Lithium prices were under sustained pressure from the outset in 2020 and then along came the coronavirus, prolonging weakness in the market as supply chains were de-stocked.
Now, the global economy is forecast to contract in 2020 and industrialised countries to suffer the most. Industrial usage for lithium represents around 40% of demand and this is expected to contract over 2020 before rebounding in 2021.
Have prices hit their lows? Morgan Stanley had expected the price in China would stabilise on a recovery in demand but it has continued to fall, having touched a low near US$5000/t. As Citi points out, the relatively automated production process for EV batteries has held up much better than either production or sales of electric vehicles through the initial stages of the coronavirus outbreak.
Hence, a gradual de-stocking of batteries has weighed on demand and moved the surplus from batteries to lithium. In an oversupplied market, where costs are lower because of weak energy prices, there is scope for downside. While prices may slip a little further Citi suspects a trough is forming and remains bullish over the longer term. Battery grade carbonate prices are forecast to be up 42%, at US$7200/t in 2022.
Morgan Stanley points out a supply response has emerged and, together with government stimulus, should provide some support in 2021. Prices are starting from very low in the cost curve but at the same time the demand outlook is still strong.
Latin American brine operations represent almost half of current primary lithium supply and these assets are operating under restrictions at present. Yet the broker notes there have only been limited adjustments to actual operations. Suspensions in Argentina have been brief and Chile’s producers are building inventory rather than cutting output. Albemarle has also noted its order book is firm in terms of battery-grade lithium.
Morgan Stanley forecasts a -7% fall in lithium output in 2020, with the biggest cuts to production in Australia as spodumene pricing has fallen -15% in the year to date and demand from China has evaporated.
For example, Australia’s Galaxy Resources ((GXY)) is running its Mount Cattlin spodumene operation on campaign mode, in order to control costs. Credit Suisse forecasts a 2020 spodumene price of US$415/t.
The broker has downgraded the stock to Neutral, factoring in a weak demand environment that is compounded by the disruption caused by the pandemic but acknowledges a restructured Mount Cattlin should reduce any strain on cash flow.
There is Sal de Vida under consideration, with the company targeting a final investment decision in the second half of 2020. Citi assesses Galaxy Resources is in a position to execute on the initial phase once approved.
UBS points out the latest sales data from Orocobre ((ORE)) was not very positive and well below expectations. That company is also attempting to match production to expected sales.
If current volumes and pricing persist through to the end of the year, UBS estimates Orocobre will have a cash shortfall in the September quarter of 2021 and may need to consider an equity raising/corporate debt or seek approval to access US$135m of restricted cash.
Credit Suisse also recently downgraded Orocobre to Neutral, citing the difficulties facing the industry amid weak sales and prices, exacerbated by the disruption caused by the pandemic to logistics and end-user demand.
Modestly higher prices are required to avoid deficits opening up. That said, Cit ascertains margins will remain under pressure in some areas as there are several years of surpluses ahead.
As supplies exceed demand, industry rationalisation has been accelerating and the broker suspects tightness will hit the lithium market by 2024. Lithium is approaching a transition, as long-term demand remains high and the challenges for supply have become more pronounced.
While a sizeable surplus weighs on spot prices Citi believes current levels will prove unsustainable and there will be a trend towards incentive pricing to avoid a potential deficit and fulfill expanding demand from the electric vehicle battery market.
Electric vehicles have become the biggest demand driver for lithium and should dominate the growth trajectory as the share of market increases. Citi forecasts a modest -3% fall in lithium EV battery demand in 2020 because of policy support that will drive a second-half recovery and a continuing boost to lithium battery intensity per vehicle.
Outside of China, the broker anticipates modest growth in Europe, which is the epicentre of new supportive policies and subsidies. Germany has doubled its EV subsidy and provided temporary VAT relief on new car purchases.
Still, Credit Suisse believes it will take time for subsidies and stimulus to procure the sales growth necessary to bring any tension to supply/demand dynamics. Sustained demand growth is needed to absorb inventory and latent production capacity.
Citi agrees, asserting a repeat of the “euphoria” in 2016-18 is also unlikely, because of lithium’s natural abundance, sufficient latent capacity and the emergence of “fast-response” hard rock miners.
Morgan Stanley concludes that, as lithium producers continue to delay new projects and expansions, the net number of additions to the market over the next five years will have a significant impact on whether there is a surplus or a move to deficit.