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COMMENTS

China Commodities Watch: 2020 Outlook And Health Check


China Commodities Watch: 2020 Outlook And Health Check

2020 Sector Outlook

Table 1

2020 Price Outlook: Aluminum Gains, Coal Slips, And Cement Stabilizes
Sector Key trends Key things to watch
Oil Flattish oil price amid soft demand Progress of China Oil & Gas Pipeline Network Corp; impact of IMO 2020 on refining margin
Coal Coal price under pressure; non-fossil-fuel sources continue to outgrow thermal power Coal import policy; impact of weather on renewable power generation
Steel Demand to grow faster than supply; strict controls on new capacity; normalization of iron ore price How fast iron ore price falls--this will determine steel margins
Chemicals Chemical spreads stay weak on sluggish demand Ban of single-use plastics
Cement Stable growth in both volume and price; industry rationalization to continue Overcapacity remains an overhang
Gold U.S. Fed rates stabilize Geopolitical events
Aluminum Aluminum demand stronger than that for alumina Sustainability of demand
IMO 2020--International Maritime Organization 2020. Source: S&P Global Ratings.
Coronavirus likely to be a high-impact, short-lived event

The coronavirus is spreading fast and having a significant impact on the Chinese economy. S&P Global Ratings expects demand for commodities to be affected over the next several months with factories and construction sites in most provinces shut until at least Feb. 9, 2019, and with travel significantly curtailed. The recent weakness in commodity prices reflects such dynamics.

Demand and prices will gradually rise as the outbreak eases. Our base-case projection is that the health crisis will stabilize globally in April, with virtually no new transmissions in May. To support the economy in the aftermath of the outbreak, the government may increase investment in infrastructure. We expect steel and cement to perform better than other commodities.

We anticipate a one-off impact on operating cash flow and, therefore, leverage. Over the next several months at least, as the outbreak plays out, companies may be challenged to obtain refinancing and maintain sufficient liquidity. We believe larger companies are in a better position to manage liquidity.

Oil: Flattish price resulting in stable credit metrics

We expect Chinese oil companies' credit metrics to remain robust given our assumption of a largely stable oil price. S&P Global Ratings assumes US$60 per barrel for Brent in 2020 and US$55 per barrel in 2021 and onwards, versus a 2019 average of US$64 per barrel (see chart 1).

Chart 1

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Chart 2

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China's domestic crude oil production was about 190 million tons in 2019, flat year over year. Crude oil imports in 2019 amounted to 506 million tons, up 9.5% from 2018, as refinery throughput increased by 7.6% to 652 million tons, driven by new refining capacity (see chart 2).

We expect China's oil demand growth to soften in 2020 as economic growth slows from 6.1% in 2019 to 5.7% in 2020 (S&P Global Ratings estimate). Even though our auto team expects China's auto sales will turn around from an 8.2% decline in 2019, the growth rate in 2020 will only be 1%-2%. The International Energy Agency forecasts growth in Chinese crude oil demand will be 0.41 million barrels per day (mbpd) in 2020, down from 0.63 mbpd growth in 2019 (see table 2). Those calculations were made before the coronavirus crisis--the outbreak will certainly bring those numbers lower.

Table 2

Oil Supply Should Handily Match Demand In 2020
mbpd IEA OPEC EIA
2018 2019 2020 2018 2019 2020 2018 2019 2020
Demand
Global 99.3 100.3 101.5 98.8 99.8 101.0 100.0 100.8 102.1
YOY (%) 1.1 1.0 1.2 1.4 0.9 1.2 1.4 0.8 1.3
China 13.0 13.6 14.0 12.7 13.1 13.4 14.0 14.5 15.0
YoY (%) 0.5 0.6 0.4 0.4 0.4 0.3 0.7 0.5 0.5
Supply
Non-OPEC 62.9 64.8 67.0 62.5 64.3 66.7 63.5 65.5 68.1
OPEC NGLs 5.5 5.5 5.6 4.8 4.8 4.9 5.4 5.4 5.1
Call on OPEC 30.9 29.9 29.0 31.6 30.6 29.4 31.1 29.8 28.9
mbpd--Million barrels per day. IEA--International Energy Agency. EIA--Energy Information Administration. YoY--Year on year. NGL--Natural gas liquids. Source: International Energy Agency, OPEC, Energy Information Administration.

Assuming flattish oil prices, we expect refining margins in China will be largely stable in 2020. However the risk is to the downside given the overcapacity seen in the sector.

