AG Zinc Market Xiao Fu Commodities Research xiao.fu@db.com AG/London All prices are those current at the end of the previous trading session unless otherwise indicated. Prices are sourced from local exchanges via Reuters, Bloomberg and other vendors. Data is sourced from and subject companies. DISCLOSURES AND ANALYST CERTIFICATIONS ARE LOCATED IN APPENDIX 1. MICA(P) 7/5/21
Section 1 Global zinc outlook & key macro themes Section 2 Global zinc demand & supply trends Section 3 Volatility & premiums, impact of new warehousing rules Section 4 Trends in the European zinc market
The USD, Fed tapering & treasury yields Is a US dollar uptrend already underway? 3.5 3. 2.5 2. 1.5 USDDEM 7-year USD downtrend 5-year USD uptrend 1-year USD downtrend 1. 1972 1977 1982 1987 1992 1997 22 27 212 Sources: Bloomberg Finance LP, 5-year USD uptrend 7-year USD downtrend Quantitative Easing Is Working 3.5 3. 2.5 2. 1.5 1..5. QE1 QE2 -.5 Operation -1. Twist QE3 QE4-1.5 27 28 29 21 211 212 213 Sources:, Bloomberg Finance LP US 1 yield real yields (%) FOMC announcement The dollar tends to follow long term cycles lasting between 6-1 years. We believe that the broad dollar is embarking on a multi-year uptrend. Real yields continue to be dollar positive, which combined with higher US growth relative to the Eurozone has historically been associated with dollar uptrend. This could sustain the headwinds for commodities. 3
China Growth China real activity index Downgrades To The China GDP Growth 35 3 25 2 15 1 5-5 27 28 29 21 211 212 213 China real activity index (3mma - YoY) China Industrial Prod'n (%) Sources: Bloomberg Finance LP, Sources:, Bloomberg Finance LP We expect China GDP to rise 7.9% in 213 and reach 8.5% in 214. Chinese growth will accelerate from an export recovery, an increase in credit alongside fiscal stimulus. We disagree with the imminent banking crisis thesis and see credit growth continuing. Inflationary pressures are a concern and this may trigger a tightening in monetary policy tightening, but only in late 213. 4
Industrial Metals & Chinese Equities Industrial Metals & The Shanghai Composite Index 4 55 35 5 3 25 2 15 Shanghai composite index (lhs) Spot returns on the SPGSCI industrial metals index (rhs) 45 4 35 3 25 1 28 29 21 211 212 213 2 Sources:, Bloomberg Finance LP Prospects for industrial metals have been more closely tied to the Chinese equity market. We believe a rebound in industrial metals is contingent on a rebound in China growth and local equity markets. 5
Zinc: Supply and Demand 21 211 212 213E 214E 215E China mine production Mt 3.7 4.3 4.9 5.1 5.2 5.3 China mine production growth % 16% 16% 14% 3% 3% 1% Australia mine production Mt 1.5 1.5 1.5 1.5 1.7 1.7 Australia mine production growth % 13% % % 1% 14% 3% Peru mine production Mt 1.4 1.2 1.2 1.4 1.4 1.4 Peru mine production growth % -2% -16% % 17% 3% % North America mine production Mt 1.9 2. 2. 1.9 1.9 2. North America mine production growth % 1% 5% -1% -4% 3% 5% World Mine Production Mt 12.14 12.67 13.24 13.36 13.96 14.61 World Mine Production Growth % 7% 4% 5% 1% 5% 5% Concentrate for smelting Mt 12.14 12.67 13.24 13.36 13.96 14.61 Secondary & other zinc Mt.9 1. 1. 1. 1. 1.1 Losses Mt -.7 -.7 -.7 -.7 -.7 -.7 Total Refined output Mt 12.71 13.2 12.51 13.18 14.1 14.86 World refined availability growth % 14% 2% -4% 5% 7% 5% China Refined Consumption Mt 4.7 5.3 5.6 6.1 6.8 7.4 Consumption growth % 14.8% 11.7% 11.7% 8.4% 11.1% 9.1% US Refined Consumption Mt.9 1. 1.1 1.1 1.2 1.2 Consumption growth % 5% 6.4% 6.2% 3.7% 5.6% 6.4% Europe Refined Consumption Mt 2.3 2.4 2.2 2.2 2.2 2.3 Consumption growth % 2.4% 5.7% -7.6% -2.% 1.7% 2.5% Brazil/India/Russia Refined Consumption % 1. 1.1 1.1 1.2 1.2 1.3 Consumption growth 15.9% 7.8% 4.3% 4.6% 5.7% 5.9% World Refined Consumption Mt 11.71 12.59 12.81 13.36 14.25 15.1 World Refined Consumption Growth % 15.4% 7.6% 1.7% 4.3% 6.6% 6.% Market balance Mt 1.1.43 -.3 -.18 -.14 -.25 Annual average LME cash prices USD/t 2,158 2,215 1,965 1,984 2,1 2,32 Annual average LME cash prices USc/lb 98 1 89 9 95 15 Source:, Brook Hunt, 6
Demand: Near term outlook China auto vs galvanised steel production China s refined zinc imports (Kt) 4 35 3 25 2 15 1 5 25 26 27 28 29 21 211 212 213 Chinese galvanised steel production (kt, 3mma) Chinese auto production (1 units 3mma, rhs) 25 2 15 1 5 15 1 5-5 Refined zinc imports volatile, but on an increasing trend -1 1998 2 22 24 26 28 21 212 Zinc Net Trade Kt Source:, China custom, Bloomberg Finance LP Chinese auto production is on an upward trajectory (DB estimate 13% increase in auto sales in 213) with Chinese galvanised steel place production up 12% YTD. A recovering profile in China s refined zinc production and net imports is a further indicator of improving apparent demand. Urbanisation plans will be announced at the 3 rd Plenum of 18 th People s Congress in China this November. Over the next 1-2 years, China s construction and infrastructure demand could remain the denominate drivers for zinc consumption growth. 7
