January 17, 2020 / 11:29 AM / a month ago

Low inventories to frustrate zinc bears

LONDON (Reuters) - Historically low stocks of zinc in London Metal Exchange registered warehouses are likely to fuel price volatility and confound those investors looking at an oversupplied market and expecting significantly lower prices.

Stocks of zinc in LME warehouses are close to 20-year lows at around 50,000 tonnes, having been on a downtrend since October 2015 when mining giant Glencore (GLEN.L) shut 500,000 tonnes of capacity because of low prices.

The low stocks come at a time when many market participants are expecting to see a supply surplus this year after several years of deficits, which would be bearish for prices of the metal used to galvanise steel.

(Graphic: Zinc market balance click, here)

Those betting on lower prices - short positions - will typically sell and buy it back at a lower price before the contract matures or make a physical delivery. But low stocks mean a shortage of zinc on the LME market.

“The scramble to cover shorts mean price spikes even though there is no real shortage,” said a Europe-based zinc trader.

“LME inventories are artificially low, there are stocks off exchange, but higher prices are needed for that metal to turn up in exchange inventories.”

(Graphic: Zinc prices click, here)

Zinc prices CMZN3, at around $2,400, have tumbled nearly 20% since April 2019’s $2,958 as supplies of concentrate climbed due to new mines such as Vedanta’s Gamsberg and MMG’s (1208.HK) Dugald River.

“Lower prices will be needed to put a brake on supply,” said Citi analyst Oliver Nugent. “Surplus concentrate means revenue is moving from miners to smelters.”

Treatment charges, or the fees that miners pay smelters to process ore into refined metal, have climbed to around $300 a tonne on the spot market from $20 a tonne in 2018.

(Graphic: Zinc treatment charges click, here)

“Mine supply is rising,” Bank of America Merrill Lynch analyst Michael Widmer said.

“Inventories have fallen to levels that tend to be accompanied by disorderly movements in time spreads.”

Time spreads are a reference to price differentials for contracts with different maturities.

The widely watched cash over the three-month contract is at a premium or backwardation near $20 a tonne, from a discount in December, which typically should attract more metal to the exchange and its warehouses.

Higher premiums are needed for trade houses, holding large amounts of zinc, to warrant metal.

(Graphic: Zinc spreads click, here)

Tight nearby supplies on the LME market pushed the premium to a 22-year high above $160 a tonne in May 2019.

Visible inventories including those on the LME, in warehouses monitored by the Shanghai Futures Exchange and those held by producers are estimated at round 1.1 million tonnes.

“That’s about 30 days’ consumption, 40 days would be adequate and 50 days normal,” said Wood Mackenzie analyst Andrew Thomas.

Thomas said Chinese smelters have in previous years processed surplus concentrate but he doesn’t expect that to happen now as economic growth and demand are weak.

“They can’t afford to stockpile metal ... environmental issues mean they don’t crank out metal the way they used to.”

Global zinc consumption is around 14 million tonnes.

(Graphic: Zinc demand and supply click, here)

Reporting by Pratima Desai; Editing by Pravin Char

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