Nickel - A Compelling Demand-Side Trade

Rating: Buy

Entry price: $11,500/lb

Target price: $12,500/lb

Stop loss: $11,300/lb

Expected Return: 8.7%

Reward / Risk: 5:1

This report will take a bullish stance on the 6-12 month outlook for spot nickel. Demand-side drivers and consideration of the validity of renewed concerns about a supply spike from the Philippines will be discussed. Analysis will then guide outlook on price movement and a suitable trading strategy.

According to Antaike, a Chinese consultancy firm, 85% of the demand for nickel comes from its use in stainless steel, an iron alloy consisting of 8%-12% nickel. While the alloy is used extensively in household good production, the bulk of demand originates from construction. Chinese demand for stainless-steel in large part drives the price of nickel, as they produce 50% of global output. Chinese growth optimism burgeons from Xi Jinping’s championed SEO (State-Owned Enterprise) reforms. That said, the short-medium term will be primarily driven by existing trends of a pick-up in Chinese demand. We do see risk here however due to weaker than expected Chinese economic data released in mid-November, but stronger quarterly growth since Q1 2017 remains on track.

Demand for nickel also arises for its use in batteries, which last year netted 3% of total demand, but is projected to rise to 7% by 2020 - partly driven by Chinese plans to add 120 gigawatt-hours capacity by 2021. Although outside of our 12-month price horizon, this will drive speculators into the market. Lastly, the IMF global growth forecast was upwardly revised from 3.2% to 3.6% for 2018, showing ‘firming recovery’ in the global setting. A pickup in growth will drive stainless steel demand as construction tends to follow the global growth pattern.

Figure 1: Nickel Stockpiles. Source: Bloomberg

Figure 1 illustrates steady stockpiles since mid-2016 at a level below the 2015 peak of over 250%. This reinforces the popular view that oversupply is on the downtrend, but risks are present in this expectation.

The Philippines earlier this year proposed lifting a ban on open pit mining, but this is still in flux as President Rodrigo Duterte still strongly supports the ban. Any reduction in scope of the ban would induce a supply spike and downward price pressure. In the medium term however, there is risk of relaxation of the ban as Environmental Secretary Roy Cimatu pursues a worker sympathetic agenda. Despite this threat, the market may not be phased. We can draw parallels from the market response to the lifting of Indonesia’s nickel export ban in January 2017. Market participants clearly rejected the threat of oversupply from Indonesia as nickel experienced a trough-peak 45.8% price increase this year. This casts doubt on the downward price pressure that can be reasonably expected from regulatory amendments the Philippines.

Figure 2: Nickel Spot price. Source: Bloomberg

As per Figure 2 nickel broke the 200-day moving average (ma) in late July, then re-tested in late September and established it as support. Following this it broke the 50-day ma in early October and re-tested to establish it as support in late October. Analysis projects nickel to continue this bullish run and a return of 8-9% on the trade should be targeted, entry around re-confirmed ma support of $11,500 and exit as price nears $12,500.

It is anticipated that this long position should be entered in late 2017 but early 2018 may also be a suitable timeframe. However, there is risk that quicker and more severe short-term supply-side development in the Philippines could see nickel trend lower. Therefore, a distinct break below the 50-day ma should be established as a stop loss. For entry at $11,500 a stop loss of $11,300 should be set – giving a 1:5 risk : reward ratio.

To provide a summation, despite the most recent statistics yielding lacklustre view of the Chinese economy, the next 6-12 months should see rising nickel demand as enlarged seasonal fluctuations materialize. Battery application will provide upward pressure, and overall demand should be bolstered by an upswing in global growth in 2018. Supply is providing the most uncertainty, and as such developments in the Philippines will dictate much of the price movement over the coming months and should be closely monitored.