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16 October 2008


Base metals: back down to earth
In the run-up to this year's LME Dinner, activity in the base metals sector has been dominated by the
continued fall-out from the sub-prime crisis. Such has been the speed and enormity of developments
in September/early October it is perhaps easy to forget that the sub-prime crisis first emerged well
over a year ago (the summer of 2007). It quickly became clear that it was not just a financial crisis,
but that it was also an economic problem as its impact was initially focused on a key consumer of base
metals - housing, and then spread to other important sectors, the automotive and white goods
industries. Over a year later the non-residential sector is now being engulfed by crisis. Since the 2007
LME Dinner, all the supportive factors behind the bull market have slowly been removed.

Demand growth has been slowing for sometime
In some respects, we were surprised by the sharp rally in some of the base metals earlier in the year,
which saw aluminium, copper and tin make new cycle highs. At the time, it was already clear that
demand growth had already peaked. Most of the indicators that we analyse pointed to an extension of
this period of weak demand, which has, in fact, proved to be the case.

Physical premiums have been trending lower for most of the year, while the data on shipments of non-
ferrous semis also confirmed the poor demand conditions. When the decline in the key economic
indicators was added to the mix, then it was difficult to explain the move of copper and aluminium
cash prices to $8,985/tonne and $3,292/tonne respectively in early July.

Supply disruptions move to the background
Earlier this year supply disruptions, particularly for copper, were still a supportive factor in the market.
However, the news flow concerning strikes and technical problems has begun to dry up. More
important is the change in the market's response to supply cutbacks, i.e. the market is now tending to
ignore them rather than rally sharply on the news as earlier in the year. For example, the cutbacks by
BHP Billiton and Xstrata for nickel have done little to stem the downtrend in prices.

Price outlook
In Natixis Commodity Markets' 4th Quarter Metals Review, we consider three alternative scenarios.
Given the deterioration in both the financial sector and the real economy i.e. sectors that consume
industrial metals, it has become clear that our low case scenario is now the most likely scenario to pan
out. Our low case projections are detailed in the table below.

Going forward, we expect little change in the fundamentals of the aluminium market. Production is
expected to remain strong in the second half, with capacity expansion in China more than offsetting
the impact of high-cost smelter closures. Elsewhere, forward looking economic indicators paint an
uninspiring picture for demand, which is the key driver for the market for the rest of the year. As a
result, we forecast supply will exceed demand in 2008 by 600,000 tonnes overall. Unless there are
additional cutbacks in primary aluminium production, Natixis Commodity Markets projects that the
market will remain in surplus next year (250,000 tonnes).

Natixis Commodity Markets has revised its supply-demand balance and is now projecting a market
surplus of 100,000 tonnes in 2008 and 200,000 tonnes in 2009. The weak state of demand expected
both this year and next year also supports these surpluses. We believe that although copper prices will
continue on a downward trend, they will not quite duplicate the massive declines seen elsewhere in the
sector as inventories remain low and the market remains prone to disruptions.

Taking into account the turnaround in Chinese trade, we have amended our supply-demand balance
analysis slightly for this year, reducing our projected surplus to just 20,000 tonnes from our previous
estimate of 65,000 tonnes. Natixis Commodity Markets still has the lead market in a surplus in 2009,
although we have scaled back our projection to 60,000 tonnes from 85,000 tonnes. We expect an
acceleration in mine output growth as the ramp-up of San Cristobal and the restart of Magellan more
than offsets mine closures that have been announced so far. Importantly, we expect China to revert to
being a net exporter of refined lead.

So far this year, the nickel market has seen demand weaken, reflecting the cutbacks in output in the
stainless steel sector. Realistically, we do not expect demand to improve this year. As such, Natixis
Commodity Markets is projecting a slightly higher surplus of 30,000 tonnes in 2008. This compares
with our previous forecast of 10,000 tonnes. In the short term, we could see new lows in the nickel

Due to the ongoing supply problems being experienced by tin's major producers, combined with the
lacklustre demand environment, we expect little change in the tin market over the coming months.
Demand is unlikely to collapse as much as in other markets as tin is better shielded from the sub-prime
crisis than other base metals. Consequently, inventories should remain at low levels.

In our view, the market remains largely unchanged from our previous Quarterly Review. Although
there is news of some closures, most noticeably in Australia, we believe that much larger reductions
are required to tighten the concentrate market, and subsequently restrict the growth in refined output.
The recent fall in treatment charges and fall in LME inventories could be seen as a bottoming out of
the zinc market. With demand growth outside of China expected to remain at low levels over the

remainder of the year, and production expected to remain steady, any significant move upwards is
likely to be restricted. After taking into consideration the latest cutbacks in mine production, Natixis
Commodity Markets still has the zinc market in surplus this year (125,000 tonnes) and next year
(75,000 tonnes). In this regard we note that our projections are more positive than the forecasts put
forward by ILZSG.

Price forecasts $/t (low case)

2005 2006 2007 2008 2009

Al 1,898 2,567 2,640 2,725 2,100

Cu 3,684 6,731 7,126 7,750 6,600

Ni 14,733 24,827 37,181 22,500 14,000

Pb 976 1,288 2,595 2,225 1,500

Sn 7,370 8,763 14,536 19,500 16,000

Zn 1,385 3,273 3,250 2,000 1,600