Stockpile will keep lid on zinc's cream

It’s been a long time since anyone got excited about zinc, but one of the world’s top commodities consultancies reckons the price could double over the next few years, potentially lighting a fire under the handful of Australia’s pure play zinc stocks.

Sometimes treated as the world’s least interesting metal, there has been a recent burst of optimism that the price of zinc is set for an upward run. Wood Mackenzie, the UK-based experts, told clients last week that the price was poised to rise from its current US87c a pound to around $US1.75/lb.

Enticing as that might sound there is no need for investors to go hunting for zinc stocks, just yet.

The case for investing in zinc, which is mainly used to protect steel from rusting, has been obvious for several years and rests largely on the recent closure of several large mines, with more to close in the next two years.

The case against zinc is a whopping stockpile amassed during several years of gross over-production, and the potential for Chinese zinc producers to crank up supply at the first whiff of the price rising back toward the $US1 per pound mark.

For Australian investors there is the added challenge of finding a pure-play zinc stock of reasonable substance now that control of Broken Hill stalwart, Perilya, has passed to Chinese interests. And most other zinc mines are part of companies with diversified interests such as Independence Group, which also produces nickel and gold.

What triggered the latest outburst of zinc optimism was the release last week of Wood Mackenzie’s analysis, which echoed an equally optimistic assessment by one of the world’s biggest zinc miners, Glencore Xstrata.

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Not surprisingly, some of Australia’s pure-play zinc exploration stocks reacted positively to the forecast, with Ironbark Zinc rising by 1.4c (28.5%) over the past week to trade at 6.3c, its highest price since late September, before easing back to recent sales at 5.8c.

With a potential world-class prospect on its books in the Citronen zinc deposit at the remote top end of Greenland (with the North Pole next stop), Ironbark could one day become a major producer of the metal. This is a view shared by two of its financial supporters, the world’s biggest producer of zinc metal, Nyrstar, and one of the biggest miners of the material, Glencore Xstrata.

However, at its latest price, Ironbark is still only half-way back to its peak price of the past year, at 12c.

Talk of a zinc revival has been commonplace for several years and was put forcefully to me last year during a conversation with the chief executive of Glencore Xstrata, Ivan Glasenberg.

A man with a reputation for making long-term, and very profitable investments in mineral production and metal trading, Glasenberg set out his case for zinc by pointing to the closure of mines such as Brunswick and Perseverance in Canada earlier this year, to be followed next year by Lisheen in Ireland and then by the big Century mine in Queensland.

Layered on top of the mine closures, a theme which can be found at the heart of the Wood Mackenzie case for a near-doubling of the zinc price over the next few years, is a lack of mine development. This problem is being exacerbated by limited zinc-focused exploration (because the metal price has been low) and a lack of investor and bank support for mine development.

Australia’s next big zinc mine, the Dugald River development of Chinese-controlled MMG, is running late thanks to an ongoing technical review, which means a proposed start-up date of 2015 is unlikely to be met.

Wood Mackenzie’s interpretation of the mine closures and sluggish rate of replacement is echoed by Glencore Xstrata, which is hardly surprising as it has most to gain from a rise in the zinc price.

The head of zinc trading at Glencore Xstrata, Daniel Mate, told London’s Financial Times newspaper last week that “there is likely to be a structural deficit in the zinc market in the short- to medium-term future” – a remark identical to what his boss, Ivan Glasenberg, told me in July last year.

Eventually, Mate and Glasenberg will be right in their forecast of a global zinc-supply shortfall. The problem is picking the time when their views flip from wrong to right, because the truth about the zinc price is that it really hasn’t done much for the past two years – sagging to around US80c/lb, and never rising above US90c/lb.

Zinc has firmed by around US3c/lb over the past few weeks, but slipped back marginally overnight as the dead-weight of a massive stockpile measured at 1.1 million tonnes squashed any hope of an immediate price recovery.

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At its current level, that stockpile is equivalent to 10 weeks of zinc demand. Five years ago the stockpile measured just 190,000 tonnes and was sufficient for about two weeks of demand – though it’s also worth noting that the zinc price when the stockpile was much lower was around US50c/lb.

Glencore, Wood Mackenzie and the Canadian resource financier, Scotiabank, are reading the signs emanating from the zinc market (mine closures and few major new developments) as pointers to a significant recovery in the price of the metal.

Other observers are far more cautious. Big investment banks, such as J.P. Morgan, Credit Suisse and Citigroup, see zinc struggling up into the US90c/lb range over the next two years, and not going much further.

J.P. Morgan is the most optimistic of the trio, tipping a price of US88c/lb in the current quarter, and then moving between US95c/lb and US98c/lb during most of 2014, with the $US1/lb mark reached around the end of next year – though with the long-term outlook being US91c/lb.

Credit Suisse is far gloomier with a price forecast of US85c/lb next year, rising to US90c/lb in 2015. Citigroup says US84c/lb next year, rising to US93c/lb in 2015.

For most investors, those conservative price forecasts sit curiously alongside the optimism of Wood Mackenzie’s $US1.75/lb, Scotiabank’s $US1.50/lb and Glencore Xstrata’s Mate, who reckons the world will need more than 2 million tonnes of fresh zinc supply by 2016.

What needs to happen before anyone starts to seriously bulk up on exposure to zinc, either through the handful of pure-play zinc stocks such as Ironbark (IBG), Terramin (TZN), KBL Mining (KBL), or YTC Resources (YTC), is for that 1.1 million tonne stockpile to show the start of a meaningful decline.

There have been hints of a slide in the stockpile over the past six months, but every time it dips a little there has been a fresh inflow of surplus material.

For anyone subscribing to Glencore Xstrata’s and Wood Mackenzie’s optimistic view of the trend in zinc prices it would best to think about buying, but to not act until there is a clear recovery trend in sight.