The International Maritime Organization 2020 sulfur requirement on bunker fuel may boost refining margins. However the magnitude and duration are uncertain and we have not factored in any impact in our base case to the Chinese national oil companies (NOCs). Given that Brent has been falling lately due to the coronavirus outbreak, with the benchmark at around US$56 per barrel, refining margins will be weaker in the first half.

Chart 3

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The China Oil & Gas Pipeline Network Corp. was established on Dec. 9, 2019. Transaction details--mainly what assets and at what price will be spun off from the three NOCs and injected into the new entity--are not yet available. Given 70% of China's pipelines are owned by China National Petroleum Corp., the potential impact on this firm will be more significant than on the other two NOCs.

Coal: Prices strained in 2020

We assume coal prices in China will fall by 10% in 2020 from 2019, primarily driven by weak demand and rising supply. Moreover, government policy works against coal price increases.

China's thermal power generation grew by 1.9% in 2019, the lowest growth since 2015 (see chart 4). The China Electricity Council forecasts China's total power generation to grow by 4%-5% in 2020, greater than 2019's 3.5% growth. As new power capacity will mainly come from non-fossil-fuel sources, we expect the growth in thermal power generation will come below that of growth in total power production.

Chart 4

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Chart 5

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China's raw coal production reached a five-year high of 3.75 billion tons in 2019. Despite a phasing out of inefficient and non-compliant energy sources, China has been adding coal capacity. We believe the government would rather see abundant supply than supply shortages. We expect another 100 million tons of capacity to come on stream in 2020, mainly from Inner Mongolia, Shaanxi, and Xinjiang.

We also believe the government drive to reduce social costs for corporates, including power costs, will limit power plants' ability to absorb higher coal prices. According to the National Energy Administration, power costs for corporates fell by Chinese renminbi (RMB) 84.6 billion (US$12.2 billion) in 2019 due to a 10% tariff cut.

The government will likely treat imports as a balancing force for the domestic market. The government will allow more imports during seasonal shortages, and reduce imports when domestic supply is abundant, we expect. The goal is to maintain a flat to reduced coal price while avoiding excessive volatility. The price of China's Qinhuangdao coal (5,500 kcal/kg) averaged RMB588 per ton in 2019, basically flat from the RMB593 per ton seen in 2018 (see chart 6).

Chart 6

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Steel: Improved market fundamentals to bolster profitability of mills

We expect China's steel demand growth to slightly outpace that of steel supply in 2020, though both will post low single digit growth rates.

China's crude steel production rose 8.3% to a record of 996 million tons in 2019. This was mainly driven by new capacity of 42 million tons per annum (mtpa).

Due to a healthy steel spread, we estimate the average plant utilization rate increased to about 85%-88% in 2019, compared with 70% or lower before 2017. Production cuts, or outright halts, to address pollution in 2019 were not as common as prior years.

Despite the spread of the coronavirus, most steel mills kept their blast furnaces running during the Lunar New Year. If the coronavirus crisis persists, we expect transport bottlenecks, causing steel mills to possibly cut output in March.

We expect crude steel production growth to slow in 2020. S&P Global Platts forecasts capacity addition of 20 mtpa in 2020, and that crude steel output will increase 2%. On Jan. 23, 2020, the National Development and Reform Commission suspended replacement and greenfield projects, to curb production growth.

Chart 7

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Chart 8

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We expect China's steel demand to grow 3%-3.5% in 2020, mainly driven by real estate and infrastructure, while demand from the manufacturing sector will remain sluggish. We expect growth in real estate investment will slow in 2020 from the 9.9% level seen in 2019, given tight fund flows into the sector.

Growth in infrastructure investment--rolled out to support the economy--will accelerate from 3.8% last year. Robust issuance of local government special bonds in the year to date affirms this trend. We expect auto output to post low single digit growth in 2020, compared with a 7.5% decline in 2019, in line with our auto sales projections.

We assume the price of iron ore will average US$80 per ton in 2020, down from US$93 per ton in 2019, as iron ore production recovers. The four largest seaborne iron ore suppliers will increase their production by 3.5%-7.1% in 2020 in aggregate (see table 3). This should support steel margins (see chart 9).

