China’s economic woes have weighed heavily on industrial metals prices. Hussein Allidina, Head of Commodities at TD Asset Management, says while challenges remain for the commodity sector, there may also be opportunities for investors in the year ahead.
Transcript
Kim Parlee: Welcome to MoneyTalk. I’m Kim Parlee. Thanks so much for joining us. They are essential to almost everything related to manufacturing, but the industrial metals complex has been a source of frustration for many investors, experiencing widespread weakness in 2023 and doing little to excite markets so far in 2024.
But my next guest says, while there may be challenges, there may also be some opportunities in the sector. Hussein Allidina is head of commodities at TD Asset Management and joins me here in the studio. It’s nice to see you.
Hussein Allidina: Thanks for having me.
Kim Parlee: It is a pleasure. Let’s just start with an overview, if we could, about the industrial metals market. And maybe just tell us what’s in it and just where we are right now.
Hussein Allidina: Sure. So the Bloomberg Commodity Index includes a bunch of metals. The five major metals that make up the Bloomberg Commodity Index are copper, nickel, zinc, aluminum, and lead. And as you said in the open, they’re integral ingredients in–
Kim Parlee: Making stuff.
Hussein Allidina: –making stuff. If you have global growth, you have metals demand.
Kim Parlee: Got it. OK. Now, let’s talk about the outlook right now, or why things have not been doing so great. And I think we’ve got a chart in here. We’re going to bring it up. This is finished goods inventory. So maybe just tell me why you’ve brought this and why it’s important.
Hussein Allidina: Yeah. So maybe before we go there– so last year, the Metals Index, that Bloomberg Commodity Metals component was down about 10%. I think what challenged the market last year was this idea, concerns around GDP growth. We talk about Doctor Copper as being a barometer for economic activity.
I’m going to guess like 70% of your shows last year were about economic activity slowing, hard landing, soft landing. That’s been sort of a cloud over the market and has actually resulted in weaker-than-expected demand. Last year, at the start of the year, we were quite optimistic on Chinese economic growth.
China is still the engine of metals demand, and China disappointed last year. The chart that shows finished good inventories, you’ve seen a material drawdown of inventories broadly, globally. Higher rates make the cost of carrying inventory–
Kim Parlee: And that’s that tilt down.
Hussein Allidina: That’s China specifically.
Kim Parlee: OK.
Hussein Allidina: That’s China specifically. So if we anticipate– if economic growth is going to get better in China, which we anticipate it will, we’re going to need to see inventories rebuilt to meet that demand.
Kim Parlee: Mm-hmm. So again, having a low level on that particular chart just means there’s not as much supply, so that needs to build up.
Hussein Allidina: If I see an improvement in demand, and that’s the caveat, right? If we don’t get the demand growth, we don’t need incremental finished goods inventory.
Kim Parlee: Right.
Hussein Allidina: But if I see an improvement in demand– and in China we’re seeing targeted efforts to stimulate the economy now– you’re going to need to rebuild inventory. So that’s going to be a source of demand, in addition to the organic demand growth.
Kim Parlee: OK. Let’s take a look at copper. You mentioned Doctor Copper, and it is a bellwether everyone takes a look at. You’ve got a chart here looking at China’s copper inventories.
Hussein Allidina: Yeah.
Kim Parlee: So what is the supply side telling us here?
Hussein Allidina: So inventory is a reflection of supply and demand, and what we see here is that over the course of the last several years, you’ve seen a downward trend in copper inventories. There is some seasonality to it. We’re seeing a slight uptick in Chinese copper inventory.
The bears will say, well, that’s indicative of weak economic activity and that’s why inventories are building. The bull will say, well, actually, if demand is getting better, we need to rebuild inventory so that we can make the finished goods that we need, and copper is the ingredient.
Kim Parlee: Yeah. I love how there’s always– I said it just depends on which side. The data will support either thesis, depending.
