LONDON (Reuters) - Zinc’s premium to lead has collapsed from over $1,000 per tonne in April to just $460 per tonne as of Monday.
The ever-popular relative value trade between the “sister” metals is now as tight as it’s been since the first days of January.
This marks a collective rethink about each metal’s short-term outlook in the context of both markets’ broader shift from supply shortfall to supply surplus.
London Metal Exchange (LME) zinc last week touched a fresh year-to-date low of $2,355 per tonne amid a dramatic dissipation of time-spread tightness.
LME lead, by contrast, hit a three-month high of $1,987 per tonne with spreads re-tightening as the market digests a continuing outage at the Port Pirie smelter in Australia.
It’s an unexpected turn in the sisterly dance and there may yet be more surprises in store.
The London zinc market has seen a rapid collapse in nearby time-spreads over the last couple of weeks.
Cash zinc was commanding a premium of $161 per tonne over three-month metal in late May. As of Friday’s close the premium had shrunk to just $10 per tonne.
That in turn has sapped the outright three-month price, with bears once again building short positions to the tune of 3.6% of open interest, according to LME broker Marex Spectron.
The combination of outright price weakness and easier spreads suggests the market is now pricing in an imminent turnaround in supply-demand dynamics.
Not for the first time.
Timing the zinc market’s shift to supply surplus has been tricky work with premature bears getting burnt on both time-spreads and outright price in the first half of the year.
While mine supply has surged, the flow-through to better availability in the refined metal segment of the supply chain has taken much longer than expected.
So what’s changed to persuade zinc bears to try the downside again?
Firstly, Chinese refined zinc production appears to be recovering from its contraction in 2017 and 2018.
Much improved availability of mined concentrates and much improved margins for treating that raw material appear finally to be making an impact, with national output in May up 7.4% year-on-year at 480,000 tonnes, according to the National Bureau of Statistics.
It’s the strongest reading for over two years and has fuelled expectations that the global smelter bottleneck is starting to clear.
Secondly, visible inventory has rebuilt from depleted levels over the last few months.
LME stocks have recovered from a cycle low of 50,425 tonnes in early April to a current 78,550 tonnes, while inventory registered with the Shanghai Futures Exchange (ShFE) has bounced back from 20,103 tonnes at the start of the year to 74,065 tonnes.
These, however, are still low numbers by any historical yardstick and the uptrends are by no means established, witness Monday’s cancellation of 9,600 tonnes of LME zinc stocks in possible preparation for physical load-out.
LME spreads are signalling a significant amount of metal is on its way, but it’s still unclear how much or when.
Lead was supposed to be heading towards supply surplus quicker than zinc but physical tightness has also proved surprisingly sticky.
LME lead stocks are still low at a current 64,550 tonnes, while ShFE stocks have edged up only slightly this year to 34,123 tonnes.
Moreover, physical availability is being stretched by the outage at Nyrstar’s Port Pirie smelter in Australia.
The plant was originally expected to be back on line at the end of June but the company’s latest assessment is that it will return to production at the end of July.
Based on Port Pirie’s output over the last two years, the downtime will cost the market around 30,000 tonnes of lost production.
That doesn’t sound a lot and at other times it probably wouldn’t make much market impact. But with visible stocks cover so low and no sign of any imminent turnaround, Nyrstar’s latest restart timetable has caused renewed time-spread turbulence on the LME.
The benchmark cash-to-three-months spread flared out to a backwardation of $42 per tonne in the days following the company’s original June 10 announcement of force majeure on Port Pirie shipments.
By the beginning of this month the period had flipped back to a more “normal” contango of $15 per tonne but it tightened again last week to close Friday valued at a small $2 contango.
The LME outright lead price has a new spring in its step, challenging last week’s high of $1,987 again on Monday.
In terms of fundamental supply-demand balance, zinc and lead should be on the same trajectory with mine concentrate availability improving and refined metal production rising.
They are, after all, called “sister” metals because they tend to be found in the same deposits and mined together.
However, both markets are having trouble trading the timing of this process. Zinc has had several false starts, while lead is also defying bear expectations.
That should instil some caution into the latest change in the pair’s relative value dance.
The bull story in zinc looks to be over once and for all, but there are questions as to whether the physical market can match the paper market’s expectations.
Zinc is undoubtedly near an inflection point but as analysts at Morgan Stanley note, the supply-demand balance remains finely poised. The bank flags “the potential for a last rally before price falls into 2020, driven by a smelter bottleneck that eases more slowly than forecast”. (“Zinc’s short-term support,” July 1, 2019).
Lead should be through the inflection point but, thanks in part to the Port Pirie outage, there is as yet no sign that a deluge of new metal is on its way.
These differing dynamics are generating a lot of volatility in the relative value trade between the two metals.
Expect more of the same until the two markets show clear and accumulating evidence that they are on the road towards long-awaited supply surplus.
The opinions expressed here are those of the author, a columnist for Reuters.
Editing by Dale Hudson