KFC drive thru queues in Sydney

Over in Europe ,management reports that the German KFC restaurants continue to trade through take-away, drive-thru and delivery channels whilst certain Government restrictions have reduced dine-in turnover. SSS for the five-week period was -28%, a hefty fall, but a sizeable improvement over the initial sales drop at the onset of Covid-19. Sales continue to strengthen.

In the Netherlands, where dining in is banned, SSS for the last five-week period was -40%. Collins has been impacted by having a high degree of central city exposure, and these areas have been quiet. However, excluding these, the drive-thru restaurants have performed comparatively well, with SSS around -15% over the last five weeks of FY20.

Elsewhere, management notes that Taco Bell (which is in the early stages of a multi-year rollout plan) has seen sales rebound to pre-COVID levels. Sizzler Australia, has also now implemented take-away and home delivery services.

All in all, the update is very encouraging from Collins Foods, with sales in Australia performing very well, and the European operation starting to see an improvement. The expansion plan in the latter is clearly in a holding pattern for now, and we are not surprised to see that a key exec, Newman Manion, has transitioned back to a non-exec role. His appointment was always meant to be temporary and we are not concerned by this. We however continue to see tremendous upside earnings potential with Collins Foods’ European operation (and indeed Taco Bell in Australia), longer term.

The issue in Europe for now is that drive-thru is not as prominent in the overall mix. As a result, management has taken actions to ‘preserve cash’, minimising operational expenditure, and delaying capital expenditure where possible.

A positive for Collins is that Europe is a much smaller part of the pie versus Australia (which has around 6 times the revenue). While the expansion may now go into a holding pattern (and possibly until Covid-19 ‘flattens out’ or a vaccine is produced), the European footprint offers substantial blue-sky earnings potential in our view.

Meanwhile the Australian business is going well, and will likely maintain the previous momentum (robust same store sales growth) once restrictions are removed, and people are ultimately encouraged to go outside more.

Regardless of the timeline for the restoration of dine-in, Collins Foods is well placed in our view. We believe that Collins Foods’ business model is relatively defensive with its digital and delivery channel having built up and making substantial progress (and accounting for the majority of ‘normal’ turnover). It also helps that a number of food delivery apps are readily available to support this channel. This is also as the company’s balance sheet remains strong.

On the daily chart of CKF, the support line on the daily around $7.38 gave way during the virus crisis, and a bearish moving average crossover (where the 50 day (red line) goes below the 200 day (green line)) has evolved. Strong support however was encountered at the multi-year lows around $3.50, and has provided the foundation for a decisive bounce. A move back above the resistance line at $7.38 confirms the tide has turned upwards.

With reference to the monthly chart, support provided by the longer term uptrend has given way during the virus crisis, as did that at the  50% Fibonacci retracement of $5.89. This has since been reclaimed recently, and a move above back above the 38.2% Fibonacci at $7.05 and above the long term support line, confirms that the correction has run its course, and momentum is back with the bullish camp.

We retain a buy on Collins Foods for Members without exposure.

Shares in master franchiser Domino’s Pizza Enterprises have also performed well over the past month. While operations offshore have been impacted by the lockdown, delivery services have mostly continued unabated, and the company is also well positioned with Covid-19 infection and fatality rates plateauing in many countries. This is also while in Australia, delivery and takeaway sales will have been going strongly.

Domino’s released another Covid-19 update on 24^th April, and the company reported strong progress across a number of geographies.

Australian performance, of course, has been in full swing during the lockdown as it relates to food delivery, which is the crux of the company’s business model. SSS in Australian have remained ‘consistent’ at a national level. Across the Tasman NZ has had an effective ban on food deliveries (supermarkets the main exception), but this changed last week.

The kiwis have moved to a ‘Level 3’ lockdown and opened up for contactless food deliveries. As we have suggested this has seen a ‘surge’ in pent up demand for well branded ‘take-aways’ such as Domino’s. The company was well and truly prepared for this, and had offered 1,000 new jobs as part of the reopening. Anecdotally there has been strong demand for all things take-away in NZ in the first week of Level 3.

Meanwhile in Japan, food delivery is allowed and companies are scrambling to keep up amidst the pandemic. Domino’s Pizza Japan is aiming to take on 5,000 part-time employee including delivery drivers and 200 full-time employees from April to June. The company has more than 600 outlets in Japan, but it plans to expand to 1,000 over 2025-8. The company’s latest Covid update said that the sales performance in Japan has remained strong. The company is, as is the case elsewhere, pushing the message hard that is delivery measures are ‘safe’ and ‘contact-free.’