Table 3

Major Iron Ore Miners' Production Should Recover In 2020
mt 2017 2018 2019e 2020f Expected rise in mt output in 2020 (low case) Expected rise in mt output in 2020 (high case)
Vale 367 385 315 340~355 25 40
Rio Tinto 349 353 325 336~347 11 22
BHP 268 275 278 273~286 0 8
Fortescue 170 170 168 170~175 2 7
Total 1,154 1,183 1,086 1,119~1,163 38 77
YoY % increase 3.5 7.1
mt--Million tons. e-Estimate. f--Forecast YoY--Year on year. Source: company disclosures.

Chart 9

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Chemicals: Conditions will test corporate resilience

Faltering demand growth will remain the key risk to product spreads in 2020. Despite a phase one trade deal struck between the U.S. and China in January 2020, most chemicals traded between the U.S. and China remain affected by tariffs (see chart 10). As such, we expect China's chemical exports to remain lackluster this year, which is an extension of the 2019 trend (see chart 11).

Chart 10

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Chart 11

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In our view, a rebound in domestic demand growth for chemical products looks unlikely in 2020. Notwithstanding a slight recovery in China's manufacturing purchasing managers' index toward the end of 2019, we expect that a slowing construction market, moderating industrial growth, and a sluggish automotive sector will continue to drag on demand for chemicals this year.

A number of production facilities will enter the market in 2020, especially those making high-density polyethylene, polypropylene, and monoethylene glycol. These new facilities are located along China's coast, which will intensify the competition with imports and strain prices and margins.

Chart 12

image

The Chinese government's ban on single-use plastics will lead to poorer polyethylene and polystyrene margins. As consumer behavior changes, it may increase demand in other chemicals, such as polypropylene and polyethylene terephthalate, which may be used as reusable and recyclable substitutes.

Cement: Production rationalization to support prices

We anticipate cement prices will stay elevated over the next 12-24 months. Investment in real estate and infrastructure will likely remain resilient, supporting cement demand.

On the supply side, production rationalization among cement producers will continue. Cement production will likely face more restrictions given state environmental measures.

The coronavirus outbreak will weigh on cement demand and prices amid construction delays. As soon as the spread is contained, we expect construction work to resume and may even speed up to make up for some of the work stoppages during the outbreak. In addition, the government may increase investment in infrastructure to support the economy.

Overcapacity remains an overhang for the Chinese cement industry. Designed annual production capacity of clinker stayed at 1.82 billion tons at the end of 2019. Some capacity addition came from the construction of production lines approved in 2016 or before. We expect slow progress in cutting excess capacity in 2020. Around 30 mtpa clinker capacity will likely start production within the year.

Gold: Macro factors continue to largely support gold prices

Gold prices hit a six-year high of more than US$1,550 per ounce in early September 2019, a healthy average increase of 18% for the year amid a tepid macroeconomic outlook, low interest rates, geopolitical instability, and global trade tensions. We believe these factors will continue to gird demand for gold, for which we assume a US$1,400/ounce price in 2020-2021.

Following three rate cuts in 2019, the Federal Reserve signaled steady interest rates in 2020, which may constrain any upside to the current price of gold.

We anticipate growth in output of mined gold from the major Chinese gold companies to remain largely stable to moderate in 2020. Zijin Mining Group Co. Ltd. will likely see low double digit growth in output in 2020, should the company complete the newly proposed acquisition of Continental Gold Inc.

Chart 13

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Aluminum: Aluminum to recover while alumina market remains challenging

The year 2019 was challenging for the industry, especially for alumina producers. The year ended with a 2% year-over-year drop in the price of aluminum and with a 10% drop in the price of alumina. Aluminum production declined by 1% compared to 2018. Alumina producers faced serious challenges during the year, as alumina capacity increased quickly and aluminum demand was weak. Major alumina producers took decisive measures to maintain profitability, including closing lossmaking plants.

We expect the profits of aluminum producers will recover in 2020, lifted by a rising aluminum price. We assume the price of aluminum to average US$1,900 per ton in 2020, supported by slower growth in smelting capacity in China, low inventory levels, and long-term demand growth. At the same time, alumina producers will continue to face challenges. We expect alumina price to remain at low levels.

