Metals: China Energy Crunch

Zerlina Zeng, CFA
Wen Li, CFA
Zoey Zhou Qianyun
Michael O'Brien

EXECUTIVE SUMMARY
  • The metals sector intersects some of the major themes that have been weighing on the global financial markets, with the more recent news of China’s thermal coal shortage propelling commodity prices higher and further exacerbating inflationary and supply chain fears.
  • Tight supply of thermal coal is the main cause of China’s energy crunch. This is exacerbated by surging power consumption from export related industrial sectors.
  • We expect power rationing to continue over the next few months as China enters the winter heating season. To alleviate the power shortage, China has increased coal supply, controlled coal prices, and allowed more market-based electricity tariffs.
  • Prices of metals and processed metal products reached record high levels in China thanks to power rationing related production curbs. Profits are surging at Chinese metals & mining companies. Despite weakening steel demand, we expect prices and profit margins of steel products in China to be supported by lower steel production in 4Q21.
  • We expect the ongoing energy crunch to increase China’s stagflation risk. China would likely implement targeted credit easing and fiscal measures to counter the downward pressure on growth.
RELATIVE VALUE

The metals & mining sector intersects some of the major themes that have been weighing on the global financial markets, with the more recent news of China’s thermal coal shortage propelling commodity prices higher and further exacerbating inflationary and supply chain fears. Commodity prices have been increasingly more volatile in recent months on the back of the Evergrande debt crisis and the energy crunch in China that has spilled over to Europe. Prices quickly recovered following the Evergrande news with industry participants shifting their focus to the energy crisis that is now weighing on metal production/inventories, although metal prices pivoted lower last week with Beijing taking steps to tamp down on thermal coal prices. The energy situation in China is very fluid and it will be fascinating to see how Beijing will balance the thermal coal shortage against pollution controls and economic growth as we head into the peak energy demand season and with the Winter Olympics coming up in Beijing in February. At a higher level, it will also be interesting to see how much of an impact rising inflation and supply chain issues will have on global economic activity, as that will have broader implications on commodities demand. In this report, we provide an update and outlook on China’s power crunch as well as the implications on China’s metals & mining companies and economic growth.

BASIC INDUSTRIES
Metals: China Energy Crunch

Zerlina Zeng, CFA
Wen Li, CFA
Zoey Zhou Qianyun
Michael O'Brien

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