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Global Economics
Patricia Mohr (416) 866-4210
[email protected]
Best Wishes for the Holiday Season!
December 18, 2014
Scotiabank
Commodity Price Index
Year-End Review and Outlook for 2015

Top ‘Picks’ for investors in 2015 — Zinc, Nickel and OSB.

WTI oil prices at US$56 are ‘over-sold’ — soon to trigger a sharp correction in U.S. drilling activity,
bringing supply back into line with demand. Oil prices will snap back by mid-2015.

M&A activity will heat up in the oil sector, while ‘non-core asset divestiture’ will increase in mining.
Scotiabank’s Commodity Price Index dropped -4.8% m/m
in November (-6.1% yr/yr) and will end 2014 in a
‘deflationary’ mode. Significant capacity expansion and the
defence of market share by major oil and iron ore producers
— against a backdrop of lacklustre world economic growth —
account for the softness at the end of the year.
The decision by Saudi Arabia not to reduce output to shore up
international oil prices, but instead to allow prices to drop to
levels curbing U.S. ‘shale’ development appears to be having
a negative impact on confidence in a wide variety of other
commodity as well as equity markets. While lower oil prices
will boost U.S. & global consumer purchasing power and
spending, when oil prices fall to abnormally low levels
(broaching average production costs), the overall positive
impact on GDP growth is not as clear, and may in fact be
de-stabilizing in some oil-producing countries; the oil sector
& related industries account for over 11% of U.S. business
investment.
The Oil & Gas Index led commodity prices lower in
November (-9.9% m/m), though the year-over-year decline
was more limited at -4.9%. Energy prices will fall further in
December. Western Canadian Select Heavy oil (WCS)
has retreated to US$46.29 per barrel so far in December,
given the further plunge in WTI oil prices to an average of
US$62.29 (a mere US$55-56 mid-month) and a slightly
wider discount of US$16. Margin calls on WTI futures have
exacerbated the downward spiral in oil prices.
Oil Prices Move Into 'Over-Sold' Territory
100
60
0
120
100
WTI Oil Prices
80
Avg. Oil Production 'Breakeven
Costs' U.S. & Canada: US$60-61*
Iranian
Revolution
40
20
140
Record High:
July 11, 2008: US$147.90
120
80
*
US$ per barrel
140
Iraq
Gulf War
War
+
60
40
Arab Oil
Embargo
20
60 65 70 75 80 85 90 95 00 05 10 15 20
0
+ December 17, 2014: US$56.47.
* Mid-cycle breakeven costs including
royalties and 9% after-tax return for over
100 plays across U.S. and Canada;
excludes 'upfront' land acquisition costs,
seismic and infrastructure costs.
Commodity Price 'Sweepstakes'
Top Five Performing
Commodities in 2014*
'Picks' for 2015
(% price increase Dec 13/13 to Dec 15/14)
(yr end/yr end)
1) Sulphur (fertilizer),
FOB Vancouver
+
2) Cattle
3) LME Nickel
4) MW Dealer Cobalt
5) LME Zinc
6) Spot Uranium
7) LME Aluminium
+
8) Hogs
43.2%
Zinc
36.6%
19.8%
17.6%
11.6%
7.3%
6.7%
3.5%
Nickel
OSB
WTI oil prices below US$60 are heavily ‘over-sold’ and
are ‘unsustainable’ at that level. Prices are now below
‘mid-cycle break-even costs’ averaging US$60-61
across the United States and Western Canada (US$65
+
Memo Item: Palladium (London PM Fix) +12.2%; Prices in Ontario.
for SAGD bitumen in Alberta & US$69 in the North Dakota
* Among 32 commodities covered in the Scotiabank Commodity Price Index.
Bakken). A sharp, fairly rapid reduction in drilling activity in
the United States as well as in Canada is already underway
(please see charts on page 2). While oil companies will seek to maintain existing production, ‘decline rates’ in
North Dakota are rapid (35-40% per annum) and even higher in the Eagle Ford shale (45-55%).
Scotiabank Economics
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This report has been prepared by Scotiabank Economics as a resource for the clients of Scotiabank.
Opinions, estimates and projections contained herein are our own as of the date hereof and are
subject to change without notice. The information and opinions contained herein have been
compiled or arrived at from sources believed reliable but no representation or warranty, express or
implied, is made as to their accuracy or completeness. Neither Scotiabank nor its affiliates accepts
any liability whatsoever for any loss arising from any use of this report or its contents.