Source: Domino’s

In Europe, the story is similar. Delivery is allowed in Germany, and it has been leading the region. Re-openings have also occurred in France in the first week of April, with 70% of the store footprint in the country back up and running. Benelux sales have been more affected by a move away from carry-out sales. With Europe also starting to come out of the worst of the crisis, we believe that well branded delivery companies such as Domino’s should continue to flourish, as people’s sensibilities, and perhaps also pockets, may demand.

The company’s low price point means that its offering is relatively defensive even should consumers emerge from the lockdown with greater caution over the economic outlook and their expenditures. A strong store roll-out plan will also still likely occur over the next few years. And with more traditional retailers (e.g. clothing and other non-food retail stores) likely to come under pressure (and potentially shutter) as the consumer becomes more ‘wallet conscious’, ‘defensive foodies’ such as Domino’s may also benefit from the ensuing downward pressure on commercial rents.

While Covid-19 will have taken some momentum out of sales growth as the Domino’s targets $3 billion in sales this financial year, we continue to favour the stock. Indeed, we continue to see international growth as a key strength. The company has not provided short term guidance, but sees the ‘medium term’ outlook as unchanged, with new store openings up 7-9% this year, SSS +3-6%, and net capex of $60 to $100 million. Liquidity remains strong and Domino’s has undrawn committed debt facilities and cash in excess of $260 million.

Turning to the charts, and on the daily, DMP staged an upside reversal in August last year, coincident with a bullish moving average crossover (where the 50 day (red line) goes up through the 200 day (green line)). This has seen resistance around $47.85 cleared and provided the basis for further upside momentum.

On the monthly chart, after hitting highs around $80 in 2016, the stock entered a multi-year corrective phase. This appears to have terminated earlier last year, with support at the 61.8% Fibonacci at $33.87 not tested. A move above the 38.2% Fibonacci at $51.75, and towards the 23.6% Fibonacci at $62.81, since our initial coverage bolstered the outlook further, and opened up the way for further gains. This remains the case given the support region around $51.75 (which has recently been tested on the downside) has been reclaimed.

We continue to recommend Domino’s Pizza Enterprises as a buy for Members without exposure.

Disclosure: Interests associated with Fat Prophets hold shares in Colins Foods and Domino’s Pizza Enterprises.

As Members can see from the above chart, global GDP growth has collapsed into negative territory in the early part of 2020. This collapse occurred as key economies including China, the United States, the European Union, Japan the United Kingdom and a host of countries including Australia, literally shutdown.

Commodity prices were swept along in the turmoil, as demand “actual” and “forecast” collapsed. The nickel price was swept into the maelstrom. The following chart shows the nickel price (in US Dollar per tonne):

Source: Trading Economics

The nickel price had recently, as Members can see from the above chart, caught investor attention on the back of its use in lithium batteries. The source of this interest was the pending electric vehicle (EV) revolution with a lithium ion battery powerplant and the nickel content in these batteries. The arrival of the COVID-19 pandemic in very late 2019 and its presences still quick drove the nickel price down.

Already, as Members can also see from the above chart, the nickel price has recovered from recent lows, as the grip of the pandemic in some countries is already loosening. Many countries are now planning and implementing COVID-19 exit strategies.

The price recovery in nickel is under way as forecasts for global GDP growth improves, and the shape of its steep dive and recovery gains investor confidence. The following chart shows real global GDP growth forecasts including key economies:

Source: Reuters consensus

There is no doubt that Global GDP growth will be negative in 2020 being the peak year for the COVID-19 pandemic. The recovery is however forecast to be a classic “V” recovery. There are still risks in the pandemic, as countries move toward restarting economies, with the biggest being a second wave, given there is no readily available vaccine, so caution, in our view, is warranted.

The driver of this classic recovery is the concerted efforts by governments and central banks to “spend their economies back to life.” Governments cumulatively are spending trillions on stimulatory packages – Donald Trump alone is seeking a further US$2 trillion of spending. As a percentage of GDP, government fiscal spending for 2021 is forecast to turn negative. The following table shows forecast fiscal spending by the G20 countries as a percentage of total GPD:

Source: Bloomberg

G20 government fiscal spending in light of the COVID-19 pandemic is forecast to rise by circa 200 basis points to a positive 1.75%. This is a significant reversal in government spending that will, we believe, shape the global recovery and also act as a medium to longer term tailwind for commodity prices, including nickel, as this spending rolls out into each country’s economy. Adding to this tailwind are the actions of central banks in lowering and sustain at low levels cash rates. Cheap debt will allow economies to leverage recovery spending with higher dollar amounts.