Health Check Of China Commodities Credits

Table 4

Batch Of Chinese Commodities Firms Are Coming Against Their Downside Triggers
Company Rating Outlook Sector Downside trigger* 2020e 2020e vs trigger (%)
Within 20% of downside trigger
Zijin Mining Group Co. Ltd.§ BBB- Watch Neg Gold Debt/EBITDA > 3.0x 3.0x 0
Yankuang Group Co. Ltd. BB Stable Coal EBITDA/Interest < 2.0x 2.1x 5
Yanzhou Coal Mining Co. Ltd. BB Stable Coal Parent EBITDA/Interest < 2.0x 2.1x 5
China Baowu Steel Group Corp. Ltd. A- Stable Steel Debt/EBITDA >3.0x 2.7x 10
Baoshan Iron & Steel Co. Ltd. A- Stable Steel Parent debt/EBITDA >3.0x 2.7x 10
Xinjiang Zhongtai (Group) Co. Ltd. BB+ Stable Chemical EBITDA/Interest < 2.0x 2.3x 12
Sinochem International Corp. BBB+ Stable Chemical Parent FFO/Interest < 2.5x 2.8x 12
Sinochem Hong Kong (Group) Co. Ltd. A- Stable Chemical Parent FFO/Interest < 2.5x 2.8x 12
China National Chemical Corp. Ltd. BBB Stable Chemical EBITDA/Interest < 1.5x 1.8x 20
China National Bluestar (Group) Co. Ltd. BBB Stable Chemical Parent EBITDA/Interest < 1.5x 1.8x 20
Zhaojin Mining Industry Co. Ltd. BB+ Stable Gold Parent EBITDA/Interest < 2.0x 2.4x 20
China Petrochemical Corp. A+ Stable Oil & Gas Debt/EBITDA > 2.5x 2.0x 20
China Petroleum & Chemical Corp. A+ Stable Oil & Gas Parent debt/EBITDA > 2.5x 2.0x 20
Within 20%-50% of downside trigger
China Hongqiao Group Ltd. B+ Positive Aluminum FFO/Debt toward 20% 0.245 23
Guangyang Antai Holdings Ltd. B Stable Steel Debt/EBITDA substantially > 5.0x 3.7x > 26%
Shanghai Huayi (Group) Co. BBB Stable Chemical Debt/EBITDA > 3.0x 2.1x 30
Wanhua Chemical Group Co. Ltd. BBB Stable Chemical Debt/EBITDA > 2.5x 1.7x 32
China National Gold Group Co. Ltd. BBB Stable Gold EBITDA/Interest < 2.0x 2.7x 35
China Gold International Resources Corp. Ltd. BBB- Stable Gold Parent EBITDA/Interest < 2.0x 2.7x 35
Yingde Gases Group Co. Ltd. BB- Stable Chemical Debt/EBITDA > 3.5x 2.1x 40
China National Petroleum Corp. A+ Stable Oil & Gas Debt/EBITDA > 2.0x 1.1x 45
More than 50% from downside trigger
China Minmetals Corp. BBB+ Stable Metals EBITDA/Interest < 2.0x 3.1x 55
China National Offshore Oil Corp. A+ Stable Oil & Gas Debt/EBITDA > 2.5x 1.1x 56
CNOOC Ltd. A+ Stable Oil & Gas Parent debt/EBITDA > 2.5x 1.1x 56
Pingdingshan Tianan Coal Mining Co. Ltd. BB- Stable Coal Parent EBITDA/Interest < 1.0x 1.6x 60
Shandong Gold Group Co. Ltd. BBB- Stable Gold EBITDA/Interest < 2.0x 3.8x 90
China Oilfield Services Ltd. BBB+ Stable Oil & Gas FFO/Debt < 20% 0.383 92
Aluminum Corp. of China Ltd. BBB- Stable Aluminum Parent EBITDA/Interest < 1.0x 2.0x 100
Anhui Conch Cement Co. Ltd. A Stable Cement Debt/EBITDA > 1.0x Net cash N.A.
Shandong Energy Group Co. Ltd. BB Stable Coal Debt/EBITDA materially above expectation 4.3x N.A.
CITIC Resources Holdings Ltd. BB- Positive Oil & Gas Debt/EBITDA materially above expectation 6.4x N.A.
*Financial trigger only, other triggers not included. §Does not factor in the latest acquisition e--Estimate. N.A.--Not available. Source: S&P Global Ratings.

We have a stable outlook for most of the Chinese commodities companies we rate. Robust commodity prices in 2017 and 2018 supported their credit metrics. Despite price softening in 2019, their financial performance remained generally healthy. Steel companies are the exception. These saw significant declines in profit from a strong 2018 due to the spike in iron ore prices starting in early 2019.

