A huge event is playing out in the commodities markets right now.
Most people don’t know about it.
It’s not gold. It’s not oil. And it’s not iron ore.
This is an event taking place close to Australia’s borders that’s set to impact one key — and niche — area of the resources sector.
And if I’m right about the importance of this event, it could see the demand for this one key commodity take off, as soon as June this year.
What am I talking about? Let me explain…
This is a story about nickel. Most people have heard of nickel, but many have no idea about its importance.
The most important thing you need to know about it is that China is hungry for high-grade nickel.
Unlike most other commodities, China requires nickel for both its investment and consumer driven economies. When people demand a better standard of living, they want more things. This means more home appliances, vehicles, and electronics. It also means new factories, shopping malls, and restaurants. They are all dependent on nickel.
The hunger for this key commodity is a perfect recipe for higher nickel prices… and higher stock prices.
Understanding Chinese nickel stockpiles
I said that China’s nickel use is growing. However, their stockpiles are falling rapidly. Check out the numbers for yourself:
|Nickel Inventory at China’s Five Major Ports||Change Since 10 January|
|10 January 2015||12.95 million tonnes||–|
|6 February 2015||12.14 million tonnes||Down 810,000 tonnes|
|9 March 2015||11.43 million tonnes||Down 1.52 million tonnes|
|20 April 2015||10.76 million tonnes||Down 2.19 million tonnes|
Now, before you think this downtrend doesn’t mean much, it’s important to know that these nickel ore inventories include all nickel stocks — low, medium and high grade.
What’s more, Chinese stockpiles are down five million tonnes, or 30%, since 17 November 2014. And down 50% from this time last year.
And although the nickel spot price may also be down, this won’t last. The Indonesian raw nickel export ban (implemented in January 2014) has resulted in less high-grade nickel ore coming onto the market.
To date, Philippines exporters have filled the demand gap, providing China’s NPI (nickel pig iron) producers with a critical lifeline. NPI is used in the production of stainless steel. It’s a cheaper alternative to the refined nickel that you’ll find at the London Metal Exchange warehouses, and ferronickel in China.
The catch is that the Filipino grade nickel is significantly lower than the Indonesian nickel — this lower grade ore increases the cost base for Chinese nickel pig iron. The issue is that most Chinese NPI producers are loss making at these prices. The nickel price is trading around US$12,500 per tonne. However, NPI has production costs of US$14,000–17,000 per tonne.
So to lower costs, the Chinese have blended the lower grade Filipino nickel with their stockpiled, higher grade Indonesian nickel ore.
But this operation is nearing a tipping point.
As China uses its stock pile of Indonesian high-grade nickel, the blending of Filipino and Indonesian ore will come to a halt. Based on my analysis, this should happen around June 2015.
In this case, the Philippines nickel producers can deliver as much nickel ore as they want to mainland China. But its ore won’t be good enough to meet the Chinese NPI quality. And it will only increase the cost base for the Chinese NPI producers.
The question you should think about is: what happens when the Indonesian high-grade nickel ore is gone?
Indonesian high-grade nickel ore is almost gone
Right now, there’s increased demand for something called ferronickel. Ferronickel contains about 80% nickel ore and 20% refined nickel. This is a higher grade product that’s more expensive than NPI.
Chinese net imports of this form of nickel surged by 40% last year. And were up again by 47% in the first two months of 2015. However, this isn’t sustainable and the Chinese know it. So, have the Chinese given the Indonesians a tap on the shoulder to get them to lift the export ban?
Comments from Bill Sullivan, at Indonesian law firm Christian Teo Purwono & Partners, seem to imply this. He told a forum in Jakarta recently,
‘The current difficult economic times for the [Indonesian] mining industry and the government [due to the raw ore export ban], will force a change in policy.’
His comments followed those made by Said Didu, the head of Indonesia’s government advisory team on smelter development. Mr Said suggested that they may temporarily lift the ban on exports of unprocessed bauxite because many smelters had stalled due to financial reasons.
The Indonesian mining industry is facing tough times due to the falling prices of some of its key exports. That includes coal, tin and nickel, and protectionist policies that ban the export of unprocessed minerals. It’s worth noting that 50% of Indonesian government revenue comes from mining.
So will Indonesia lift its raw ore export ban any time soon?
I wouldn’t count on it.
Unless the government can develop a convincing ‘cover story’ for changes to nationalist policies, it won’t want to appear to be caving into pressure from foreign investors or the mining industry.
As for the demand side, the Chinese face their own problem — pollution.
Last year, Chinese Premier Li Keqiang declared ‘war on pollution’. Last month he repeated that he would do all he could to fight pollution. Since he said this, some steel and nickel pig iron producers have already closed. This indicates that the government is stepping up enforcement of new environmental laws.
This is important because NPI and ferronickel are more energy intensive than the higher grade refined nickel. So the greater use of lower grade nickel leads to more pollution.
This is one reason why my analysis shows that we’ll see cutbacks in NPI and ferronickel use in June this year. This should come at a time when high-grade Indonesian raw-ore stockpiles run out, and LME stockpiles will begin to fall further.
This is creating a huge set-up in the resources sector right now — it may be the most positive story to come out of the resources sector this year.
In short, it all comes down to a matter of supply and demand.
The demand for nickel is as strong as it has ever been, but the supply is a real cause for concern. If I’m right about how this story is about to develop, you’ll see the nickel price move higher, and the price of key nickel stocks move with it — perhaps as soon as this June. For more details about how this will play out, go here.
Resources Analyst, Resource Speculator
PS: When the price of a commodity rises, you’ll often find that the share prices of companies producing in that commodity will rise much higher. That’s especially true of small-cap stocks. This has played out in other commodities over the years such as gold, iron ore, and rare earths. Now it’s set to happen in nickel. Details here…