A key takeaway with the consensus forecasts is that for China, the country first impacted by COVID-19, is the first looking to the light at the end of the tunnel. Although China’s GDP growth is forecast to slow significantly, it is expected to maintain growth. This is heartening, as China is the biggest consumer of nickel by far. Nickel demand was circa 2.4 million tonnes in 2019. The following chart shows China’s 2018 appetite for nickel as a percentage of total demand:

Source: International Nickel Study Group

With China moving toward normal life, post its brush with the COVID-19 pandemic, we would expect China’s demand for nickel to return. With nickel primary used in steel and China’s steel industry returning to post COVID-19 levels, bodes well for nickel demand out of China. Currently, some 70% of nickel is used in the manufacturing of stainless steel, with 5% going into batteries. The other usages are in alloys 8%, plating 8%, castings 8% and other 1%. The minor usages will play only marginable role in demand. We expect in the near-term that the steel industry will be the main driver of the nickel price, and we are of the opinion this industry has a robust future, given the expected government spending on infrastructure.

We recently reviewed the lithium market and the coming EV revolution. Our view on this market, has not changed, even with the advent of the COVID-19 pandemic. The production of auto batteries to power EVs will play a major role in nickels future. The reason the EV revolution is crucial to nickel is that a current EV battery requires some 50 kilograms of nickel for some 60% of a batteries content. There are battery applications being developed with that could see nickel usage increase to between 80% and 90% content. Nickels availability and cheaper price makes it an ideal substitute in batteries for the likes of cobalt and lithium. Members can view our Lithium report here.

With demand for nickel in a recovering, from the COVID-19 pandemic, global economy starting to look more secure, supply will also play a key role. We do expect to nickel production to remain robust over the years ahead. The nickel market was on our estimates in surplus in 2019 with nickel production coming in around 2.43 million tonnes, to give a surplus of 50,000 tonnes on demand of 2.38 million tonnes. In 2021 we expect nickel production will grow by around 4% on 2019, to 2.53 million tonnes, with COVID-19 have only a minor impact of production. Demand however will be impacted and although we expect a “V” shaped recovery in the global economy, demand will fall around 3% on 2019, to 2.3 million tonnes. The surplus will grow to 230,000 tonnes in 2021. We expect this surplus will shrink in 2022 and 2023 and beyond, as the first of several mega battery factories come on stream. We do however remain circumspect around the industry’s ability to sustain the supply of nickel.        

We believe the US Dollar will play a role in driving commodity prices higher with a view that the US Dollar should weaken. A key factor is building for this to occur. The aforementioned US fiscal spending programmes will swell already high debt levels, from the current circa US$23 trillion and spiral higher to put pressure on US Dollar. We see a weak US Dollar as a tailwind for commodity prices including nickel over the remainder of 2020 and 2021.

With the COVID-19 pandemic on the wane in China and many governments throwing major spending programmes at their economies, an inflection point for commodity prices including nickel is here. We do however remain cautious over the ability of supply to react. We will continue to seek out quality producers in the vein of Western Areas and Independence Group, which are both already in the portfolio, that have a low-cost profile and long-life production potential.

Disclosure: Interests associated with Fat Prophets hold shares in Western Areas and Independence Group.

Gold production for the June 2020 quarter was 26% higher year-on-year (yoy), at 108,612 ounces, with annual production 5.4% higher yoy, at 381,887 ounces.

The Atlantic mine, as Members can see from the above table, was the standout for the year, with annual production coming in ahead of 2020 guidance. While on the disappointing side was the Simberi mine with operational issues impacting performance over the year. The Gwalia mine operated as expected over the year.

Turning to the technical picture, and from a daily view there have been a number of encouraging developments since the March lows. Prices have moved above dynamic resistance at both the 50 and 200 day moving averages – being $2.72 and $3.18 respectively. A bullish moving average crossover has formed, and a new buttress has been established at $3.40. A near-term target is for a move above resistance at $3.77.

Data on the balance sheet shows that it remains in good shape at end June 2020. Cash stood at A$406 million and debts at A$316 million, to give St Barbara a net cash position of A$90 million. From the data provided we have no concerns over the structure of the balance sheet.

