China Commodities Call- Increasing signs of short-term slowdown from construction and appliances Macquarie Research,

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China Commodities Call
Increasing signs of short-term
slowdown from construction and
appliances
 Macquarie hosted two client visits to China last week with meetings in Beijing
and Shanghai with macroeconomists, sector specialists and commodities
specialists from upstream producers and downstream consumers. We also
went to Guangzhou to visit one of the biggest home appliance producers in
China.
 Overall, we came away with the view that the short-term outlook has turned
negative due to slowing construction activity (after a strong performance
earlier this year, sales are weakening and developers are getting squeezed)
and weakening export orders. We think that the credit tightening policies are
having a significant impact on growth from August this year.
 Further tightening measures may not be needed but loosening is not going to
happen until CPI inflation slows appreciably, in our view, and this may not be
evident until late-2011/early-2012. Chinese policy makers believe the money
supply in China is too large relative to GDP to be further stimulated after the
credit boom in 2009 and 2010. Inflation expectations in China are still high. So
the chance of further stimulus on monetary policy to support Chinese
economic growth is quite low in the short run. The employment rate is still
stable in China. It is more likely that the government will use administrative
policies to boost Chinese consumption rather than to issue more credit.
 We see copper becoming defensive around this level due to a pick up of
Chinese copper imports as a result of the end of the consumers’ destocking
cycle in the 1H11. Of course, there is still some copper sitting in the bonded
and SHFE warehouses in China with the majority of the inventory belonging to
the traders and a certain proportion of it locked for the warehousing financing
deal. However, we do expect some speculative buying coming in with further
price weakness in copper given the continuous bottleneck on global copper
supply for the medium term and a reasonably comfortable view about Chinese
economic growth for 2012.
 On iron ore, there is definitely room for prices to move down in the near term
but there are not signs that the market needs a severe correction.
Construction steel production appears to have overshot demand in recent
months and mills will need to adjust their production run-rates to bring the
market back to balance. At the same time, mills’ iron ore inventory has
pushed up to over 30 days – a level that saw them exit the market temporarily
earlier this year. However, as long as we don’t see a severe collapse in
construction activity, we'd expect production and inventory to be brought into
line sooner rather than later.
 As for other commodities like aluminium, zinc and nickel, prices are now
below the cash costs of some Chinese producers and we would expect
production cuts if this continues. We see prices relatively well supported near
the cost curve.