March 22, 2022

As discussed in the last report, heightened volatility relating to the war between Russia and Ukraine—or more specifically, the prospects of a ceasefire between the two—is the key driver for the broad metals market right now.

Yes, there are other fundamental factors behind the latest rallies in the major industrial metals, but everything else is dwarfed in comparison to the Russia factor. On that score, uranium is the latest metal to fall victim to sanctions against that country.

In the portfolio, we just added a new position in a dual steel and aluminum play that looks set to pop.

Gold: Volatility Enters the Picture

The war in eastern Europe is on everyone’s mind right now, creating lots of uncertainty in the financial market. For gold, however, war-related worries have proven to be a major boost to the metal’s safe-haven status—so much so that it could almost be said the war between Russia and Ukraine is the demand catalyst gold has been waiting for.

Yet this doesn’t mean that gold’s ride to higher levels has been without setbacks, as the recent 7% pullback proved. Indeed, the greater turbulence the gold market has experienced in the last two weeks is part of a broader volatility increase seen across virtually all precious and base metals. In fact, just one of the major metals has been relatively immune to the higher volatility—steel—which will be a focus of this report.

For gold and its sister metal silver, however, volatility relating to the Fed’s recent announcement that it plans on making six additional interest rate increases this year (followed by four more next year). Most of gold’s recent decline began before the Fed’s announcement, however.

The most likely culprit behind gold’s pullback is the prospect for a ceasefire between Russia and Ukraine. According to the latest news reports, Ukrainian President Volodymyr Zelensky is urging “comprehensive” peace talks with Moscow and also wants China to join Western governments, led by the U.S., in denouncing Russian aggression.

Moreover, Turkey’s foreign minister said in an interview published on Sunday that Russia and Ukraine were nearing agreement on “critical” issues. He also expressed “hope for a ceasefire if the two sides did not backtrack from progress achieved so far,” according to Reuters.

War has historically been very good for gold, with the yellow metal increasing 550% during the years 2002 and 2011 when the U.S. was waging a two-front war with Iraq and Afghanistan. From the commencement of hostilities between Russia and Ukraine on February 24, gold rose almost 10% over the next two weeks before reaching an intraday peak of $2,075 an ounce—a record high.

Once talk of a possible ceasefire began, however, the gold market has become increasingly volatile with the metal surrendering most of its gains since the war began. And while peace would certainly be good for the broader financial market (and the world at large), it likely wouldn’t bode well for gold, at least in the near term.

From a technical perspective, I consider the widely followed 50-day line to be critical in terms of keeping the metal’s rising trend intact. Accordingly, a closing violation of this key level (which currently resides at $1,874 in the daily chart) would be enough to turn me bearish on the metal’s intermediate-term prospects.

Assuming the war continues, however, gold should be able to maintain its rising trend and stay above the 50-day line. Further, if the war grinds on in the coming weeks (as the market apparently expects) we should also eventually see gold recover its stride and make its way back to the February high of $2,075.

For the industrial metals, both the near-term and the intermediate-term outlook is far more robust as ever-tightening supplies, increasing transportation bottlenecks (in some nations) and rising global demand should keep prices buoyant. Copper prices remain firm, aluminum is starting to rebound and the steel price outlook is as bullish as it has been in years. All told, the overall metals sector bull market remains on solid footing.

What to Do Now
South Africa-based Gold Fields Ltd. (GFI) is one of the world’s largest gold miners with total attributable annual gold-equivalent production of over 2 million ounces, attributable gold-equivalent mineral reserves of 52 million ounces and mineral resources of 116 million ounces. The stock typically outperforms the physical metal when gold is in an established intermediate-term rising trend. Management said it expects production to grow by an additional 20% to 30% over the next three to four years and expects growth to be “more or less linear” in the years ahead, with 2022 production forecast to increase around 7% from last year. Additionally, Gold Fields said it will pay a final dividend of 2.60 rand per share, taking the total payout for the year to 4.70 rand per share. After buying a conservative position in GFI on February 17, the stock has since rallied 30%. Per the rules of my trading discipline, I recently recommend taking 50% profit and raising the stop-loss on the remaining position. Let’s further raise the stop to slightly under 13.50 (closing basis). HOLD A HALF