St Barbara did not provide cost details or 2021 guidance. Full clarity on costs will be provided with the release of the June quarter and full year operational results later in the month.

The June quarter and full year operational update revealed, in our view, a good result on rising quarterly and annual gold production for 2020. The result reflects the importance of the Atlantic acquisition, with this mine delivering an outstanding result for 2020.

On the monthly chart, downward momentum appears to have dissipated last year, after a deep correction from the highs around $5.32, with support coming in around the 50% Fibonacci retracement at $2.70. The subsequent bounce has seen $3.32 eclipsed, being the 38.2% Fibonacci retracement. The 23.6% Fib at $4.08 is in sight, as the next target.

Overall mine production returned, for the first time in two years, to gold production of over 100,000 ounces in a quarter (excluding production from the Atlantic acquisition). A production metric we were looking for when returning St Barbara to the portfolio back in February 2020. St Barbara will release its 2020 operational results on 29 July 2020, at which time we will provide a full review.

In the meantime, we continue to recommend St Barbara as a buy for Members who have an appropriate risk tolerance and medium to long-term investment horizon.

Disclosure: Interests associated with Fat Prophets holds shares in St Barbara.

The step-up in iron ore production, given Rio Tinto’s reliance on it, is the reason for our satisfaction with the result for the quarter. Bauxite was again a bright spot for Rio Tinto, on the back of another solid performance with alumina also adding a little more value to the aluminium segment. Unfortunately, the finished product for the segment, in aluminium, again disappointed. Copper again delivered a disappointing quarterly result, with Rio Tinto, it appears, yet to fully get on top of this segments ongoing operational issues. Overall, we view the operational result as reasonable and expect it will, thanks to iron ore, have a small positive impact on Rio Tinto’s first half result for 2020. Rio Tinto will report its first half financial result to 30 June 2020, on 29 July 2020.

Rio Tinto’s key commodity offering is iron ore and it delivered a good result for the June quarter. The following chart shows quarterly iron ore production:

Source: Rio Tinto

The segment delivered a 5.2% rise in production year-on-year (yoy), to 71.7 million tonnes. The Hamersley mines (Rio Tinto must purchase 100% of the iron ore produced from these mines) was the driver, with the group of mines delivering a 6.2% yoy increase, to 53.2 million tonnes. Operational availability and efficiencies, on better third-party demand drove the result.

Iron Ore Company of Canada (Rio’s interest 58.7%, IOCC) reported a rise in production for the quarter of 9.1% yoy, to 2.8 million tonnes of concentrate and pellets. An improvement in utilization levels, on better third-party demand, drove the result.

Rio Tinto kept its 2020 guidance for iron ore unchanged with a forecast in the range of 324 million to 334 million tonnes (100% basis). IOCC guidance for 2020 was also unchanged with a forecast in the range of 10.5 million to 12.0 million tonnes.

The aluminium segment delivered two bright spots for the June quarter, reporting better upstream and mid-stream performances. The following charts show quarterly production for both bauxite (left chart) and alumina (right chart):

Source: Rio Tinto

Up-stream bauxite production increased by 6.0% yoy, to 14.6 million tonnes. Rio Tinto’s Weipa operation drove the result, following the reporting of a 9.7% yoy increase, to 9.4 million tonnes. Driving the result were productivity improvements and infrastructure availability. Including Weipa, Rio Tinto reported increased production from three of its four sites for the quarter, with only its Porto Trombetas mine (Rio’s interest 12%) delivering a fall.

Mid-stream alumina production for the June quarter also came in higher by 6.0% yoy, to 2.0 million tonnes. Rio Tinto reported higher alumina production across all four of its refineries for the quarter, with its three key sites all reporting better quarterly numbers. The standout was Sao Luis (Rio’s interest 10%), following the reporting of a 9.3% increase yoy, to 945,000 tonnes. Queensland Alumina (Rio’s interest 80%) and Yanwun delivered yoy increases of 6.6% and 8.3% respectively, to 889,000 tonnes and 820,000 tonnes.

On 2020 guidance, bauxite production is forecast to be in the range of 55 million to 58 million tonnes and alumina in the range of 7.8 million to 8.2 million tonnes, with both unchanged.

