For over five years the dry bulk market has been buoyed by China’s commodity buying binge. After the global financial crisis of 2008/2009 Beijing’s $1 trillion plus stimulus package spurred dry bulk rebounds during uncertain times. Now that it’s over, what happens next?
Binge buying. China’s commodities binge is over. Now what happens?
Beijing propelled the most recent surge in the price and production of many global commodities when it poured more than $1 trillion into an unprecedented stimulus package after the 2008-2009 global financial crisis. China’s free-spending government underwrote a construction boom, a housing boom and an infrastructure boom, all economic fireworks that necessitated lots and lots of raw materials, many of them imported. That came on top of China’s longstanding and voracious appetite for commodities needed to fuel its energy and industrial production. China is now the world’s most dominant commodities consumer. It accounts for more than 50% of the global copper market, half of the worldwide nickel and aluminum markets and almost half of the global market in coal and zinc, according to a research report issued by Barclays Bank earlier this year.
“China is all about metals,” said Flemming Jegbjærg Nielsen, a senior analyst with Danske Bank, who follows China.
As the price of various commodities skyrocketed in 2010 and again in early 2011, production ramped up in commodities-rich countries like Brazil and Australia to meet that increased demand from China. Producers spent billions of dollars on new projects (see article below) designed to take advantage of China’s then-current requirements and what was expected to be a prolonged era of ever expanding needs.
Not so fast. This year, China’s commodities appetite is experiencing a serious case of heartburn. The housing and construction markets cooled. Manufacturing has slowed. Energy usage has moderated, with much more attention paid to renewable and less polluting sources.
The Chinese government has tried to rein in profligate lending and other questionable banking practices. That has impacted the commodities markets as well in China. Metals such as iron ore can be used as collateral for loans in China. And even industrial metals are the source of speculative frenzy. “A lot of Chinese companies regard commodities as financial assets,” Nielsen explained. “They use them for speculative purposes.”
Metals speculators were forced to begin liquidating stockpiles as banks tightened up on collateral requirements and became much more cautious on lending against commodities.
The price of many commodities fell back to earth, although volumes held up better.
Commodity Issues
Then, in early July, Chinese equities prices collapsed as a grossly over-inflated stock market full of dubious companies at ridiculously high valuations finally burst. Some commodities followed. The price, for example, of platinum, used in making coins, jewelry and certain car parts such as catalytic converters, tumbled to 2009 levels. Iron ore prices dropped 11% in a single day and while they’ve recovered a bit, they’re still 73% off their 2011 peak and 47% lower than one year ago.
There’s little evidence that kind of performance will turn around soon. Iron ore stockpiles in China are at a record high, with Reuters reporting granaries being used to store excess supply.
Just how bad is it? Evan Lucas, a Melbourne, Australian-based analyst for brokerage IG Markets, came up with this gem: In China, a ton of steel now costs less than a ton of cabbage.
China is to commodities what Taylor Swift is to music. There are a whole lot of players out there, but very few of them can so dramatically move the needle. Add to that a kind of speculative fashion to China’s relationship to commodities that can either brighten or dull luster.
In China, “there’s a lot of speculation around commodities,” said Nielsen. He cautions that the precipitous drop in price doesn’t by definition reflect a permanent softening of the country’s needs. “You can’t necessarily take the decline in commodity prices as a decline in real demand.”
Nonetheless, it appears the days of unfettered commodities hunger in China are over.
The Hangover
From Canadian mine operators to Greek ship owners, everyone is now trying to figure out what China’s commodities requirements will be, not just over the next several weeks and months, but in the years ahead. That’s no easy task. Set aside the usual business vagaries, the gyrations of the stock market and the conventional wisdom that China’s economic growth will slow in the years ahead as the export-driven engine has largely run its course. Chinese planners, state enterprises, bureaucrats, banks, businessmen and hundreds of millions of consumers are jostling for position and are moving, often at cross-purposes.
There is some consensus about broad economic direction, however.
“Fundamentally, the economy is rebalancing on two fronts,” wrote the metals and mining research firm Wood Mackenzie in a report earlier this year. “As the effects of the investment-driven 2009 economic stimulus begin to wane, it is now slowly moving towards consumption with the center of economic gravity shifting away from the coast towards the inland region.”
That shift will have a dramatic effect on many commodities.
On one extreme is coffee. According to the Barclays report, demand for coffee beans in China over the past five years has been growing at rates four times the economic growth. Barclays predicts coffee bean consumption will continue to grow about 25% a year until 2020. This reflects both consumer wealth and changing tastes.
Cotton is on the other side of the ledger. China is no longer the dominant producer of shirts and other garments and the textile sector will continue to diminish in importance, analysts believe. Cotton demand has already fallen precipitously, with imported cotton down one-third for the first half of this year. It is expected to decline even more in the years ahead. Barclays predicts cotton consumption will fall on average almost 6% annually for the next half decade.
Industrial metals are in between. “The era of double-digit metals growth is now over,” wrote Barclays. It predicts that industrial metals growth rates will “slow very sharply over the next five years” as the country’s economy transitions. While China will continue to be the single-biggest metals consumer in the world, Barclays believes, its share of global demand for industrial metals will decrease substantially.
That equation can affect metals not so directly tied to industrial production. Barclays predicts copper consumption, for example, will increase on average 3.25% per annum over the next half-decade. On the one hand, China won’t be as aggressively expanding its electrical grid, a big consumer of copper, as it did over the past five years. On the other hand, Chinese consumers are expected to buy more and more household appliances, cars and mobile phones, all of which use copper.
Foodstuffs represent a much more complicated, nuanced and harder to decipher picture. Analysts expect wheat and rice consumption won’t grow at all. According to Barclays and other research, China has already transitioned to higher quality, more protein-driven diet. Its meat consumption is now on par with Korea and Japan. That means demand for soybeans, corn, pork and beef will be moderate in the years ahead, with low, single-digit growth projected.
Barclays, however, points out that as meat production in China becomes more industrial and less homegrown, there will be greater dependence on soy and corn as feedstock. The USDA predicts China will account for a whopping 70% of global soybean imports by 2023.
There are major shifts in foodstuff suppliers as well. Ukraine, for example, now accounts for almost 90% of China’s imported corn. The US is now a much distant second. Its exports to China are a tiny fraction of what they were when it began selling large quantities of corn to China about six years ago.
China’s domestic agricultural producers can also play a spoiler’s role. While Chinese sugar farmers, for example, produce less than half their Brazilian counterparts on a per-acre basis, sugar imports last year fell by 23% as local producers undercut the price and cut into the Brazilian business. That comes as sugar consumption in China is pretty much flat. Barclays predicts growth to be about 2% a year for the next half decade, reflecting population growth more than increased usage. A growing awareness on nutrition will also limit demand, Barclays writes.
