July 27, 2018 / 3:33 PM / 3 months ago

Commentary: Zinc bears get taught another lesson in timing

LONDON (Reuters) - Zinc has fared worst in the industrial metals rout.

File photo: Employees are seen next to an excavator at an open-pit mine of the Gorevsky GOK lead and zinc ore mining and processing plant on a former riverbed of the Angara river near the Siberian settlement of Novoangarsk, Russia. REUTERS/Ilya Naymushin

From a 10-year high of $3,484.50 per tonne in February, the price of London Metal Exchange (LME) zinc slumped 30 percent to a mid-July low of $2,474. It is currently treading water around $2,570.

Zinc has been hit by the same global growth jitters as the other LME-traded base metals.

The metal, in the form of galvanised steel, is heavily dependent on demand from the automotive and construction sectors, leaving it exposed to both U.S. tariffs and Chinese economic slowdown.

But speculators turned on zinc earlier than any of the other metals and they’ve pushed it harder. Down by 23 percent on the start of the year, it is the laggard in an under-performing LME pack.

Zinc’s previous bull narrative flip-flopped almost as soon as the price started closing in on those decade-highs.

Where once the market worried about the lack of new mine supply and physical tightness of refined metal, its focus has switched to the coming wave of new mines incentivised by high prices.

It’s a classic metallic boom and bust story, but one that’s playing in fast-forward mode in the zinc market.

Too fast maybe.

Short-sellers in both London and Shanghai seem to have fallen into a bear trap. The price has stabilised as they try to escape.

BIG BOYS ONLY?

The steady slide in the LME zinc price has been accompanied by rising exchange stocks.

LME zinc stocks currently total 243,100 tonnes. They are up by 62,125 tonnes, or 34 percent, on the start of the year.

That fits well with the new supply surge script but not with the pattern of exchange stock movements.

What’s come into the LME warehouse network has done so almost exclusively at New Orleans and Antwerp and it has “arrived” in super-charged bursts.

When 78,950 tonnes of zinc turn up in a single day, as was the case on March 2 at New Orleans, it’s another tranche of off-market stocks being transferred onto LME warrant.

The New Orleans zinc carousel has been turning a long time as metal is rotated between on- and off-market storage.

The size of the warranting points to the involvement of one of the market’s bigger players.

Similarly with the Belgian port of Antwerp, where stocks total 78,300 tonnes after 60,050 tonnes “arrived” in the space of three days at the end of April and another 19,100 tonnes on July 20.

Barring a trickle of metal into Singapore and Malaysia’s Port Klang, that’s been it for the stocks rebuild.

LME zinc stocks are not sign-posting imminent over-supply but rather the actions of the handful of players with sufficient appetite to hold that sort of tonnage.

(Graphic: LME Zinc Price and Spreads: tmsnrt.rs/2LqtRSI)

BEAR TRAP

What’s in the LME system, moreover, is tightly held and comes at a price.

As of the close of business on Wednesday, the exchange’s last positioning snapshot, one entity controlled between 50 and 80 percent of the 221,025 tonnes of LME stocks not scheduled for physical load-out.

Include paper positions and the “dominant long” controlled 80-90 percent of those “live” stocks.

Speculators, whether those chasing the new bear narrative or those simply chasing technical momentum, seem to have rushed into a trap.

The money men have steadily increased their bearish bets on zinc to the point that, according to LME broker Marex Spectron, the net speculative short has grown to 29 percent of open interest. That’s the largest short position since November 2015.

Very few funds have the desire or ability to deliver physical metal against their position. They must either buy it back or roll it forward. Those opting for the roll are finding it an expensive business.

As ever with the LME and its multiple prompt date system, the best place to view the bear-bull battle is from the vantage of the “tom-next” spread.

If you’re a short who’s leaving it late, the cost of rolling your position one day forward was this morning $13 per tonne. It would be more painful still were it not for the LME’s rules capping the longs’ daily fee for lending their metal.

“Tom-next” flared out last month as well. This time the tightness is stickier. Shorts have been paying an elevated roll premium since last week.

The broader benchmark cash-to-three-months spread has been trading in backwardation since the start of June, last valued at a cash premium of $44 per tonne.

It’s easier to get out of a short position on the Shanghai Futures Exchange’s (ShFE) cash-settled monthly zinc contract but the signs of bear stress are clear in the backwardations gripping the full span of the forward curve.

Exchange-registered stocks, moreover, total just 48,135 tonnes, the lowest level since 2007.

There is almost certainly more sitting in Shanghai’s bonded warehouse zone but how much is deliverable against the ShFE’s’ contract is another matter.

Only three non-Chinese producer brands are deliverable, according to the exchange’s website. Two are made by Japan’s Mitsui and one covers metal from the Hobart smelter in Australia.

Low stocks have spooked the Shanghai shorts. So too has Chinese producer rhetoric about cutting production.

TURNING OUT THE LIGHTS

Timing is everything in trading and never more so than when you’re trying to extricate yourself from a persistent cash date squeeze in the London market.

Future expectations of surplus have run into the reality check of limited metal availability in both London and Shanghai.

In terms of LME stocks, what you see is only what you get at a certain price, as short-position holders are learning for the second consecutive month.

And beyond the LME is an increasingly unlit world of zinc.

China’s customs department has not issued a detailed breakdown of its metals trade since March.

With it have gone two key indicators of the state of the Chinese zinc market, namely how much refined zinc it has been importing and how much mined concentrates it has been able to source in a tight international market.

What happens in China will determine how fast or how slowly the zinc market transitions from supply deficit to supply surplus.

Right now it’s a bit hard to say unless you’re a big physical market player with your own information chains.

The London zinc bears may just have met one of them.

The opinions expressed here are those of the author, a columnist for Reuters. 

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