Demand: Medium term outlook US zinc consumption intensity kg/capita China zinc consumption intensity kg/capita 8 6 4 2 19 192 194 196 198 2 22 US zinc consumption intensity kg/capita 8 6 4 2 194 196 198 2 22 China zinc consumption intensity kg/capita Source: Over the medium term as China s shift from an asset heady to consumer economy will change zinc consumption. Zinc could benefit in two ways. 1) Although the construction industry accounts for 55% of end demand for zinc, at least 4% of demand is related to consumer products & transport. 2) China will seek to upgrade its economy and use more zinc in corrosion resistance. 8
Supply: Near term outlook China s refined zinc production Zinc TCs (USD/t) 6 6 5 4 3 2 1 Production plateau? 5 4 3 2 1 1998 2 22 24 26 28 21 212 Chinese zinc production Kt 2 21 22 23 24 25 26 Realised Spot TC 27 28 29 21 211 212 Realised Term TC 213 Source:, Brook Hunt China s refined zinc production fell 6% last year due to poor profitability in the smelting industry, a result of falling treatment charges, sluggish prices and environmental closures. Refined production has recovered this year but output is likely to slow again due to a number of maintenance closures and need better TCs to reactivate. However, falling ore grades in China could make it difficult to source local concentrate and thus challenging for local smelters to make a profit. 9
Supply: Medium term outlook Top 1 zinc mine production in 212 vs 22e 7 6 212 22e 4, 3% 5 4 3, 25% 3 2, 2% 2 1 1, 15% 1% 1995 2 25 21 215e 22e Top 1 Zinc mines (by 212 prod'n) % of total supply Source:, Brook Hunt We believe that the key determinant for zinc s medium term outlook is mine supply. We forecast supply growth in the zinc market to see deceleration due to the closures of several large Western mines. This is a function of lower grades, deeper mines, challenging geology and slower expansion (lower by-producti silver prices) 1
Zinc volatility Zinc volatility remains at multi year lows 3, 2,6 2,2 1,8 1,4 1, Jan-9 Nov-9 Sep-1 Jul-11 May-12 Mar-13 6 5 4 3 2 1 Zinc volatility vs exchange inventory (days of consumption).4 8 7.3 6 5.2 4 3.1 2 1-1997 1999 21 23 25 27 29 211 213 Zinc prices (3m, USD/t) Zinc implied vol (%, rhs) Invense of Inventory in wks consumption Implied vol Source: Zinc volatility has fallen to multi year lows due to range bound market. The level of volatility has tended to negatively correlate with physical availability of the metal or zinc inventory in weeks of consumption. We expect that zinc could remain a small deficit market for a couple of years. This could eventually tighten up physically availability and lead to an increase in zinc implied volatility over the medium term. 11
Zinc physical premium Forward curves are indicating relatively weak fundamentals.. yet premiums have been rising.. 6 5 4 3 2 1 Backwardation 4 35 3 25 2 15 1-1 -2 Contango 23 24 25 26 27 28 29 21 211 212 213 5 Zinc time spread (12M-3M) US mid-west (USD/t,rhs) Source:, Bloomberg Finance LP Backwardated markets normally associated with a tight market environment and higher premiums Contango markets generally associated with lower premiums Consumers are required to pay for higher premiums, despite the forward curve indicating a reasonably well-supplied market Premiums reflective of competition for metal units physical vs. financial Artificial inefficiencies are leading to rising physical premiums, which are not reflective current fundamentals 12
Zinc inventory dynamics LME zinc stocks & rising cancelled warrants LME zinc stocks by location 1% 1,2, 9% 8% 1,, 7% 8, 6% 5% 6, 4% 3% 4, 2% 2, 1% % 28 29 21 211 212 213 New Orleans Antwerp Detroit Concentration ratio Source:, Bloomberg Finance LP Non-traditional drivers such as financing deals and warehousing dynamics have played an increasingly important role in the zinc market over the recent years. We think this has been a function of abundant supply, years of market surplus, a sustained contango in the forward curve, low interest rate and load-out bottleneck. 13
Zinc inventory dynamics Incremental revenue* under the 212 rule Cancelled warrants by location 5, 4, 3, New Orleans (min load out=2,5t/d) Antwerp (min load out= 1,5t/d) Detroit (min load out for minor metal =5t/d) 2, 1, Jan-1 Oct-1 Jul-11 Apr-12 Jan-13 Source: * Estimated revenue attached to the last tonne of zinc Top three warehouses for zinc ( New Orleans, Antwerp, Detroit) account for 9% of LME zinc inventory. Applying to current mininum load out rules which are dependant on total tonnages in the warehouses, theoretically queues at all three warehouses could exceed 1 days. Current min load out rule : <3kt=1,5t/day, 3kt-6kt =2,t/d, 6kt-9kt=2,5t/d, >9kt=3t/d Moreover, 5t/d for the low volume metal in addition to the dominant metal 14