With inflation likely to persist, not only industrial metals but commodities in general should generally outperform. One way of playing the bullish trend in natural resources is the Invesco DB Commodity Index Tracking Fund (DBC), an actively traded index ETF which is based on several major commodity futures contracts ranging from metals (including gold, silver and copper) to grains (including corn, wheat and soybeans) to energy products (including oil and natural gas). A combination of strong global demand for farm commodities, exceptionally volatile weather in many food growing regions around the globe and rising input costs (i.e. fuel and fertilizer) should contribute to rising hard asset prices in the months ahead. Additionally, crude oil prices are expected to remain elevated in the coming year, and for that reason, I expect DBC—which is heavily skewed toward the energy sector—to continue to outperform. Traders recently purchased a conservative position in DBC using a level slightly under 21.50 as the stop-loss on a closing basis. After the 21% rally since our initial entry, I previously suggested taking 50% profit in this position while raising the stop at slightly under 24.30 (closing basis) on the remaining position. Let’s maintain this stop for now. HOLD A HALF

New Recommendations & Current Portfolio

Silver Goes to the Movies
With inflation at its highest level in 40 years and not expected to abate anytime soon, investors have turned to commodities as a hedge against a weaker dollar. For silver, this has meant renewed interest from participants who have largely ignored the precious metal in recent years.

Highlighting silver’s increased demand as an inflation hedge was a recent Kitco report, which predicted inflation could hit double-digit levels in the coming months. Briton Hill, president of Weber Global Management, was interviewed by Kitco and observed that both gold and silver are ideal investments due to their higher liquidity compared to other commodities, as well as their long-term record of maintaining value under inflationary economic conditions.

But Hill isn’t the only one who sees value in the shiny precious metals, apparently. Movie theater chain AMC Entertainment (of all companies!) made waves lately when it announced it has purchased a 22% stake in a 71,000-acre gold and silver mine in Nevada owned by Hycroft Mining Holding (HYMC).

Incidentally, major metals investor Eric Sprott also recently bought a similar stake in Hycroft. Collectively, both AMC and Sprott are investing $56 million, according to Barron’s.

It should be noted that Hycroft is not actively mining right now after shuttering operations at its northern Nevada mine last November. The shutdown was attributed to Hycroft wanting to switch its focus to building a mill for processing gold and silver sulfide ore.

Undeterred, AMC said its third-party analysis has affirmed that Hycroft possesses “rock-solid assets” of 15 million ounces of gold and around 600 million ounces of silver at its Nevada property.

Wedbush analyst Alicia Reese summarized the skepticism surrounding the deal when she said, “It doesn’t seem like a terrible downside, but at the same time, it’s bizarre.”

Skepticism aside, what lends some credibility to the move is the presence of Sprott, who has a reputation for backing winners in the precious metals arena. All of which begs the question, Does Sprott and AMC know something about the silver outlook the rest of the market doesn’t?

Time will tell, but with inflation still raging and unlikely to subside in the foreseeable future, silver looks to have some upside support in the coming months.

War Still Supporting Copper
Front-month copper futures prices slid 10% from an intraday high of $5 per pound earlier this month when peace talks between Russia and Ukraine began. And while a peaceful outcome to the war is certainly possible, the red metal has lately received a supporting bid after the latest developments in the ongoing conflict.

Helima Croft, head of commodity strategy at RBC, expressed the pessimists’ view of the war when she told Barron’s: “Positive sound bites emerged about the ongoing talks between Russia and Ukraine; however, we continue to warn that Moscow should be judged on its actions not words.” She added that “Russia is likely to remain the world’s most sanctioned country for the foreseeable future,” which supports higher metals prices.

Meanwhile, pullbacks in metals affected by sanctions on Russia are being increasingly seen as buying opportunities by investors, as observed by Croft. Thus, the psychology of “buy the dips” that has been so prevalent in the equity market in the last year has now spread to commodities—a near-term supporting factor for the copper bulls.

Elsewhere on the production front, operations at the Cuajone mine in Peru owned by Southern Coppers (SCCO) were suspended on February 28 as protesters blocked the company’s access to a water pool and other supplies. However, Southern Copper said it is close to finalizing a deal with the protesters that would end the protest and allow operations at the Cuajone mine to resume.

Inventories of the metal are also said to be tight in Europe, while top producer Chile posted its lowest January output since 2011. According to reports, Chile’s copper output plunged 15% in January compared to December, and was down 8% from a year ago.