TM
Trademark of The Bank of Nova Scotia. Used under license, where applicable.
Scotiabank Commodity Price Index is available on scotiabank.com, Bloomberg at SCOT and Reuters at SM1C
December 18, 2014
Global Economics
Scotiabank
Commodity Price Index
U.S. upstream capital spending will drop by at least 20% in 2015 and production
growth will slow markedly within 12 months.
U.S. Drilling Activity
Starts To Be Curbed
20
Bitumen output in the Alberta oil sands does not experience rapid decline rates
and will be less affected in 2015, though capital spending will likely be cut by 20%.
There will also be an international supply-side adjustment — especially in Russia,
Iraq, Iran and West & North Africa (Libya) — eventually bringing world supply back
into balance with demand, setting the stage for a rebound in prices. While an
extended period of lower oil prices (sub-US$80) is expected over the next
several years, the percentage gain in WTI prices by late 2015 will likely be
double-digit (possibly 25% to US$70).
The Metal & Mineral Index edged down by -1.5% m/m in November, posting the
worst year-over-year decline of any sub-component (-10.4%). The 2014 decline was
centred in ferrous metals (iron ore & coking coal). Despite slower growth in
China’s steel production (+2.1% in 2014 YTD), the world’s three-largest iron ore
producers in Western Australia and Brazil — who are on the bottom of the world cost
curve and earn the bulk of their revenue from iron ore — decided to expand mine
capability and market share, deliberately driving out higher-cost producers as prices
fell (e.g. in the Labrador Trough and Western Africa). The net result, spot prices for
62% Fe, Fines delivered to northern China have plunged to only US$68.80 per
tonne in mid-December from US$136 a year ago. Contract prices for Western
Canada’s premium-grade hard coking coal bound for Japan & Asia also dropped
to US$119 per tonne in 2014:Q4 and will likely be US$117 in 2015:Q1 compared with
US$152 in 2013:Q4.
Base metals were a ‘bright’ spot in 2014 — largely ignored by equity markets —
and are among our ‘picks’ for investors in 2015. LME nickel and zinc ranked
No. 3 and 5 within the ‘Top Five’ best-performing commodities of 2014 —
among the 32 commodities covered in the Scotiabank Commodity Price Index — with
price gains of 19.8% and 11.6% respectively in the year through December 15, 2014.
Aluminium rallied in 2014, up 6.7% yr/yr, with strong global demand (e.g. for light
weighting in cars) catching up to smelter capability. Cobalt — a by-product of nickel
production in the Sudbury Basin — performed well (+17.6% yr/yr). However, a
focus by investors on copper, widely expected to edge down in 2015 alongside
ongoing mine expansion, seems to have taken the shine away from these metals in
equity markets.
Spot uranium prices bottomed in June 2014, given Japanese approval of two nuclear
reactor restarts, posting a 7.2% yr/yr gain to earn it a 5th place ranking. After a recent
election win, Japan’s Prime Minister is expected to push for additional reactor restarts
to boost a sagging Japanese economy. Spot prices climbed as high as US$44 in midNovember, before utilities backed away, with price resistance at the US$40 mark.
However, the base term-contract price has increased from US$45 to US$49, a
positive sign for a gradual recovery in coming
A Bull-Run In Cattle Prices
years. Cameco’s Cigar Lake mine in
180
180
Saskatchewan continues to ramp up towards 160 US$ per cwt (hundredweight)
160
18 million pounds by 2018.
140
140
The Forest Products Index drifted lower in
November (-1.5% m/m, -4.1% yr/yr), with a
seasonal falloff in lumber and OSB prices and
slightly lower NBSK pulp prices. Western
Spruce-Pine-Fir 2x4 lumber prices are
US$339 per mfbm in mid-December and will
average US$349 in 2014 — slightly below
US$356 in 2013. Only a modest improvement in
Fed Steer
Prices
120
Nebraska
100
80
80
Alberta
60
U.S. BSE-related Ban
Implemented May 2003
40
Data to November 2014.
00
02
04
06
08
10
12
15
U.S. Oil Rotary
Rig Count
10
10
December 12:
1,546 rigs, +9.6% yr/yr
5
5
0
Jan-14
Apr-14
Jul-14
Oct-14
0
Apr-15
Jan-15
Data Source: Baker Hughes Incorporated.
To date, the rig count decline has been
centred in vertical wells and, to a lesser
extent, horizontal wells. Canadian rig count:
oil-targetted -15.7% yr/yr, -6.0% YTD.