Disappointing was downstream aluminium, following the reporting of a fall in production for the quarter, with the segment again failing to deliver. The following chart shows quarterly aluminium production:

Source: Rio Tinto

The segment reported a fall of 2.2% yoy, to 785,000 tonnes of aluminium for the quarter. Rio Tinto’s six wholly owned Canadian smelters drove the result, with the reporting of a 7.5% fall yoy in production, to 370,000 tonnes. Infrastructure availability was the primary driver of the result. The Becancour smelter (Rio’s interest 25%) was a bright spot, as it successfully ramps up, with the reporting of a 550% yoy increase in production, to 26,000 tonnes. At the other extreme, Rio Tinto has announced the closure of its New Zealand smelter, on operating cost grounds, and will wind down operations over the next 14 months. The Tiwai Point smelter (Rio’s interest 79.4%) contributed 82,000 tonnes to the segments June quarter. The results from its remaining aluminium smelters, for the quarter, were generally flat to marginally higher.

Production guidance the aluminium for 2020 remained unchanged and is forecast to be in the range of 3.1 million to 3.3 million tonnes.

The challenges faced by Rio Tinto’s copper segment have returned, with both mined and refined copper production numbers falling for the quarter. The segment has proven, like aluminium, to be difficult to manage.

Refined copper production headed the copper segments’ charge in the June quarter. The following chart shows quarterly refined copper production:

Source: Rio Tinto

Production of refined copper fell by 67% yoy, to 26,900 tonnes. The Kennecott operation drove the result, reporting an 89% fall in production yoy, to 7,200 tonnes. An earthquake caused the suspension of operations during the quarter, with the mine now heading back to normal operational levels. Rio Tinto’s other remaining site in Escondida (Rio’s interest 30%), reported a flat operational result of 19,700 of refined copper for the quarter, compared to 19,000 tonnes from a year earlier.

Pleasingly, refined copper production guidance for 2020 remained unchanged and is forecast to be in the range of 165,000 tonnes to 205,000 tonnes.

Mined copper also came in lower for the June quarter. The following chart shows quarterly mined copper production:

Source: Rio Tinto

The Bingham Canyon mine (part of the Kennecott operation0 was the primary driver after delivering an 11.25 fall yoy in production, to 36,500 tonnes. Mine sequencing and lower copper grades impacted the June quarter numbers. Escondida partially offset the Bingham Canyon mine performance, with the reporting of a 1.6% yoy increase in mined copper, to 84,000 tonnes. Oyu Tolgoi reported a modest fall in mined copper production for the June quarter, to 12,200 tonnes from 13,100 tonnes from a year earlier.

Mined copper production guidance for 2020 was unchanged and is forecast to be in the range of 475,000 tonnes to 520,000 tonnes.

Diamonds turned in a lower result for the June quarter 2020, following the printing of a 5.5% fall yoy, to 4.2 million carats. The following chart shows quarterly diamond production:

Source: Rio Tinto

The Diavik mine (Rio’s interest 60%) reported a fall of 18.9% yoy, to 963,000 carats and was the primary driver behind the lower result. Lower diamond grades drove the Diavik result. The Argyle mine reported a flat performance of 3.27 million carats for the June quarter compared to 3.29 million carats from a year earlier. Argyle operated as expected, however activities to cease production, on end-of-mine-life, by end 2020 are ongoing.

Guidance for diamond production in 2020 is forecast to be in the range of 12 million to 14 million carats and remained unchanged.

Turning to the charts and looking at the daily chart, our move back to a buy on Rio in early April has since coincided with a strong rebound in the share price. Resistance levels at $82.42 and $87.25 have been successfully probed, while that at $93.95 and more recently $103.27, have also fallen. A strong move above the red 50 day (red) and 200 day (green) averages adds to the positive picture, and a bullish moving average crossover (where the 50 day goes above the 200 day) is also forming. Our prediction a few months ago that ‘triple digit’ prices would return for Rio has proven on the money.

Looking at the monthly chart and Rio Tinto has made strong headway since 2016, taking out the 38.2%, 50%, and 61.8% Fibonacci retracements in the process. Support at $85.75 held up well during the Covid crisis, and a sustained move above the 78.6% Fibonacci retracement at $102.65 could well be in the offing.

Of Rio Tinto’s minor product offerings, gold, both mined and refined, reported significantly lower production numbers for the June quarter. Mined and refined gold production fell 43% each yoy, to 63,600 ounces and 30,100 ounces respectively. Rio Tinto reported lower numbers across all three of its gold producing sites in Bingham Canyon, Escondida and Oyu Tolgoi, on lower gold grades and the same factors that impact on primary metal production.