What to Do Now
In view of copper’s strong near-term fundamentals (inventories are near record lows while global demand remains high), we added Teck Resources (TECK) on February 8. The company plans to start up its Quebrada Blanca Phase 2 project in Chile during the second half of this year, which will double its consolidated copper production by 2023. Teck also raised its annual base dividend to 50 cents per share (from 20 cents), and declared a dividend of 63 cents per share. Going forward, Wall Street expects high double-digit top line and triple-digit bottom line growth for Q1 and Q2 2022. For the full year, management expects copper production to average about 280,000 metric tons, (down 2% from 2021), while forecasting steelmaking coal sales of around 6.3 million tons for Q1 (up 2% from the year-ago quarter). After Teck’s recent 11% rally, I previously suggested booking 50% profit. I also recommend raising the stop-loss on the remainder of this trading position to slightly under 37.10 on a closing basis. HOLD A HALF

Steel Continues to Strengthen
War in eastern Europe continues to disrupt steel exports, while skyrocketing energy costs have forced steelmakers to raise prices across the board. Additionally, top producer China has seen a 10% decrease in tons produced so far this year, while its consumption of the metal is expected to increase on the back of recent fiscal stimulus.

These factors combined are making for an increasingly buoyant steel market outlook as benchmark steel rebar prices gradually rise from last November’s low (see chart below). Already, steel has gained 18% since that time, climbing to around CNY 5,000 per ton as of late March, with analysts expecting continued gains as the fundamental backdrop for the metal remains bullish.

Among the supporting factors are (of course) the ongoing war between Russia and Ukraine, which has disrupted steel exports from both countries, which collectively account for around 14% of global trade.

Additionally, surging energy costs have meant higher costs for steel producers and have affected most major categories of the metal (including rolled steel and rebar). The recent spike in coal prices alone has contributed to an increase in costs related to melting pig iron into steel.

Then there’s stop producer/consumer China, whose aforementioned steel production decrease in January-February to 158 million metric tons is putting additional pressure on already tight global inventories.

A bill supporting the suspension of normal trade relations with Russia and its ally Belarus was passed by the U.S. Congress last week, and Democratic Senate Majority Leader Chuck Schumer said the Senate will take up the bill, “setting the stage for President Biden to sign in into law as soon as next week,” in the words of a Barron’s report.

It’s expected that the resulting higher tariffs will affect the domestic steel market. According to data provided by the Congressional Research Service, nonalloy pig iron and semi-finished products of iron or nonalloy steel are among the 10 most heavily affected commodities the U.S. imports from Russia.

On the demand side of the equation, the latest stimulus package and tax cuts by China’s government have given rise to hopes that the nation will see increased industrial sector spending on infrastructure projects that will increase steel consumption in the coming months.

What to Do Now
Peabody Energy (BTU) is the world’s largest private sector coal company, engaged in the mining and distribution of steelmaking and thermal coal. The company has lately benefited from significant price increases for seaborne metallurgical (met) coal used for making steel. The company has made it clear that it expects the steelmaking coal segment to lead the way in 2022. In Q4, Peabody reported revenue of $1.3 billion, which was 71% higher from a year ago, driven by higher coal prices and sales volumes. Per-share earnings of $3.90, meanwhile, beat estimates by $2.79. Also during the quarter, the company generated $427 million in free cash flow (about one-fourth of its current market cap) and retired $200 million of secured notes as it continues to pare debt. Management further guided for the strong conditions in the coal market to persist, while expecting that export volumes of met coal will increase “substantially” due to recent mine expansions. Participants can buy a conservative position in BTU using a level slightly under 19.75 as the initial stop-loss (closing basis). BUY A HALF

Reliance Steel & Aluminum (RS) is the largest metals service center operator in North America, providing metals processing, inventory management and delivery services for several industries, including construction, energy, electronics, automotive and aerospace. With metals demand and pricing buoyant in each of these key industries, Reliance finished 2021 on a high note, setting records in a number of key metrics despite supply-chain disruptions and labor market tightness. The company also returned over $500 million to shareholders through dividends and buybacks, with $713 million remaining on a $1 billion share repurchase authorization. Further out, management said it was optimistic about business conditions across its end markets and estimates a 6% increase in tons sold for Q1 compared to the year ago. Reliance also guided for Q1 per-share earnings to range between $7.05 and $7.15 (up 4% sequentially at the midpoint and in line with estimates). In view of the relative strength in this dual steel/aluminum company, traders can purchase a conservative long position in RS using a level slightly under 170 as the initial stop-loss. BUY A HALF

