- Focus on Metals: Gold outperforms bonds and equities to date in 2010

TORONTO, Sept. 22 /CNW/ - After rallying in July, Scotiabank's Commodity Price Index, which measures price trends in 32 of Canada's major exports, posted another gain in August - rising 1.6 per cent month-over-month (m/m) - and will likely advance further in September.

"The All Items Index is rebounding from last spring's correction, triggered by the Euro-zone sovereign debt crisis," said Patricia Mohr, Vice-President, Economics and Commodity Market Specialist at Scotiabank. "While still below last April's high-water mark for 2010, the All Items Index is 26.7 per cent above the cyclical low in April 2009."

The Metal & Mineral Index led overall commodity prices higher in August (+4.7 per cent m/m) with broad based gains in base and precious metals, molybdenum, sulphur and uranium. The Agricultural index also posted a modest gain of 0.3 per cent m/m, as the Canadian Wheat Board's asking export price for wheat climbed 18.8 per cent above a year earlier. Wheat prices have advanced further in September (+35 per cent year-over-year). Russia, the world's third-largest wheat exporter last year, has extended its export ban on wheat and feedgrains until November 2011 in view of a severe drought across the Former Soviet Union-12. In contrast, the Oil & Gas Index edged down by 0.2 per cent m/m and the Forest Products Index eased by 0.7 per cent m/m.

"Potash prices, FOB Vancouver, have largely treaded water in 2010, edging down from US$347.50 to US$342.50 per tonne in August," added Ms. Mohr. "However, BPC has announced price increases for Brazil and Southeast Asia - agreed to by Canpotex - and these increases, about US$20, appear to be going through in SE Asia. Nitrogen and phosphate fertilizer prices are currently on fire - boosted by the big run-up in corn and other grain and oilseed prices in the past three months."

While the U.S. corn crop is expected to be a record in 2010-11, rising domestic demand for ethanol (a gasoline additive) and strong export volumes (e.g. to China for hog production) will cut U.S. corn stocks as a percentage of total use to the lowest level since 1995-96. The net result, corn prices on the CBOT have surged to a lucrative US$5.08 per bushel. Corn normally requires heavy fertilizer application (nitrogen, phosphates and potash) - pointing to strong fertilizer demand next spring.

"Spot gold prices reached a new record high of US$1,292 per ounce in early trading today," said Ms. Mohr. "As of September 21, spot gold had advanced 17.4 per cent from December 31, 2009 - outperforming U.S. 10-year Treasury bonds, yielding a total return of 11.8 per cent including capital gain and the interest coupon - and the S&P 500 Index, up only 2.2 per cent excluding dividends."

However, of the 32 commodities in Scotiabank's Commodity Price Index, premium-grade hard coking coal prices have increased the most this year (up 75.8 per cent through September). While LME copper prices increased by only 4.8 per cent through September 21, the margin on copper over average world break-even costs (including depreciation) for mining companies is higher at 61 per cent than for gold at 52 per cent.

According to the report, three developments have recently boosted gold prices: 1) concern over high government debt and deficits relative to GDP in both the United States and many Euro-zone countries, calling into question the integrity of paper currencies - in particular the two reserve currencies; grid-lock in the U.S. Congress has prevented addressing the fiscal imbalance; 2) expectations that the Federal Reserve may employ more 'quantitative easing', following the Fed's September 21 statement that it is prepared to provide additional liquidity, if needed, to revive a lackluster U.S. economy and to stoke uncomfortably low inflation (tending towards deflation); and 3) general economic and financial market uncertainty. Gold prices will soon test the US$1,300-1,350 mark.

"Copper prices continue to outperform at a lucrative US$3.49 per pound in mid-September, yielding the highest profit margin for mining companies of the four key base metals," continued Ms. Mohr. "The funds have recently re-established long positions in copper on fundamentally tight supplies and upward revisions to China's copper demand growth to 13 per cent for 2010 and at least eight per cent in 2011, after an extraordinary 28 per cent gain in 2009, excluding any strategic stockpiling by China's State Reserve Bureau or by Chinese fabricators. While China's GDP growth will almost certainly slow in 2010:Q3, copper demand is expected to pick up again by late 2010. China largely drives the global copper market, accounting for almost 40 per cent of world demand compared with the United States' 8.5 per cent."

Global copper mine production has only increased by 1.4 per cent per annum from 2006 through 2009 - not keeping pace with demand growth. Major mining companies were reluctant to go ahead with projects at the top of the last business cycle in 2007-08, when capital costs were escalating rapidly. While 2011 will see the beginning of some new mine development, supply/demand conditions are expected to be in greater deficit in 2011 than in 2010 (despite only slow demand growth in mature G7 countries). It will not be until 2012 before mine expansion begins to catch up with world demand.

The most noteworthy copper mine developments and expansions in the next three years will include: in Canada (Copper Mountain, Wolverine, expansions at Gibraltar and Highland Valley); in Mongolia (Oyu Tolgoi of Ivanhoe Mines & Rio Tinto); in Chile (Andacollo, Andina expansion, Candelaria expansion, Caserones, El Teniente expansion, Esperanza, Los Pelambres expansion, Spence expansion); in Peru (Antamina expansion); in Zambia (Kansanshi, First Quantum; Lumwana, Equinox Minerals; and in the D.R. Congo (Tenke-Fungurume SxEw).

Scotia Economics provides clients with in-depth research into the factors shaping the outlook for Canada and the global economy, including macroeconomic developments, currency and capital market trends, commodity and industry performance, as well as monetary, fiscal and public policy issues.