U.S. Drilling Activity — Shale Basins
35
yr/yr % change
30
35
30
25
25
Permian
20
20
15
15
Williston Basin*
10
10
5
5
0
0
-5
-5
Eagle Ford
-10
-15
Jan-14
Apr-14
Jul-14
Oct-14
-10
-15
Apr-15
Jan-15
Data Source: Baker Hughes Incorporated.
* North Dakota, South Dakota and Montana.
Nickel Prices
25
25
US$ per pound,
LME official cash
settlement price
20
15
10
2013
$6.80
2014e $7.67
2015F $9.00
2016F $11.50
Indonesia's ban
will turn today's
world supply &
demand balance
for nickel from
'surplus' to 'deficit'
by mid-2015.
20
15
10
5
5
Jan. 12, 2014
Indonesian Ore Ban
0
00
02
04
06
08
10
12
14
16
0
December 17, 2014: US$7.00.
Zinc — The Next Big Base Metal Play
2.50
2.50
US$ per pound
2.00
Zinc prices could
climb as high as
$1.60-1.70 in
2016-17
Zinc demand
will be
boosted by
greater auto
use of
galvanized
steel in China
1.50
1.00
2016F +
US$1.60
2.00
1.50
1.00
0.50
20
98
20
October 10:
1,609 rigs, +17.7% yr/yr
60
20
0
15
120
100
40
yr/yr % change
14
16
0
0.50
Credit Crisis
Late 2008
LME Zinc Prices
0.00
00
02
04
06
08
10
12
14
December 17, 2014: US$0.96.
2
16
0.00
December 18, 2014
Global Economics
Scotiabank
Commodity Price Index
U.S. housing starts to about 1 million units, up
from 930,000 in 2013, combined with mill
restarts checked lumber prices. Nevertheless,
a further gain to US$370 is expected for 2015
and US$390-400 for 2016, with housing starts
advancing to 1.2 million and 1.40 million
respectively. Stronger U.S. employment
conditions and the return of ‘first-time’ buyers
should buoy residential construction, despite
tight lending standards.
OSB prices will likely outperform in 2015,
with very high demand on North American
mill capacity expected in the second half
of the year. The mill restarts, which held
back prices in 2014, are now over.
The Agricultural Index edged down by
-0.2% m/m in November and is -3% below a
year earlier. However, cattle posted the
second-largest price advance of 2014,
driven to record levels in both Canada and
the United States by successive years of
herd liquidation. Herd rebuilding will take
time, with prices likely remaining lucrative for
cow-calf ranchers and feed lot owners in
2015.
Scotiabank Commodity Price Index
November 2014
Growth (per cent
Trends change)
Weights
(Compound Annual Growth Rates)
All Commodity Price Index
100.0
One
Month
-4.8
One
Month
-44.6
Three
Months
-31.1
One
Year
-6.1
Five
Years
0.4
Industrials
Oil & Gas
Metal & Minerals
Forest Products
84.7
39.9
30.1
14.7
-5.7
-9.9
-1.5
-1.5
-50.5
-71.3
-16.7
-16.8
-34.3
-47.7
-21.4
-10.8
-6.7
-4.9
-10.4
-4.1
-0.4
-1.3
-1.4
5.3
Agriculture
15.3
-0.2
-2.4
-13.0
-3.0
4.7
Index: January 2007 = 100
Nov
Oct
2014
Sept
Aug
2013
Nov
All Commodity Price Index
124.6
130.9
134.0
136.8
132.8
Industrials
Oil & Gas
Metal & Minerals
Forest Products
121.9
123.6
119.4
122.2
129.2
137.2
121.2
124.1
133.6
144.9
122.9
125.0
135.4
145.4
126.8
125.7
130.7
130.0
133.3
127.4
Agriculture
139.9
140.2
135.9
144.9
144.2
Re-designed Index: Net export weights in 2010, data re-estimated back through 2007, January
2007=100. As of April/May 2014, the Edmonton Par was replaced with MSW Light, Sweet Crude
Oil prices at Edmonton, with price differentials off WTI near-by futures from TMX/Shorcan Energy
Brokers.
