Base metal share prices are soaring this year as investors look for growth from China and India, but the recovery in commodity prices could be slow.
"With several uncertainties still surrounding the global financial system, the recovery will likely be later than originally thought, and much more shallow," said Dina Cover, an economist with TD Securities Inc. in a report to clients.
TD Securities expects its TD Commodity Index will rise 25 per cent through 2010, which is less than half the rate it had previously forecast. "Excluding energy, the index will advance by a more muted 8 per cent (previously 22 per cent) next year." Oil prices are forecast to rise almost 40 per cent.
Realization that world economic growth will fall short of expectations could result in a further 7-per-cent decline in the commodity index during the second and third quarters of 2009, Ms. Cover said.
The base metal stocks could be vulnerable. The S&P/TSX metals and mining index has climbed 68 per cent from depressed levels this year, compared with only a 1-per-cent rise in the S&P/TSX.
"While it is the case that production has been curbed in recent months, these curtailments have not prevented inventories from growing dramatically," she said.
The rise in the investment demand may also be more tepid than expected. Ms. Cover predicts investors will gravitate to equities rather than making direct investments in commodities over the next 12 to 18 months. "Equity markets, in particular, will be an attractive lure for investor flows once the global economy begins to recover," she said. "They have a major advantage in that they pay an income stream."
However, by the end of 2010, TD expects zinc prices could increase almost 40 per cent, nickel and aluminum almost 20 per cent and copper 15 per cent. Galvanized steel producers, which use zinc, have been holding inventories in check.
Much of the recent investor enthusiasm for lead, zinc, aluminum and nickel stems from the rise in copper prices, one of the most economically sensitive metals.
Copper has increased to $1.94 (U.S.) a pound from a low of $1.26 a pound late last year. Scotia Capital Inc. estimates the average break-even cost for copper, including depreciation and interest expenses, is $1.36 a pound.
However, some of that strength stems from buying by China's State Reserve Bureau, which could exit the market, causing a quick price drop. "Copper prices ... likely have the most room to fall, while the rest of the base metal prices are already well below [their] marginal cost of production," Ms. Cover said.
Although demand for copper will be poor and prices may fall over the next few months, it is "unlikely to test recent lows as financial conditions are improving and secondary supplies are sliding due to relatively low prices," said Bart Melek, global commodity strategist for BMO Nesbitt Burns Inc.