Prices for steel making coal are on the rise due to the improved outlook for steel production and consumption globally. Natural Resource Partners (NRP) is a master limited partnership engaged in owning and managing a diversified portfolio of mineral reserve properties, including coal and other natural resources (mainly gas and timber). Approximately 65% of the firm’s coal royalty revenues and around 45% of coal royalty sales volumes were derived from metallurgical coal in the latest quarter, making the stock a good proxy for steel demand. The company released fourth-quarter earnings results last week that boasted revenue of $84 million, a 114% increase from a year ago, along with per-share earnings of $2.42. The company stated, “Strong demand for metallurgical coal, thermal coal and soda ash in the fourth quarter produced one of the best quarters in terms of free cash flow generation in the Partnership’s history.”

Management was sanguine about the year-ahead outlook, with plans to generate even more “robust” free cash flow in the coming months while paying down debt and solidifying its capital structure. The company also recently declared a 45-cent per share quarterly dividend (4.7% yield). Participants recently purchased a conservative position in NRP, and after a 10% rally, I recommended selling a half and raising the stop on the remaining position to slightly under 34.50. I now suggest raising the stop a bit higher to slightly under 36.75 (closing basis), where the 50-day line comes into play. HOLD A HALF

Sanctions Boost Aluminum Prices
Steel isn’t the only metal that would be impacted by an escalation of sanctions against Russia. Aluminum could also be affected, according to industry sources, which probably explains why prices for the soft white metal have rebounded above $3,500 per ton (up 7% from its recent low).

In the latest sanctions news, Australia’s Rio Tinto Group has banned the export of alumina and aluminum ores to Russia, as of March 20. Aluminum futures prices in London jumped in response to the measure, which are expected to further increase an already tenuous supply chain for the metal.

Also giving the aluminum market a boost was China’s announced stimulus measures to support its economy. China’s central bank has twice lowered interest rates since December, and economists expect the bank will ease even more since inflation isn’t plaguing China the way it is other countries around the world.

According to The Wall Street Journal, China’s central government will divert around 10 trillion yuan (roughly $1.6 trillion) to local governments this year, which represents an 18% increase from a year ago and “the largest increase in recent years.”

It’s expected that these measures will stimulate China’s domestic industry, including the beleaguered real estate sector, and give a major boost to aluminum production and consumption. (China is the world’s largest aluminum consumer and smelter producer.)

Meanwhile, global demand for aluminum was said to be “robust” by industry reports, while inventories continue to dwindle. The latest data showed LME warehouse inventories were at 742,200 tons, their lowest since 2007, per Trading Economics data.

Nickel Scarcity Threatens EV Revolution
Much like the lithium market, the nickel industry is facing some serious shortages, not because of limited availability, but due to reduced mining activity. This in turn could spell trouble for the booming electric vehicle (EV) industry.

According to a CNBC report, “While there’s enough nickel in the ground to support a major EV ramp up, there are not enough planned mining projects or processing facilities to make the type of high-grade nickel that’s needed for EV batteries.” Nickel of course is a key component for most lithium ion batteries used for powering EVs.

Supplies of nickel in the U.S. are also diminishing. The Eagle Mine in Michigan is the nation’s only primary nickel mine, and it’s planning to close in 2025, according to CNBC. However, a proposed mine in Minnesota, the Tamarack Mine, is being developed by Talon Metals (TLOFF) and Rio Tinto (RIO). While the permitting process is still underway, Talon already has a deal with Tesla to supply the EV maker with nickel from Tamarack.

While the EV battery industry presently accounts for around 10% of total nickel demand, it’s projected that in the next 10-to-15 years it will provide nearly half the demand for the metal.

Nickel trading at the London Metal Exchange (LME), meanwhile, has resumed after the exchange suspended activity and cancelled trades earlier this month due to volatility that saw prices double to above $100,000 a ton in a single trading session.

Since then, nickel prices have declined sharply, most recently hitting $37,115 as daily limits have been consistently hit. Traders surveyed by Reuters believe the decline will continue until nickel reaches parity with the price of the metal in China, at around $34,300 a ton.

