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Industrial metals complex enters the final trading session under a cloud of demand fear

June 10, 2022by Nicholas Kabaso
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Local Market Commentary

  • Given the continued lull on the Zambian data card this week, the focus was on global developments yesterday, with the European Central Bank rate decision the major highlight.  The ECB announced the end to years of ultra-loose monetary policy yesterday. More or less consistent with expectations, it said it would cease net asset purchases under its quantitative easing programme on the first of July, and committed to raising its benchmark interest rate by 25bps next month too. Beyond that, it signalled a policy path that would be data-dependent, but hinted at a larger rate hike in September should the medium-term inflation outlook not improve.
  • Yesterday’s hawkish shift notwithstanding, the ECB remains a policy laggard as it sat by and watched all year while other monetary authorities conceded that they may have been wrong and began to fight back against inflation. Therefore, for EUR-denominated assets to regain their shine the ECB may need to play catch-up in the months ahead.
  • The industrial metals complex has entered the final trading session under a cloud of demand fear following renewed COVID-19 restrictions in China. Both Shanghai and Beijing entered a fresh coronavirus alert yesterday and there are fears that should the virus take hold once again that we can expect rolling lockdowns, hampering economic activity in the world’s largest consumer of base metals.
  • The benchmark 3m LME copper contract is currently trading some 0.7% lower on the session at $9547.00/tonne, and this comes after a fall of 1.20% yesterday. Aluminium is trading 0.4% down, while zinc has fallen by 0.2% in the session.
  • There is some good news and that is a breakthrough in the standoff between a group of indigenous Peruvian communities and the Las Bambas Mine. Reuters reported – According to meeting minutes signed on Thursday afternoon, the truce will last thirty days and the communities and the mine will engage in talks during that time. Las Bambas will immediately seek to restart copper production, although executives have warned that coming back to full capacity will take days after a prolonged suspension
  • CPI data along the Michigan consumer confidence print is in focus in the US today. The multi-decadal high set in March of 8.5% y/y appears to be the high-water mark after inflation dipped in the April print. However, the drop was not as significant as expected, with inflation falling only slightly to 8.3%, compared to consensus expectations of a decline to 8.1%. While this inflationary episode is expected to have peaked, it will likely be a slow descent back into more comfortable territory as elevated energy prices and supply bottlenecks continue to have an impact on broader inflation. This will likely see the Fed stick to its strongly hawkish view for rates, considering inflation is expected to moderate to around the 6%-mark by year-end, far higher than the Fed’s 2% target.
  • Meanwhile, the University of Michigan’s consumer sentiment index was revised lower in the final May print to 58.4, confirming the drop from 65.2 in April. This was significant in that it was the lowest reading for the index since 2011 and underscored the impact that inflation is having on consumers’ views of the economy. While the index is expected to recover slightly in the preliminary June reading, the trend suggests consumer spending could begin to decline as inflation outpaces wage gains. So far, consumer spending has proved resilient given tight labour market conditions and strong job growth. However, as elevated inflation continues to provide concerns alongside expectations for Fed rate hikes, we may see consumer confidence continue to decline in the coming quarters.
  • In the FX market,  the Zambian Kwacha is expected to firm next week on the back of sustained central bank support and dollar sales by companies preparing taxes. Next week’s value-added tax is expected to see corporates, including mining firms, offload dollars.
  • Ahead of the US CPI data scheduled for release later this afternoon, it would appear that investors have chosen to position themselves more conservatively for an inflation reading that continues to support tighter monetary policy. The USD yesterday shifted on to the front foot and will consolidate those gains ahead of the CPI release that will give further impetus to the move, or detract from market expectations should inflation dip below market expectations. The USD’s gains took it closer to 1.0600 vs the EUR and back below 1.2500 vs the GBP, although that will require a buoyant US inflation reading to be sustained.

 

Rand and International FX Commentary

  • Yesterday’s current account data made for some interesting reading. The surplus rose to R143bn in Q1 from R132bn in Q4 2021. Although very historical, the point still stands that SA’s trade and current account surpluses have remained sustained, and that was before global commodity prices rose again due to the war in Ukraine. The probability is high that the surplus was sustained through Q2 as well, and there is a high probability that this will hold through H2 2022 despite the high oil prices.
  • Suppose SA had its logistical infrastructure working efficiently. In that case, the surplus might’ve been even greater, but the export of SA’s coal has been hampered by poor throughput at the Richards Bay coal terminal. Nonetheless, this gives one clear perspective on why the ZAR has remained as resilient as it has been and offers clarity on at least one of the drivers of currency appreciation. There are no signs of an imminent resolution to the war in Ukraine or the shortages of energy that it has generated, with the oil price still trading above $122.00pb.
  • The data also highlighted how some of the GDP growth was generated and would support GDP through the rest of the year if sustained. However, yesterday’s mining production data made for some ugly reading. SA’s mining sector output contracted sharply in April, reflecting another disappointing release and outlook for the domestic economy early in Q2. Output declined by 14.9% y/y in April, a 21-month low that extends three months of consecutive declines following a revised contraction of 7.5% y/y at the end of March. This might go some way to explaining the ZAR’s recoil off its best levels yesterday.
  • Then finally, it is worth mentioning some of the recent political developments. Although it is not something we typically cover as market-moving, developments concerning President Ramaphosa in his personal capacity and his suspension of the Public Protector could all hold some consequences, as was evident in parliament yesterday. The political economy is far from stable, especially ahead of the ANC elective conference later this year. Revelations and political uncertainty could impact the ZAR at the margin, although the general trajectory over the past 2-3 years has been an improving one. As we close out the week, the ZAR looks set to finish at a similar level to where it started with no obvious catalyst for volatility other than US CPI, which may impact US Treasuries and the USD.

Nicholas Kabaso

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