METALS INSIDER: Financial strains remain acute

-- Andy Home is a Reuters columnist. The opinions expressed are
his own --

By Andy Horne

LONDON, Feb 2 (Reuters) - A sharp short-covering rally in
the LME metals complex early last week was quickly smothered by
the continuing slew of negative macroeconomic news, all pointing
to prolonged weakness in the global economy.

The International Monetary Fund (IMF) slashed its global
growth forecast for 2009 to 0.5 percent, the weakest since World
War Two, from a November estimate of 2.2 percent.

Moreover, the IMF held out little hope for recovery until
the financial crisis that triggered the real-economy crisis is
once and for all resolved.

"Despite wide-ranging policy actions, financial strains
remain acute, pulling down the real economy," the IMF said. "A
sustained economic recovery will not be possible until the
financial sector's functionality is restored and credit markets
are unclogged."

REAL ECONOMY PROBLEMS

The IMF forecasts recession for much of the developed world
with emerging market economies expected to be the only source of
growth this year.

China will remain a key driver, although the IMF revised
down its estimates for the country's growth to 6.7 percent in
2009, half of what it was just two years ago.

Unfortunately for metal market sentiment, China was closed
last week for holidays, meaning there was little counterpoint to
the rhythm of bad news that streamed across the trading screens.

U.S. existing home sales figures on Monday were a rare shaft
of light in an otherwise bleak macro landscape. They came in
better than expected, providing the excuse for an attack on the
massed ranks of the bears that have accumulated short positions
across the LME metals.

Another shaft of light came on Friday in the form of
fourth-quarter GDP figures for the U.S. They showed the world's
largest economy contracting at an annualized pace of 3.8
percent. It was a horrendous figure but still better than the
consensus for 5.5 percent contraction.

By that stage, however, any enthusiasm on the LME "street"
for the upside had been crushed by the intervening torrent of
grim headlines, encompassing collapsing industrial production in
Japan, rising unemployment in Germany and a nationwide strike in
France, where workers are looking for greater government help in
mitigating the recession.

The point of maximum connectivity between financial and
real-economy crises remains the global automotive industry, a
key end-use sector for many of the individual LME metals.

Honda Motor announced another round of production cuts,
including the suspension for four months of its UK plant, while
General Motors said it would idle another nine North American
assembly plants.

More governments are following the lead of the United States
with financial support packages for the beleaguered automotive
sector.

FINANCIAL CRISIS

However, as the IMF said, these are merely the second-round
effects of the original crisis in the financial sector.

Financial institutions remain in basic survival mode,
meaning the wholesale credit markets are still only functioning
with government life support assistance.

This is having a direct impact on day-to-day metals trading.

It is becoming increasingly prohibitive for physical market
players, whether they be producers, consumers or merchants, to
finance anything other than "just in time" stocks.

The only alternative is the market of last resort, the LME,
and LME inventories are accordingly soaring. This is
particularly true of aluminium, copper and zinc, up 92,100
tonnes, 52,100 tonnes and 36,875 tonnes respectively in the
first four days of last week.

The LME warehouse system is accounting for an ever larger
part of the global stocks picture, accentuating the sense of
growing metal surplus and feeding the bear pressure on prices.

Even those metals without large structural surplus, such as
tin and lead, are finding it impossible to escape this pressure.

The bear consensus can be shaken, as the early-week
short-covering rally showed. The downside price momentum has
faded in the last couple of weeks, bringing shorts' trailing
stop-loss pressure points closer to the price action and within
striking distance of predatory proprietary traders.

But the bear consensus cannot yet be broken and it won't be
until the markets get some evidence that the financial crisis
and real-economy crisis are no longer locked in a
self-reinforcing downward spiral.

BAD BANKS

Governments at least show they understand the necessity of
breaking this negative feedback loop and the concept of a "bad
bank", which would absorb the toxic debt that has poisoned the
system, is moving up the political agenda in different guises in
different countries.

However, government surgery in the moribund credit markets
will take time to orchestrate and each passing day is another
day lost in terms of the real-economy meltdown.

Lars Thunnel, head of the International Finance Corporation,
is one of the few men with experience of "bad banks", having run
one in Sweden during that country's banking crisis in the early
1990s.

Speaking to Reuters at Davos, Thunnel gave a sobering
prognosis of the economic outlook.

"We have to face up to the fact that the recovery, when it
comes, later this year or early next year, is going to be
anaemic," he said.

"The concept of a vigorous 'V'-shaped recovery is for
business cycles of the past but not for this post-bubble,
post-crisis business cycle. It is going to be a long slog in
2010, in 2011."

These are words that will not do anything to change the
current dominant bear view of industrial metals.

Or as one big bank research department told clients after
last week's mini-rally: "Investors should continue to use such
short-covering rallies as selling opportunities […] we expect
further weakness across the entire base metal sector."
LME three-month valuations on Friday and weekly changes:

Close Chg on Week Pct Chg
Aluminium $1,349 +$7 +0.5
Copper $3,155 -$96 -3.0
Lead $1,120.5 +$5.5 +0.5
Nickel $11,200 -$900 -7.4
Steel FE $280 -$25 -8.2
Steel Med $350 +$15 +4.6
Tin $10,800 -$1450 -11.8
Zinc $1,096.5 -$64.5 -5.6