Investing in base metals can give good returns too

Investing in base metals can give good returns too

Like precious metals, base metals too can give good returns if the timing is right.

The interest of investors in commodity trading has been growing. Commodities have various investment options which can outpace other traditional investments. In the last one year, we have seen that the price of silver has more than doubled, soaring from Rs 25,750 to Rs 55,655 per kg, while that of gold has gained around 26 per cent from Rs 16,335 to Rs 20,682 per 10 grams.

Investors who had got on to the precious metals bus at the right time must be reaping good returns. But apart from precious metals, market experts believe that a number of base metals too, which include copper, lead, aluminium, zinc, nickel and steel, are another option for investment.

These metals, barring nickel, can also give handsome returns in the long term. We spoke to market experts and tried to find out why you should invest in base metals.

Why base metals
The prices of base metals are related to their overall demand scenario. As base metals are mainly used in industrial and infrastructure related activities, their overall demand is dependent on global economic growth.

India being among the fastest growing nations, it is obvious that the domestic demand for base metals will remain strong. Tarang Bhanushali, Assistant Vice President, Research, India Private Clients, IIFL, says: "The base metal is a space which can be used as a proxy play on the economic growth of major countries. A growing economy such as India is bound to increase its investments in infrastructure which will lead to higher demand for metals in this category.

Also, with supplies restricted, commodity prices are bound to move up as the pace in demand growth will beat increase in supply." Other than good returns, having a direct stake in commodities can also protect investors' portfolio from soaring inflation. The loss from the rise in overall prices will be made up for by the gains that accrue from the increase in commodity prices.

Watch out for...
Before investing in base metals, however, you should look into macroeconomic factors, the interest rate scenario and China's monetary policy actions, as that country is the biggest consumer of base metals. "Prices normally tend to rise during positive economic data reporting from China. Also movements of currency impact base metal prices. The recent interest rate hike by China has created fears of monetary tightening, leading to expectations of demand slowdown for base metals (in that country) and prices have fallen sharply from their highs," says Amarsingh Deo, Head, Commodities and Currencies Research, Aditya Birla Money.

There are several headwinds which can interrupt the movement of prices of base metals. Tapan Mishra, Head, Products, Ace Derivatives and Commodity Exchange, says: "Unaccounted inventories in China are giving a distorted picture of actual total supply. Rising inflation and interest rates in major developed countries, because of the recent jump in crude oil prices, has been leading to a slowdown in growth, thus affecting the demand for base metals."
For the long term
As a result of the recent earthquake and tsunami in Japan, it seems that the prices of base metals are likely to remain subdued in the short term. The global economy, markets and macroeconomic landscape have been trying to assess the impact of the devastating earthquake that shook northern Japan on March 11. Praveen Singh, Research Analyst, Base Metals, Sharekhan, says: "The Bank of Japan decided to inject around 70 trillion yen, or Rs 36.61 trillion (1 trillion equals 100,000 crore), in the financial system to stabilise the market and thereby the Japanese economy. The global economy has surely taken a hit, in the short-term at least. It is estimated that the Japan quake could cut the growth rate of the emerging nations. For example China's growth rate could be lower by half a percentage point."

Tarang Bhanushali, Assistant Vice President, IIFL
Growing economies will increase their investments in infrastructure, leading to higher metal demand: Tarang Bhanushali, Assistant Vice President, IIFL
At present, China's gross domestic product is $4,909 billion, which amounts to nearly 7.92 per cent of the world economy. Japan is the third largest commodity consumer in the world after the United States and China. However, in the medium-tolong term, these commodities will see demand from Japan on rebuilding prospects since base metals are used in infrastructure building. Sumit Verma, Research Analyst, Geojit Comtrade, says: "Japan's tsunami will create fresh demands for metals for their redevelopment process over medium to long term."

Jayant Manglik, President, Religare Commodities
Demand from China and other countries continues to support higher metal prices: Jayant Manglik, President, Religare Commodities
Jayant Manglik, president, Religare Commodities, says: "Demand from China and other countries continues to support higher metal prices. Global growth in the last decade has driven base metals prices to periodic new highs." As noted, during 2010/11, silver and gold touched their all-time closing highs of Rs 55,950 per kg and Rs 21,087 per 10 grams on March 24, 2011 and March 7, 2011 on Multi Commodity Exchange, or MCX, resp ectively. "The recent policy of quantitative easing of governments worldwide has again ensured firm base metal prices. Like all commodities, base metals pricing is driven by demand and supply but during the period of high demand, like now, even small supply glitches can lead to spikes in prices," he adds.

Investment options
Base metals such as steel, copper, nickel, zinc, aluminium and lead are trading on various commodity exchanges like the MCX and the National Commodity & Derivatives Exchange, or NCDEX. Let us take these commodities individually and try to understand how good they are from an investment point of view.