What do the new rules consist of? The newly proposed regulations will impact warehouses with queues greater than 1 days. Affected warehouses will have to load out 1.5x of normal min load out rate. Plus the any new metals placed on warrant over and above the normal min load out rate For example, if the normal load out is 2,5t/d and average load-in rate is 3t/d, the warehouse will require to load out 25*1.5+(3-25)=425t/d 3 month consultation. Final decisions in October 213
Case study: New Orleans Prelim calculation (1 st July 13) & discharge period (start 1 st May 14) First discharge period (start 1 st Aug 14) Length of queue (no. of calendar 2 18 16 14 12 1 8 6 4 2 Prelim calc & gap period load out rate =25t/d Gap period Prelim discharge period May 1st 214 load out rate = 2,5+ 5*196/65= 47t/f 5 1 15 2 25 No. of business days* Source: * Estimated revenue attached to the last tonne of zinc Key assumptions: load in =3t/d, 2,5t/d will be placed on cancelled warrant If the warehouse loads in more than the min load out rate during the prelim calculation period, the load out rate will increase to 4,7t/d during the prelim discharge period. It will take 45 business days to reduce queue length to below 1 days. If the prelim discharge is not triggered and the queue length is above 1 days at the start of first discharge period, the load out rate will increase to 4,25t/d. It will take 2 business days to reduced the queue length to below 1 days. Premiums are likely to fall but could be offset by higher rent. 16
Eurozone demand is recovering but remains sluggish European auto sales vs PMI Structurally Eurozone demand growth is like to remain at low levels 7 65 6 55 5 45 4 35 3% 2% 1% % -1% -2% 16.% 14.% 12.% 1.% 8.% 6.% 4.% 2.%.% China Europe North America 3 26 27 28 29 21 211 212 213 Eurozone PMI European auto sales (yoy 3mma, rhs) -3% -2.% -4.% 197-1979 198-1989 199-1999 2-29 21-219 22-225 Source:, Brook Hunt The rebound from the Eurozone s longest recession on record was stronger than expected. The Q2 recovery was broad-based across countries. H2 outlook positive but growth will be modest. Auto sales growth yoy is recovering but remains in the negative territory. Our auto team expect growth to be -4% this year (up from -8% in 212) and 4% in 214. 17
European demand is recovering but remains sluggish Eurozone demand for zinc from the galvanised steel sector (Kt) Europe refined zinc production (Kt) 55% 5% 45% 14 12 1 28 26 24 22 Old normal New normal 4% 8 2 18 35% 6 16 3% 1988 199 1992 1994 1996 1998 2 22 24 26 28 21 212 214 216 218 4 14 12 1 Eurozone zinc consumption in Galvanised steel (Kt, rhs) Zinc used in galvanising as a % of total Eurozone consumption Source:, Brook Hunt Over the past 25 years, zinc used in galvanising as a share of Eurozone zinc consumption has increased from 3% to 5%. Zinc consumption by galvanisers partially recovered post the 28 crisis, but dropped during the 211-12 mild recession. We expect that galvanising consumption share is likely to stabilise around 5%. On the supply side, European zinc production fell from the old normal prior to 23 to the new normal of 25-6. We expect production to recover and stabilise at the new normal levels. 18
European Zinc Market Europe zinc market balance (Kt) 4 3 2 1-1 -2-3 -4 1995 1996 1997 1998 1999 2 21 22 23 24 25 26 27 28 29 21 211 212 Source:, WBMS Refined zinc market moved into deficit during 26-7 as consumption outpaced regional production. The market moved back into surplus from 29. Since then surplus has been rising to multi-year highs as the decline in consumption has outweighed zinc production cut. We expect the surplus in the European zinc market could rise in 213 given our expectation of higher refined zinc production and negative zinc consumption growth. Surplus level could stabilise from 214 onwards. We expect that physical premium in European could remain low and relatively flat compared to Asia. 19
Appendix 1: Certification and Disclaimer Analyst Certification The views expressed in this report accurately reflect the personal views of the undersigned lead analyst. In addition, the undersigned lead analyst has not and will not receive any compensation for providing a specific recommendation or view in this report. Xiao Fu 2
