Xstrata’s revenues and earnings depend to a large extent on prevailing prices for the commodities it produces. These commodities are globally traded and as a result, in common with its competitors, Xstrata does not control the prices it receives for commodities. Commodity prices are directly linked to macro-economic conditions and in particular, industrial production, which drives global demand for metals and energy.
From around mid-2003 to mid-2008, commodity prices exhibited a broadly upwards trend, reflecting demand generated by global economic growth, particularly in China and India as those countries urbanise and industrialise. Commodity prices have also been influenced by the growth of exchange traded commodities future markets and the establishment of commodities as an investment asset class. Relatively tight supply of commodities contributed to higher prices, as a result of lower investment in exploration and new mine development during the previous decade or more of declining commodity prices, together with declining grades and operational issues at existing operations.
However, during the third quarter of 2008, global economic conditions began to deteriorate as a result of the credit crisis which prompted the steepest drop in economic activity since the Great Depression. In early 2009, demand for most of Xstrata’s products remained very depressed, with most commodity prices reaching a low point in March, as producers and customers underwent a rapid and severe period of destocking in the face of highly uncertain economic conditions.
Most major economies unveiled significant fiscal and monetary stimulus packages in response to the severe downturn of a scale not seen before. In particular, the determination of China to sustain its economic development was underpinned by a stimulus package amounting to approximately 12% of 2009 Chinese national GDP, which was weighted towards substantial public investment in construction and infrastructure development, driving demand for commodities.
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These initiatives were broadly successful in improving liquidity and stimulating investment and consumption demand, and economic activity began to recover during the year. Demand for commodities remained subdued from the OECD, but ongoing demand from China, India and Brazil – albeit at lower levels than in previous years – offset the full impact of lower demand from the West. China’s position as the dominant user of commodities was further underlined by the downturn, during which China accounted for over 100% of the growth in consumption in 2009 in a number of metals such as copper and zinc.
Commodity prices rose accordingly, staging a strong recovery from the very depressed prices in the early part of the year but remaining some way below 2008 levels. Average prices for the year fell by around 26% compared to 2008 averages.
As a result, China exceeded its 8% GDP growth target in 2009 and is on track to maintain or increase this rate of growth in 2010. Similarly, India’s economy continued to grow strongly during 2009, with fourth quarter growth reaching pre-crisis levels and industrial production and electricity generation growing strongly. The economies of OECD countries stabilised during 2009, but their recovery has been at a slower rate.
