Base Metals & China – Why So Glum?

Written By:
Dan Smith
Dan Smith
Head of Research

24 January 2025: China is a crucial driver for the LME metal markets and financial market sentiment still looks depressed in the country, with equity markets dropping in the first few weeks of this year. However, we are seeing some green shoots emerging and see scope for fundamentals and sentiment to improve in the months ahead. For example, copper demand looked strong in December and, ignoring the upcoming Lunar holiday, looks to be trending higher. Other base metals relying on sectors like automotive and electronics are likely to benefit from similar bullish factors. Clearly, the Chinese economy still has areas of weakness, but industrial production is accelerating and sectors related to base metals are expanding faster than the headline figures. We expect base metals with supply side constraints to outperform this year, as Chinese demand improves and market tightness reasserts. This year, aluminium, copper and tin are expected to outperform lead, zinc and nickel.

China is vital for the base metal markets and it dominates fundamentals. China is a key driver of base metal prices and in terms of fundamentals it has no close peer. For many of the base metals it accounts for well over 50% of global demand. Unfortunately, measuring demand in all countries is difficult because there are many small consumers, making it impossible for statisticians to add up every significant item. China is a particular challenge.

Measuring demand is a significant challenge. The problem with China is that the country is so large and there is a tendency to double count shipments of fabricated products, as they move down the supply chain. Nevertheless, according to NBS data, fabricated copper output in China grew by a very bullish 8.9% y/y in December. In theory this should closely track consumption, but the reality is often very different and the volatile trend in y/y growth for both aluminium and copper, that we show in our chart, lacks credibility. As a result, analysts often use apparent consumption figures (i.e. the difference between production and net trade) as another gauge, but this has its own challenges.

 

Following indicators is also valuable to assess pace of recovery. Given all this, we also track economic indicators (such as electric vehicle production) and weekly utilisation rates at fabricating plants, as another guide to how base metals demand is trending, even if we are not sure about the exact level of demand. This is because an upswing in electric vehicle output, for example, should tighten the underlying supply-demand balance and push base metals prices higher in the short-term.

Sentiment about China is still depressed, but we expect an improvement. Furthermore, there is often a large gap though between headline “sentiment” about China – which is largely driven by big picture macroeconomic themes around issues like company profitability and the state of the housing/property market – and our own assessment of the demand trend. At the start of this year, we still see sentiment as being rather depressed, as discussed below. However, base metals demand looks robust and there is the potential for this gap to close in the months ahead.

Credit conditions lead the economic cycle. The other element that we follow closely are credit conditions, as these will flag up extra stimulus measures in the pipeline and the economy will typically start to accelerate soon after. For China, the most recent credit data (total social finance) was very strong for December. Looking back over the past 7 years, TSF fell on average by 12% m/m in December. By contrast, this year saw a 23% m/m increase. The reason the market has not reacted more favourably is that some of the boost is because the central government is swapping local government debt and CNY loans are still looking weak i.e. banks are not lending enough and the recovery is not yet broad-based. Despite these reservations, we see credit conditions as creating a supportive backdrop for base metals during the first quarter of this year and we see the potential for improvement from here.

Industrial production growth reached an 8-month high in December. Also bullish is that Chinese industrial production growth has started to pick up and reached 6.2% y/y in December, the fastest rate since April. Looking into the details of this, sectors that are key consumers for base metals were particularly strong. For example, value-added measures for automotive, computers and electrical machinery grew by 18%, 9% and 9% y/y in December, respectively. While base metals demand is directly driven by volume growth (i.e. the more cars produced the better), sentiment cannot be entirely ignored because it highlights underlying weakness in the economy i.e. the foundations for growth are still fragile.

 

Profitability trends are still weak. For example, one clear headwind for Chinese sentiment is that while many industries are growing (particularly sectors related to the green energy transition) there is a massive glut of capacity and this has squeezed profit margins and sent many companies into bankruptcy, impacting employment levels. Industrial profits fell by 4.7% y/y in the first eleven months of 2024, with November alone down 7.3% y/y. As we show in our chart above, there is some sense that the trend in profits is starting to flatten out, although the year ahead looks uncertain due to an overreliance on exports, which are vulnerable to higher US tariffs. Weak consumer sentiment is also highlighted by subdued growth in retail sales. Nevertheless, we expect both underlying demand for base metals and Chinese sentiment to improve from here, creating a bullish backdrop. Markets with limited scope for growth on the supply side should outperform this year, particularly aluminium, copper and tin.