Zijin Mining is the only company on CreditWatch with negative implications. Its ratings buffer has been tightening since the acquisitions of Nevsun Resources Ltd. and Rudarsko Topionicarski Basen Bor Grupa in late 2018. In December 2019, the company announced the acquisition of Continental Gold and we put the company's ratings on CreditWatch. Although we expect the company's operating cash flow will increase in the next 12-24 months and leverage will start to fall, its debt-to-EBITDA may stay above 3.0x. Similarly, we expect Zhaojin Mining Industry Co. Ltd.'s leverage will decline when its Haiyu mine starts operations in 2022.

Even as robust coal prices in the past three years have boosted Yankuang Group Co. Ltd.'s operating cash flow, elevated capex has constrained its ratings buffer. We already assumed a falling coal price in our forecasts, and a material deviation from this projection is unlikely in our view. We do not expect a significant difference in financial performance from our base case.

The aforementioned iron ore price spike affected China Baowu Steel Group Corp. Ltd.'s credit metrics, as did weak auto sales in 2019. Based on our assumptions that iron ore price will retreat as global supply recovers and auto sales resume growth, we expect Baowu's debt-to-EBITDA will improve.

Chemical companies have faced weaker chemical spreads since 2019 as the economic outlook dimmed. As a result, their rating buffers have generally been tighter. Sinochem Group's leverage should drop after raising RMB11.56 billion from the sale of a 20% stake in its energy business at the end of 2019, which was not in our base case. At the other end of the spectrum, China National Chemical Corp. Ltd. and Xinjiang Zhongtai (Group) Co. Ltd. may face ratings downgrade pressure if the deterioration in chemical spreads exceeds our expectation.

Related Research

Research Updates:

  • West China Cement Ltd. Rating Withdrawn At The Company's Request, Jan. 20, 2020
  • Qinghai Provincial Investment Group Rating Lowered To 'D' On U.S. Dollar Bond Default, Jan. 14, 2020.
  • Shandong Yuhuang Chemical Co. Ltd. Ratings Discontinued, Jan. 9, 2020
  • Zijin Mining Group Co. Ltd. 'BBB-' Rating Placed On CreditWatch Negative After Proposed Acquisition, Dec. 6, 2019
  • Yuhuang Rating Lowered To 'D' Due To Onshore Bond Default, Nov. 29, 2019
  • Yuhuang Rating Lowered To 'CC' On Imminent Default Risk; Outlook Negative, Nov. 22, 2019
  • China Shenhua Energy, Subsidiary Ratings Withdrawn At Company's Request, Oct. 23, 2019
  • West China Cement Ltd. Upgraded To 'BB-' On Low Leverage; Outlook Stable, Oct. 20, 2019

Bulletins:

  • Rising Domestic Capital Spending To Fuel China Oilfield's Growth, Jan. 15, 2020
  • CNOOC Ltd.'s Strong Production Growth To Support Higher Capex, Jan. 14, 2020
  • China's Opening Up Of Its Oil And Gas Sector Will Increase Competition, Jan. 9, 2020
  • Sinochem-ChemChina Asset Transfer: A Step Closer To Merger, Jan. 8, 2020
  • Zijin Mining's Equity Issuance Reduces Gearing; Further Deleveraging Will Be Slow, Nov. 26, 2019

Full Analyses:

  • China Baowu Steel Group Corp. Ltd., Dec. 16, 2019
  • Baoshan Iron & Steel Co. Ltd., Dec. 16, 2019
  • Xinjiang Zhongtai (Group) Co. Ltd., Dec. 3, 2019
  • Shandong Gold Group Co. Ltd., Nov. 12, 2019
  • China Hongqiao Group Ltd., Oct. 29. 2019
  • West China Cement Ltd., Oct. 28, 2019
  • Wanda Group Co. Ltd., Oct. 17, 2019

This report does not constitute a rating action.

Primary Credit Analysts:Danny Huang, Hong Kong (852) 2532-8078;
danny.huang@spglobal.com
Lawrence Lu, CFA, Hong Kong (852) 2533-3517;
lawrence.lu@spglobal.com
Christine Li, Hong Kong (852) 2532-8005;
Christine.Li@spglobal.com
Ronald Cheng, Hong Kong (852) 2532-8015;
ronald.cheng@spglobal.com
Crystal Wong, Hong Kong (852) 2533-3504;
crystal.wong@spglobal.com
Calvin Ge, Hong Kong (852) 2533-3560;
calvin.ge@spglobal.com
Betty Huang, Hong Kong (852) 2533-3526;
betty.huang@spglobal.com
Allen Lin, Hong Kong (852) 2532-8004;
allen.lin@spglobal.com

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