to rally.
There were no tenders for copper.
China was then massively dependent on imports of refined copper to meet its demand. The SRB focused its buying power on the international market in 2009, hoovering up metal at super-low prices and sending the copper price on a super-charged rally.
Copper bulls shouldn’t get excited though.
China has built out a lot of copper smelting capacity in the intervening years and although the import dependence remains, it is increasingly shifting from refined metal to raw materials.
The SRB, meanwhile, has been largely inactive in the copper market in recent years, suggesting it is happy with its existing inventory level.
The SRB stockpiling programme of 2009 was in essence an emergency government hand-out to chosen smelters.
The call for more of the same from the CNIA, which represents all the big metal producers in China, is a sure sign of the stress in physical supply chains right now.
China remains the epicentre of disruption but there are warning signs that the effect, like the virus itself, is spreading beyond China.
LME copper stocks jumped last week as 62,325 tonnes were delivered onto warrant in a single day. Although the large tonnage was probably partly down to intended market impact, it may also point to a build in off-market stocks.
LME tin stocks have been boosted by the warranting of 1,250 tonnes at Los Angeles, a highly unusual location for tin stock movements but one that sits at one end of Asian supply chains.
The metals market is looking beyond such physical market weakness to a sharp recovery in the second quarter as Beijing releases more stimulus.
The London copper price is down by almost 11% since the start of the year but it reconfirmed key chart support with a Friday low of $5,533 per tonne and was Monday morning staging a spirited bounce with a high of $5,700.
The rest of the LME base metals pack is also stabilising at lower levels, but the risk is that the physical market deteriorates further and stocks grow bigger before any Chinese stimulus package materialises.
Don’t take my word for it. Take the word of China’s metals association.
Editing by Jane Merriman