Copper: A key industrial metal used in housing and construction, copper is currently the most attractive investment avenue, due to the increasingly bullish supply demand fundamentals. Another important reason for copper demand is the bullish sentiment over the launch of copper exchange traded funds, or ETFs. JP Morgan is among the first which has made a filing with the US Securities and Exchange Commission for launching an ETF for Copper. This has boosted investment demand in the industrial metal. In 2010/11, the price of copper surged 21 per cent to Rs 428 per kg. However, experts are negative on copper for the short term. "Copper can fall to Rs 380 per kg in the short-term; but the metal is likely to rise sharply when Japan begins to rebuild its crippled infrastructure," Singh of Sharekhan adds.

Lead: During 2010/11, lead prices managed to gain around 26 per cent on the back of strong demand from the battery industry. The principal consumption of lead is in lead-acid batteries, which are used in vehicles, and in emergency systems, as well as in industrial batteries found in computers and forklift trucks. Lead demand has managed to keep growing as demand for lead-acid batteries expands as more and more cars are produced.

During March 2006 to March 2011, lead prices rose 130 per cent to Rs 120.75 per kg mainly due to strong battery demand in China. "We remain bullish on lead as supply from mines will be curtailed and demand from the automobile sector and the industrial battery sector is expected to remain robust," says Bhanushali of IIFL.

Aluminium: The price of aluminium is likely to remain strong on the back of robust demand from the automobile sector in the long term. However in the short term, market experts believe there may be some correction due to increased political tensions in West Asia and North Africa. Also, Japan, Asia's biggest importer of aluminium, may cut down its imports as some of its factories are shut because of damage during the earthquake-cum-tsunami or following the resultant power shortages. During 2010/11, the price of aluminium on MCX gained 12.54 per cent to touch Rs 116.20 per kg. "Aluminium price surged with demand from the recovering global market. The auto sector has been one of the largest drivers of aluminium demand, especially in the US and China. The short-term outlook for aluminium is mixed. The bearish sentiment is on the back of increased tensions in West Asia and a spike in crude oil prices, which threatens the global economic recovery. Overall, the long-term trend is bullish and we expect prices to continue their rally and see another 10-15 per cent jump," Geojit's Verma added.

Nickel: The metal has gained 4.39 per cent in 2010/11 to reach Rs 1,175.10 per kg. Market experts believe that it has been moving up because of good demand from the stainless steel sector and supply concerns emerging from the mine strike in Vale, the Brazilian mining company that owns the Voisey's Bay nickel mine. However, in the upcoming period it seems that the price of metal can come under pressure.

Kunal Shah, Head, Commodities Research , Nirmal Bang Commodities, says: "The outlook for nickel remains negative as the restart of production in the mines which accounted for major supply concerns has put pressure on its price." Zinc: Its price witnessed a fall of nine per cent in the first half of 2010/11, but recovered in the second half finishing at Rs 104.65 per kg on March 31, 2011, lower by just 1.74 per cent against that on March 31, 2010. "The sovereign debt crises in Europe, inflation fears in China, weak housing data in the US and excessive supply of zinc kept prices under pressure," says Sandeep Joon, Senior Research Analyst, Commodities, SMC Global Securities.

About the future prospects of zinc, Joon says zinc prices will remain firm in the near to long term as the casting and automobiles sector demand will keep its prices well supported. Japanese reconstruction and demand from emerging economies will give a further boost to the prices. Zinc prices may remain in the range of Rs 105 to Rs 120 per kg in the near term while it may touch Rs 140 per kg in long term in the domestic market.

Steel: During the financial year ended March 31, 2011, steel prices rose by around six per cent to Rs 30,600 per MT. Market experts believe that steel witnessed a rally due to decrease in the supply by China. "Steel prices have witnessed a rise last year as cutback of production in China coupled with rise in coking coal prices supported prices. In India, the price rally began in mid-December 2010 on the back of supply disruption of coking coal from Australia," says Reena Walia, Research Analyst, Base Metals, Angel Broking. Energy efficiency measures in China such as including rolling power cuts and assessing new projects for energy wastage - to try to meet its energy efficiency targets - affected steel production in 2010. But these have now been lifted. This may help to ease the supply-side constraints but the overall rise in input costs will continue to be a supportive factor for an upside in steel.

"We expect the uptrend in steel prices to continue and expect steel to test levels of around Rs 29,500 per MT in the short-term and rise further to around Rs 31,000 per MT in the long term," Walia added.

A new financial year has just begun. In summing up it seems that if investors add some base metals, barring nickel, to their portfolios, it can help them hedge against rising inflation. It could also help to generate good returns by the end of the financial year.

Courtesy: Money Today