Appendix 1: Regulatory Disclosures Country-Specific Disclosures Australia: This research, and any access to it, is intended only for "wholesale clients" within the meaning of the Australian Corporations Act. EU countries: Disclosures relating to our obligations under MiFiD can be found at http://globalmarkets.db.com/riskdisclosures. Japan: Disclosures under the Financial Instruments and Exchange Law: Company name - Deutsche Securities Inc. Registration number - Registered as a financial instruments dealer by the Head of the Kanto Local Finance Bureau (Kinsho) No. 117. Member of associations: JSDA, The Financial Futures Association of Japan. Commissions and risks involved in stock transactions - for stock transactions, we charge stock commissions and consumption tax by multiplying the transaction amount by the commission rate agreed with each customer. Stock transactions can lead to losses as a result of share price fluctuations and other factors. Transactions in foreign stocks can lead to additional losses stemming from foreign exchange fluctuations. New Zealand: This research is not intended for, and should not be given to, "members of the public" within the meaning of the New Zealand Securities Market Act 1988. Russia: This information, interpretation and opinions submitted herein are not in the context of, and do not constitute, any appraisal or evaluation activity requiring a license in the Russian Federation. 21
Appendix 1: Disclaimer Global Disclaimer Investing in and/or trading commodities involves significant risk and may not be suitable for everyone. Participants in commodities transactions may incur risks from several factors, including changes in supply and demand of the commodity that can lead to large fluctuations in price. The use of leverage magnifies this risk. Readers must make their own investing and trading decisions using their own independent advisors as they believe necessary and based upon their specific objectives and financial situation. Past performance is not necessarily indicative of future results. may with respect to securities covered by this report, sell to or buy from customers on a principal basis, and consider this report in deciding to trade on a proprietary basis. makes no representation as to the accuracy or completeness of the information in this report. Target prices are inherently imprecise and a product of the analyst judgement. may buy or sell proprietary positions based on information contained in this report. may engage in securities transactions, on a proprietary basis or otherwise, in a manner inconsistent with the view taken in this research report. In addition, others within, including strategists and sales staff, may take a view that is inconsistent with that taken in this research report. has no obligation to update, modify or amend this report or to otherwise notify a reader thereof. This report is provided for information purposes only. It is not to be construed as an offer to buy or sell any financial instruments or to participate in any particular trading strategy. Unless governing law provides otherwise, all transactions should be executed through the entity in the investor's home jurisdiction. In the U.S. this report is approved and/or distributed by Securities Inc., a member of the NYSE, the NASD, NFA and SIPC. In Germany this report is approved and/or communicated by AG Frankfurt authorized by the BaFin. In the United Kingdom this report is approved and/or communicated by AG London, a member of the London Stock Exchange and regulated by the Financial Services Authority for the conduct of investment business in the UK and authorized by the BaFin. This report is distributed in Hong Kong by AG, Hong Kong Branch, in Korea by Deutsche Securities Korea Co. This report is distributed in Singapore by AG, Singapore Branch, and recipients in Singapore of this report are to contact AG, Singapore Branch in respect of any matters arising from, or in connection with, this report. Where this report is issued or promulgated in Singapore to a person who is not an accredited investor, expert investor or institutional investor (as defined in the applicable Singapore laws and regulations), AG, Singapore Branch accepts legal responsibility to such person for the contents of this report. In Japan this report is approved and/or distributed by Deutsche Securities Inc. The information contained in this report does not constitute the provision of investment advice. In Australia, retail clients should obtain a copy of a Product Disclosure Statement (PDS) relating to any financial product referred to in this report and consider the PDS before making any decision about whether to acquire the product. AG Johannesburg is incorporated in the Federal Republic of Germany (Branch Register Number in South Africa: 1998/3298/1). Additional information relative to securities, other financial products or issuers discussed in this report is available upon request. This report may not be reproduced, distributed or published by any person for any purpose without 's prior written consent. Please cite source when quoting. Copyright 212 AG 22