What to Do Now
Iron ore and nickel miner Vale S.A. (VALE) gave us a greater than 55% profit since initiating a long position in December, but the stock was last observed to be running up into what could prove to be strong overhead supply/resistance extending to around 22. Moreover, the nickel market (which Vale partly represents) is admittedly facing a crisis in the wake of the Russia/Ukraine situation, which could exert continued spillover impacts on Vale and other nickel-related stocks. Accordingly, I recently advised taking 50% profits in VALE and raising the stop-loss to slightly under 17.50 on a closing basis for the remaining position. This stop was triggered on March 15, knocking us out of the remainder of our long position for a total profit of 41%. SOLD

Russian Uranium Faces U.S. Sanctions
While the White House’s ban on imports of Russia’s oil, gas and coal is in effect, uranium imports from Russia hasn’t yet been affected. That could soon change, however, after Senate Republicans introduced a bill last week that would bank imports of the energy metal to the U.S.

News reports also confirmed that White House has been considering imposing sanctions on Russian nuclear power company Rosatom, a major supplier of uranium and related technology to power plants globally.

Russian uranium constituted 16% of sales to the U.S. in 2020, according to the Energy Information Administration (EIA). Moreover, according to Reuters, “Russia also supplies a fuel called high-assay, low enriched uranium (HALEU) which is enriched up to 20% and could be used in advanced nuclear plants expected to be developed later this decade or in the 2030s.”

It’s widely expected that the U.S. would be forced to move quickly on building new capacity to supply HALEU if a ban on Russia’s uranium is imposed.

In a related development, Bill Gates’ nuclear energy company TerraPower said it wouldn’t use Russian uranium in its planned Wyoming reactor. The company, whose first reactor won’t be fully operational for six more years, also said it would eventually utilize Wyoming’s rich uranium reserves at some point in the future.

What to Do Now
Uranium and uranium miners were in the doldrums for several months after prices peaked last fall, as the industry fell out of favor on Wall Street along with the overall alternative energy group. But the energy metal is attracting new interest among investors in the wake of Russia’s invasion of Ukraine, while prices for uranium have lately firmed up. Consequently, the most actively traded uranium fund—the Global X Uranium ETF (URA)—recently provided us with another attractive entry point after correcting almost 40% between November and January. Participants subsequently purchased a conservative position in URA on March 1, using an initial stop-loss slightly under the 20 level. After the 13% rally in URA from our initial entry point, I further recommended locking in 50% profit and raising the stop to slightly under 23 (closing basis) on the remaining position last week. Let’s maintain this protective stop for now. HOLD A HALF

China Getting Nervous About Lithium Prices
After skyrocketing almost 500% in the past year, China has made it clear that it wants a more “rational” lithium price.

A Bloomberg report shed light on the demands from the world’s top consumer of the battery metal. China has informed its electric-car battery supply chain that it wants lithium prices “to return to sustainable levels,” according to Bloomberg.

China’s Ministry of Industry and Information Technology called in several market participants last week, including lithium producers around the world, to discuss “a rational return” for lithium prices, according to a government statement.

Last week’s seminar addressed soaring costs while promoting what the ministry called the “healthy development of the new-energy vehicle and battery sectors.” It further addressed supply-chain problems, lithium pricing and how best to obtain future supplies of the metal.

No word yet on how China plans to realize these goals.

Sigma Lithium (SGML) is a Canadian company that develops, through its subsidiary Sigma Mineraao S.A., hard rock lithium deposits in the Americas. Sigma’s properties are located in Brazil’s Minas Gerais State in the municipalities of Aracuai and Itinga, and the company holds nearly 30 mineral rights in four properties spread over 120 miles, including nine past-producing lithium mines. The firm is focused on producing battery-grade lithium concentrate from its Grota do Cirilo property—the largest lithium hard rock deposit in the Americas—to support the booming electric vehicle (EV) industry. Analysts expect Sigma will begin generating revenue by the end of 2022 as its lithium production commences at half scale, bringing the company one step closer to its goal of being the world’s largest low-cost lithium producer. Additionally, Bank of America recently picked Sigma as one of its top “scarcity plays” in the face of a tight supply backdrop in the global lithium battery space. Participants can purchase a conservative position in SGML using an initial stop-loss slightly under 10.50 (closing basis). BUY A HALF

Current Portfolio

Buy a Quarter/Half means allocate less of your portfolio to a position than you normally would (due to risk factors).
Hold means maintain existing position; don’t add to it by buying more, but don’t sell.
Sell means to liquidate the entire (or remaining) position.
Sell a Quarter/Half means take partial profits, either 25% or 50%.
The next Sector Xpress Gold & Metals Advisor issue will be published on April 12, 2022.