Zinc & Nickel — ‘Picks’ for 2015
To build shareholder value in a lacklustre global economy, mining companies will focus on ‘divesting non-core assets’ and
‘spinning-off undervalued operations’ (e.g. Sudbury nickel). Ongoing capital spending discipline will continue. The
recent appreciation of the U.S. dollar on a trade-weighted basis (e.g. against the Canadian dollar, the Chilean peso and the
Peruvian sol) as well as soft diesel prices are significantly reducing mine operating costs in Canada and other countries. Diesel
accounts for as much as 30% of mine cash costs.
Zinc is a ‘Top Pick’ for 2015. Prices strengthened in the second half of 2014, averaging US$1.03 per pound, with investors
and commodity funds expecting zinc concentrates to move into a supply-side ‘deficit’ by 2016 alongside significant mine
depletion. Century — the world’s third-biggest zinc mine — is expected to close in 2015:Q3 and Lisheen in Eire by late 2015 or
early 2016. Prices remain resilient at US$0.96 in mid-December (9 US cents higher than a year ago), despite further signs that
China’s economy is slowing. The Flash Purchasing Manager Index (PMI) for Manufacturing in December edged down to 49.5,
slipping below the 50 demarcation line separating expansion from contraction (for the first time in seven months). This may
reflect a lull over the winter months in China’s construction activity. While China has recently lowered benchmark interest rates,
we would argue that further easing is warranted, in view of the downside risk for China’s economy.
On a more positive note, China’s motor vehicle sales (cars & light trucks) advanced by 9.2% through November 2014
and should grow by another 7% in 2015. Chinese domestic manufacturers are under pressure to increase the quality of their
motor vehicles, likely boosting the use of galvanized steel. The same trend is evident in India, where galvanized sheet should
increase from 7% of the weight of a car to 20% by the end of the decade.
In the first sign of a response by mining companies to the coming shortfall in zinc, Vedanta has announced its intention to
proceed with developing the Gamsberg zinc mine in South Africa (250,000 t/a by early 2018). We expect interest in ‘junior
mining projects’ in zinc to intensify within several years.
Nickel prices should also outperform in 2015, benefitting the Sudbury Basin, Thompson Manitoba, northern Quebec
(Raglan) and Labrador (Voisey’s Bay). Prices will climb from this year’s US$7.67 average to at least US$9.00 in 2015 (+17.3%)
and US$11.50 per pound in 2016. This largely reflects the impact of Indonesia’s ban on the export of all ‘unprocessed’ nickelcontaining ore on January 12, 2014, in a bid to encourage foreign buyers to upgrade ore in Indonesia. In 2013, Indonesian ore
3
December 18, 2014
Global Economics
Scotiabank
Commodity Price Index
accounted for a large 33.5% of world mined nickel, with large shipments destined for Nickel Pig Iron (NPI) plants in China
used to produce stainless steel. While China managed to step up imports of nickel-containing ore from the Philippines, as an
offset, the monsoon season has recently slowed Philippine shipments and further growth of Philippine exports to China will
not be sufficient to offset lost Indonesian supplies.
Nickel prices are expected to soar once NPI plants in China have used up their inventory on hand — forcing Chinese stainless
steel producers to turn to more costly imports of FeNi and nickel cathode. Progress in building ore processing facilities in
Indonesia has been slow, with renewed supply of ‘processed ore’ from Indonesia unlikely until late 2016-17 (one project will
start up). The global supply & demand balance for nickel is expected to turn from ‘surplus’ to ‘deficit’ by 2015:Q2, even
assuming a slower pace of stainless steel production gains in China (5.5% in 2015, after a 10% gain in 2014).
Palladium was the strongest of the precious metals in 2014, with a 12.2% yr/yr gain. Strong demand for auto
catalytic converters for small-engine gasoline-driven cars and supply constraints boosted prices.
Gold edged down in 2014, checked by a significantly stronger U.S. dollar and prospects for tightening U.S. monetary policy
by the spring of 2015. However, physical demand for gold has recently been underpinned by general economic uncertainty.
Scotiabank All Commodity Price Index 1
220
200
180
Growth Trends
(per cent, annual rate)
Last Year
-6.1
Last 5 Years
0.4
Index: Jan. 2007=100
220
200
180
160
160
140
140
120
120
100
All Items
100
80
80
60
60
40
All Items –
Inflation adjusted 2
20
0
40
20
72 74 76 78 80 82 84 86 88 90 92 94 96 98 00 02 04 06 08 10 12 14 16
0
1. A trade-w eighted U.S. dollar-based index of principal Canadian exports.
2. Index deflated by U.S. Producer Price Index for Intermediate Goods.
– Shaded areas represent U.S. recession periods.
4