Hussein Allidina: Yeah. It’s really interesting, Kim. I think over the course of the last two, three years, there’s been a lot of focus on the incremental demand that’s going to stem from the energy transition and EV demand specifically. But people have forgotten what I think is the elephant in the room, is that China is still responsible for 50%, over 50% of the world’s iron ore, steel, copper, nickel, demand. And Chinese economic activity, particularly the property market, has been weak. That’s a big source of demand.
Now, if we look at the details in China, you’re seeing that the real estate sector looks to have bottomed. Right. I don’t want to say it’s a bottom, but it looks to have bottomed. And incrementally, if I see positive starts, positive completions, that should be constructive for copper, aluminum, et cetera demand, while energy transition demand continues to grow.
Kim Parlee: Yeah. Now, on the idea of energy transition, though, and just, say, the global EV market, things have– I think people thought this was going to be a huge boon. And I think it probably eventually will be, but it’s not happening quite as quickly as we thought, is it?
Hussein Allidina: Yeah, so there’s been a lot of concern around the slowing penetration of EVs over the course of the last six, 12, 18 months. If you look at the picture globally, China represents the world’s largest EV market. So China, I believe, in 2023, probably 8 million vehicles compared to the 1.5, 1.6 million vehicles sold in the US.
Yes, growth is slowing, but the absolute level of demand is still increasing. So the absolute amount of nickel, the absolute amount of copper, et cetera, that I’ll need will continue to grow. I don’t think it’s going to be a straight line higher. But ultimately, I do think over the course of the next several years, we will see incremental demand for metals in the energy transition.
Kim Parlee: So I guess the opportunity for an investor would be, just be patient? There are some very fundamental trends that are going to be using the commodity space, but it’s not going to happen overnight.
Hussein Allidina: Yeah. To use a hockey analogy, the puck is moving in that direction. I don’t know that it’s going to happen as fast. The level of growth that we saw in the last couple of years, coming from a low base, was meaningful.
You’re still seeing meaningful number of units, EVs sold, but the growth rate is slowing as penetration increases. When we look at forward balances for copper, for aluminum, you’re going to need a tremendous amount of these minerals, these resources, to meet that demand, while the supply side is very constrained. We’ve talked before about the little investment that we’ve seen in commodities broadly.
And if I want to bring on a new copper mine, that’s not happening next year or two years from now. Greenfield copper is seven, eight, nine, 10 years to bring to fruition. So when I look at the medium term, it’s clear that I need more of these minerals. There will be cyclical periods of weakness and strength. But ultimately, I do believe that the demand for copper for EVs will continue to grow.
Kim Parlee: Let me ask you about another long-term trend. We are experiencing right now some unseasonably warm weather. And in terms of pointing to global warming, we could be seeing more of this in the future. But just to look at today, that’s having a real impact on the natural gas market, too.
Hussein Allidina: It has. Yeah, definitely. If you look at US natural gas, European natural gas, we’ve now had a couple of winters in a row where we’ve seen milder-than-normal weather. So if we look at the US balance as an example, coming into the year, there were concerns around, what if weather is colder than normal?
Weather has been materially warmer than normal, as we know, and the level of inventory we have today in the US is sitting at a very comfortable level. Prices reflect that. I think gas this morning was trading at $1.50, $1.55 an MMBtu. The market is trying to limit the amount of production growth and encourage as much substitution in the power stack towards gas as possible.
Kim Parlee: Yeah. Let’s bring up the chart, which just will, of course, explain what you just said. But there you can see that– and I don’t show the time series on this chart, but this is a longer-term look. But just to see the–
Hussein Allidina: Yeah, this is a seasonal chart of what gas inventories do over the course of the year. You draw into the winter, and then you rebuild over the summer to get ready for next winter. Today, we’re sitting with an elevated level of inventories.
This is notwithstanding the fact that we’re exporting a tremendous amount to Mexico and globally via LNG. This reflects the very weak demand we’ve had, res, comm, and industrial demand. We have not had, broadly speaking, weather demand, and weather is the most meaningful driver of gas in the winter and in the summer.