Supply shortfall to keep zinc on a high

The world zinc market is interestingly poised. The key theme is that at a time when mine output may go negative (after steady mine closures in recent years leading to gradually tightening supplies), demand seems to be showing signs of significant recovery, especially in BRIC economies. The positive correlation between galvanised steel production and zinc consumption is well known.

To be sure, galvanised production in key regions has been strong, especially in China.

However, for prices, there are temporary headwinds in the form of slowing overall industrial activity and macro worries.

It was in year 2012 that the zinc market faced exceptionally low treatment charges (TC) which combined with low zinc prices to depress zinc smelter output.

However, from last year, a rise in treatment charges has encouraged smelters back to convert surplus concentrate into metal.

Growing deficit After a drop in mined output in 2013, Chinese supplies are expected to rebound in 2014, albeit at a slower pace. However, the market still looks tight as ex-China supply is set to drop. While concentrate production is slowing, refined output is catching up. In the medium term, concentrate surplus is set to end.

It can lead to a growing medium-term deficit which could elevate zinc prices by 2015. However, this has to be qualified by saying that Chinese zinc miners and smelters are sensitive to prices and profitability; and so, any substantial increase in zinc prices and /or TC may result in an increase in Chinese output.

The International Lead and Zinc Study Group has estimated that an additional three million tonnes zinc capacity will be required to satisfy growth in global demand over the coming five years; but commitments to investment are said to be just about a quarter of what is needed. Ironically, while large players (such as Glencore Xstrata, Vedanta and Minmetals Group) are keen to secure new mining assets, a number of companies are forced to close down projects and existing operations due to poor profitability.

In response to stronger demand and higher prices, there is scope for global zinc output to increase by about 4 per cent in 2014. However, achieving the same level of growth in 2015 may be difficult once Chinese spare capacity gets eroded, suggesting a slower pace of output growth.

In recent years, two principal sources of weakness have impacted global zinc demand — slowdown in the construction sector following the financial crisis; and substitution from galvanised steel to aluminium by automobile producers seeking to improve fuel efficiency by reducing vehicle weight.

Of course, the galvanised steel industry is racing to develop a steel design for automobile body parts that achieves a comparable weight saving to aluminium (35-40 per cent).

If and when adopted, zinc can claw back its market share from aluminium alloy among automobile manufacturers around the world.

Price Outlook After remaining depressed for some time, construction activity is beginning to improve, offering scope for a pick-up in zinc demand via the galvanised steel route. In China, investment in urban infrastructure is the key theme of the Twelfth Five Year Plan. Rapidly gathering pace, urbanisation is expected to reach 65 per cent by 2030 and with that, automobile demand too is set to escalate.

No wonder, Chinese output of galvanised steel is expanding. The US and Europe are also slowly set to expand consumption. Considering the emerging scenario, zinc demand could expand by as much as 5 per cent during 2014-2015.

So, this year and the next, the world zinc market will witness gradual tightening. Any increase in zinc price (and treatment charges) this year is likely to be met by a rise in Chinese output; but as spare capacity gets eroded, it will get harder to stimulate additional output. So, there is greater scope for higher world zinc prices in 2015.

Currently, LME cash zinc is ruling below $2,000/t levels. In the next two quarters prices have the potential to gain 5 per cent each quarter; and for 2015, the annual average price is likely to be higher at $2,400/t.

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