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Citigroup worries about sharp correction in nickel price

Citigroup’s equity research unit Tuesday expressed worry about a sharp correction in nickel prices, calling the supply demand situation “an accident waiting to happen.”
Author: Dorothy Kosich
Posted: Wednesday , 06 Jun 2007

RENO, NV -

While Citigroup has increased its long term nickel price projection from $4/lb to US$6/lb, metals analysts Alan Heap and Alex Tonks termed the supply-demand situation "an accident waiting to happen."

Noting that "nickel prices have been resilient under an accumulation of bearish news, supported by a short squeeze," the analysts declared that they don't believe "these conditions will last. A combination of increasing supply and demand destruction will bring a sharp correction in prices."

In their analysis published Tuesday, Heap and Tonks expressed concerns that the nickel market is "unstable, and prices could halve over a few months when the fundamentals begin to bite."

Nonetheless, Citigroup also forecasts that primary nickel demand in the major consuming economies will increase 10%, while global demand will rise 8%. Several factors could harm primary demand, however, including stainless destocking, substitution of high nickel alloys, and substitution of primary nickel by scrap.

Although LME nickel stocks have doubled from their April low point, Citigroup noted that "total reported stocks remain low and the market is still fundamentally tight."

Meanwhile, they also asserted that "the surge in production of nickel in pig iron presents an important source of new supply and one of the most important threats to the sustainability of high prices." Their research determined that New Caledonia exports are displacing Philippines ore for nickel in pig iron production.

"Production of nickel in pig iron reached 30kt of contained Ni in 2006, up from virtually zero in 2005," Heap and Tonks wrote. "We now estimate that production in 2007 will be around 70kt, and by year end running at 100ktpy." In the meantime, pig iron capital costs are almost zero although producers may be required to produce a higher quality product, they suggested.

Citigroup estimated pig iron operating costs to average US$8-$12/lb.

Among the factors which could cause a sharp decline in the pig iron production:

* A fall in the nickel price
* Environmental problems involving mines in the Philippines and at blast furnaces
* Governments may restrict or ban the export of nickel ores. "This seems highly likely and such proposals have already been made in Indonesia and New Caledonia."

In contrast to the supply outlook for other base metals growth, "growth in nickel supply will be determined by the outlook for a few major projects," Citigroup suggested.

Citigroup's analysis asserts that barriers to nickel entry into commodity markets are increasing. "Most of the new supply will be from laterite projects [accounting for more than 90% of new supply] which are expected to face high capital costs and technical challenges."

Capital costs for new laterite projects average US$11.33, sulphides US$4.50, according to Citigroup.

"The cash cost curve is expected to continue to steepen on a trend basis, and industry average cash margins to widen as a consequence," the analysts predicted.

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