Exploration expenditure came in at US$136 million for the June quarter, representing a yoy fall of 16.6%. Central exploration consumed approximately 44% of the amount spent, copper and diamond exploration consumed 41%, energy and minerals 10%, with the remaining 5% spread across iron ore and aluminium. We believe Rio Tinto has enough Tier 1 assets that can generate future brownfield growth, without having to spend significant exploration dollars. Our view on this advantage has remained the same for some years and reflects the quality of Rio Tinto’s asset base.

We expect iron ore prices will be supportive over the remainder of 2020 and certainly beyond, when it comes to Rio’s financials.

We take comfort in Rio Tinto maintaining its 2020 guidance numbers and are of the view that its operations will have a modestly positive impact on the interim result, to be released on 29 July 2020.

Despite the recent rally in Rio Tinto’s share price, we believe the momentum is building in the broader economy, as government throw dollars at their economies. The ripple effects of infrastructure building will impact on commodity demand not just in 2020, but well into the years that follow. Consequently, our recommendation for Rio Tinto as a buy for Members with no exposure remains unchanged.

Disclosure: Interests associated with Fat Prophets holds shares in Rio Tinto.

As Members can see from the above chart, since March the iron ore price has gained around 23%, which is a very pleasing outcome for iron ore producers, including Rio Tinto and BHP. Certainly, in the months from March, the US/China trade war has receded, although rhetoric from US President Donald Trump on this topic is never far away. While the COVID-19 pandemic, although still having an impact, investor focus has shifted to the economic remedies to counter the pandemic and there has been a shift of the virus epicentre away from China. Both these events have proven to be very beneficial for the iron ore price.

The remedies come in the form of stimulatory programmes, as governments globally attempt to counter the economic impact of COVID-19. The following chart shows the forecast impact of COVID-19 on the Gross Domestic Product (GDP) for the world and key economies for 2020 and recovery in 2021:

Source: World Bank

It has been estimated that the total stimulatory spend in 2020 is fast approaching US$10 trillion, with the aim of this spending to stimulate GDP into a classic “V” shaped recovery, as clearly seen in the above chart.

Governments focus stimulatory spending programmes on infrastructure as a means to generating useful and longer term employment for their populaces. As an example, when building the Hoover Dam in the Great Depression, the US Government purchased 45 million pounds of reinforcement steel, 21.7 million pounds of gates and valves, 88 million pounds of plate steel and outlet pipes, 6.7 million pounds or 840 miles of pipe and fittings, 18 million pounds of structural steel and 5.3 million pounds of miscellaneous metal work. There was 96 million pounds of steel and metalwork used in support of building the dam (there is 2,204.62 pounds in a tonne), and 4.5 million cubic yards of poured concrete was used in the dams’ construction. In preparation for building, some 5.5 million cubic feet of earth was removed from the site and 1.1 million cubic feet of material brought in. A total of 21,000 persons worked on the dam and importantly, it took five years to build.

These are the exact types of worker numbers and employment period that governments of today are looking for with their dollars. Importantly, for commodities more broadly and iron ore especially, the demand impact on commodities to feed such a project. The Hoover Dam cost US$49 million in its day, which is perhaps around US$1.0 billion in todays’ costs. The multiplier effect of the US$10 trillion that goes into infrastructure, on commodity demand, could not be clearer, and especially for steel and ultimately iron ore.

China, as the major producer of steel to the world has not experienced any drop off in steel production, as the trade war raged and was replaced by the COVID-19 rage. The following chart shows China’s annual steel production on a monthly basis:

Source: World Steel Association

China’s steel production for the 12-months to May 2020 hit a record 999.8 million tonnes for a 4.1% increase year-on-year. Certainly, this growth rate is significantly higher than the annual 1.5% we had forecast for 2020. This is a great result, given that global GDP growth is forecast, by the World Bank, to be negative 5.2% for 2020 (see earlier chart of GDP forecasts). This growth has come as the global stimulatory spend is only just, we believe, getting underway, and if the Hoover Dam time frame fits, there is more years to come. Our expectation in March was to see such growth but not this earlier. There will be a moderation in growth in steel demand in the future, but we see this as being someway off, so China’s steel mills will plough ahead, we believe, for some years.   

