Julius Baer: Iron & negatives rates

Redacción - Sabado, 27 de Agosto

• 
• 
• 
• 
• • 
  • 
  • 

Carsten Menke,

Commodity Research, Julius Baer

 

COMMODITIES

Iron ore: High-cost supplies are returning

 

The iron ore market is showing surprising strength. Since the beginning of the month, prices have moved back above USD 60 per tonne. We believe this strength is mainly a reflection of positive sentiment rather than improving fundamentals. Iron ore demand from Chinese steel mills has moved beyond the seasonal peak and should continue to fall over the coming months. Chinese steel production is unchanged from last year, despite the government’s stimulus measures. While steel inventories are below last year’s level, they were building again more recently. Taken together with persistently high exports, which have led to increasing protectionism around the world, this signals overproduction. We do not believe that the current strength in steel prices will last. Meanwhile, we are observing signs that higher-cost iron ore supplies are returning to the market. Exports from Middle Eastern and West African producers to China have picked up again this year, adding to ongoing low-cost supply growth from Australia and Brazil. Hence, we remain of the opinion that the iron ore market is oversupplied and expect prices to come down. This morning, China-traded prices are down more than 4%. 

Positive sentiment rather than improving fundamentals is supporting the iron ore market. Due to falling demand from China’s steel mills and rising supplies, we expect prices to come down from today’s levels. We reiterate our short-recommendation as well as our hands-off stance towards the miners.

Markus Allenspach

Head of Fixed Income Research

 

FIXED INCOME

How negatives rates are having a rising impact on credit markets

We reckon the rising risks of the policy of negative interest rates. Money flows into riskier segments of the financial markets, in particular sub-investment grade bonds and emerging market bonds/equities as investors seek to achieve a minimal yield. While we advise our clients to avoid the distorted EUR bond market, we continue to participate from the implied gains of emerging bonds. But we follow the situation carefully; the valuation of the latter has improved faster than the fundamentals have improved.

We regard the level of government bond yields and high-grade non-financial corporate bond yields as unsustainable – for two reasons. First, European banks need a massive amount of government debt and non-financial corporate bonds to fulfil the regulator’s liquidity coverage ratio. The European Central Bank has driven the yield of most of these assets down or even into negative territory. We are concerned that European banks are thus generate losses on the holdings they need to satisfy the LCR requirements. This cannot go on forever. Second, we are optimistic that the global economy will continue to grow and that inflation rates will normalise. In such an environment, it is a question of time only for bond yields to move higher.

As outlined above, we regard the situation as unsustainable. That said, the “search for yield” will go on for some time. Investors ready to react swiftly on changes in the money flows can still buy emerging market debt, both in hard currency and local currency. Bank stocks, on the other side, will remain under pressure as long as the compression of interest margins and the negative return on liquidity continues.

[Volver]