The rub-off for iron ore, with our scenario playing out, is shown in the appetite China has for importing the stuff on a monthly basis over the past 12-months:

Source: China Customs

As Members can see from the above chart, there has not been any significant fall off in China’s demand for importing iron ore. China’s monthly imports of iron ore in the past 12 months has twice hit 100 million tonnes in a month, a feat reached only once before for the 12-months to January 2018, when the trade war was just a glint in Trumps eye and certainly no COVID-19. China’s peak appetite of 103 million tonnes of imported iron ore occurred in September 2017, with the latest May 2020 read sitting just below that at 102 million tonnes.

China’s steel industry has it appears passed unscathed, operationally, through the peak of the COVID-19 pandemic’s impact on that country. Although there are concerns of second waves impacting economies and physical operations including China, given how the Chinese steel industry navigated the initial and from ground zero outbreak, we expect a similar response outcome with any further outbreaks.

COVID-19 has been a global curse, but the remedies to repair the damage, economically, are now getting underway and this is what, we believe, is driving the iron ore price and will continue to do so well into the future. The next positive wave, economically and in human terms, will be a vaccine, the timing of which is for now unclear, but it will come.

Disclosure: Interests associated with Fat Prophets hold shares in Rio Tinto and BHP.

We espoused our year-end gold target upgrade on the collective action by governments to stimulate individual economies, to counter the economic disaster brought on by the COVID-19 pandemic. Accumulatively, spending has been estimated to be in the range of US$9 trillion to US$10 trillion. From a time perspective, little has changed since our June update, with only the narrative by governments tightening around a determination to defeat COVID.

We said in June that the onset of the COVID-19 pandemic had amplified several factors, we believed, would push the gold price higher over 2020. It appears we should have said “turbo charged.” 

With the gold price now sitting just below our year-end price range, some caution is now required, and we would not likely be chasing gold stocks at current prices.

So, what has changed in the past month that has further stimulated the gold price to hit a new record? There is one clear data read that captures growing government debt pools and growing government budget deficits and has, we believed, been the catalyst to push the gold price to a new record high.

When talking about gold, the focus much shift to the US, as gold is priced in US Dollars. On the US front, there has been a significant change in the rate of growth in the M2 money supply in the economy. The following chart shows the medium-term movement in M2 and the gold price (in US Dollars):

Source: US Federal Reserve

As Members can see from the above chart, there has been a clear acceleration in the rate of growth in the US M2 money supply. The M2 can be defined as M1 which consists of physical currency and coin, at call demand deposits and cheque accounts with the addition of near money being accounts that cannot be converted to cash as quickly.

The onset of COVID-19 has seen the US government directly provide wage supplements to its citizens, in a move to counter the loss of wages, as unemployment in the US skyrocketed. The following chart shows the US unemployment rate with the onset of the COVID-19 lockdowns:

Source: Trading Economics

These supplements are directly included in M2, and in doing so have accelerated the rate of its growth. More money circulating in the system, devalues fiat money on extra supply; a topic we have addressed on many occasions in our dailies. We would expect, as the unemployment rate in the US continues to require the US government to provide wage supplements, the US M2 will continue to expand at extraordinary rates and hence continue to drive the gold price higher, as the US Dollar deflates.

Already, as Members can see from the above chart, the rate of unemployment is on a downward trajectory, as the services sector in the US cranks back into activity. Some 71% of the US workforce is employed in the private service sector or around 108 million people, and it was this sector that was severely and quickly impacted by the lockdowns. In the near-term, we cannot see a scenario were this will change, until there is a readily available vaccine. The time horizon for a vaccine is as close as by years’-end and as far as two to three years. All we can add is “it will come” and likely, given the resources being thrown at the finding of a vaccine, soon rather than later.

Gold will continue to act as a “safe haven” in times of turmoil and uncertainty, with the COVID-19 pandemic certainly delivering on this front. The added pressure on the gold price has come from the direct stimulatory action of the US government. The following chart shows the long-term growth in US M2:

Source: US Federal Reserve

A scenario that was last seen in the wake of the Global Financial Crisis, with what was then extraordinary M2 growth rates and a gold price that hit a, then, new record. The difference to then and now is the direct nature of the current stimulatory packages and the quantum, some US$9 trillion to US$10 trillion compared to then circa US$4 trillion to US$5 trillion.

We will persist with our end-year price forecast for gold in the range of US$1,925 to US$2,000 an ounce and recommend that gold stock not be chased in the current gold pricing environment.