MOST experts talked the copper price down all through 2005, especially in the second half of the year. Only problem was, someone forgot to tell copper, which finished 2005 around 40% higher year-on-year. While the contrast between forecast and reality merely emphasises the rhetorical nature of the where-to-from-here question, the bulls would love the fact that some believe the fundamentals of the red metal even outshine those of black gold. Focus Feature by Michael Quinn
At comfortably over $US2 per pound earlier this month, copper was well above the $US1.64/lb it averaged in 2005 and $US1.30/lb in 2004.
It was also miles ahead of the $US0.95/lb its averaged for the past 10 years, which must go a long way to explaining why the experts have trouble fearing anything other than a "deep correction".
At the heart of the situation were stocks earlier this month totalling around 160,000 tonnes – in an annual world market of 17-18 million tonnes.
The stocks, which take in the LME, NYMEX and Shanghai warehouses, compared to the 1Mt or so at the LME alone just five years ago – when the copper price was around US60-70c/lb.
Recent supply has been hit by natural events such as earthquakes, and more significantly, industrial unrest in both Chile and the USA.
Issues in Chile a particularly noteworthy. Described as the Saudi Arabia of copper, Chile's largest producer was being threatened late last month by a strike, with workers demanding a bonus in light of record prices. (You can perhaps see the impetus for workers/unions when you consider the Chilean Government is expected to collect a record $US2 billion in tax in 2005 from the country's top-10 private producers, compared to an average yearly tax receipts of $US310 million per annum for the period 1999-2004).
Longer term, additional supply is supposedly at hand, with price-bears able to point to announcements seemingly almost daily in the second-half of 2005 about new mines or expansions.
However, analysts at Canadian outfit Wellington West Capital Markets suggest copper buyers shouldn't necessarily get too excited just yet.
They indicate the there are several structural – read longer term – reasons for additional copper failing to thus far materialise, including:
- the general shortage of qualified mining industry personnel for construction, development and the operation of new mines and processing facilities. - the difficulty in securing long lead time items such as mill components and heavy equipment - delays in construction related to more stringent permitting guidelines and increased NGO scrutiny
In short, much the same issues as those currently plaguing the entire global resources sector.
They also note existing miners have been re-sequencing mine plans to opportunistically extract lower grade material richer in by-products such as molybdenum – which is trading at hitherto unheard of levels.
Elsewhere JBWere made the point (in a look last week at BHP Billiton and Rio Tinto) that the painful lesson learnt from developing so-called 2nd and 3rd tier assets in the 1970s – in response to strong demand at that time – have been hammered home for 30 years.
In essence the lesson was that if the expected demand doesn't materialise, then high cost operations will suffer margin squeeze and be forced to either cut costs or go slowly out of business – with closure decisions often "painfully slow" given the costs.
Still, it noted that both companies retained options on such projects in copper (and other commodities), as exemplified by Rio buying the La Granja project in Peru, and BHPB's ongoing investments in Tintaya.
Overall, broker had this to say about copper: "Two years ago we found it difficult to imagine where the supply would come from to match the potential demand requirements from China over a 10-year period."
"In the intermediate term, however, there appears to be a supply response with many small and previously though unprofitable or politically risky potential operations being considered.
"The political and technical risk of these operations however has caused delays and disruptions and the market remains tight.
"The longer term outlook (given these greenfields operations have a 10-year lead time) still appears short."
It might also be noted that while China remains, as always, the key on the demand side of the ledger, JB Were said in December that the feeling amongst copper producers in Chile was that 2006 would be the year of the US.
"Demand in the US is perceived as being more than just good … while supply is deemed to be scarce and the freight rates to the US are some $US10/t cheaper than to Europe and more so compared to Asia," JB Were said.
"With the COMEX-LME arbitrage, $US10/t less freight (than to Europe), and earlier payment, the Chileans stand to get a better deal [of around] $US25-30/t selling to the US than anywhere else."
Meantime a report early this month by UBS Warburg will have seen miners lighting up cigars and breaking open crates of the finest malt whiskey.
UBS said there were "strong similarities" between the positive fundamentals for oil and copper, including:
- Decline in reserve quality, and cost inflation - Chinese demand - Energy link (Electrical power requirements are growing, and the potential for increased copper use in hybrid autos is being driven by high energy values) - Fund money - Bottlenecks (Refining in oil, smelters in copper) - Corporate perception – M&A activity (It appears that both oil and copper companies remain unconvinced that high prices are here to stay; a consequence is conservatism on capital spending … delaying the supply response. Even so, competition for operating assets remains heated) - Elastic demand response to high prices (Consumers of both products looking at substitution) - Focus on inventories
"While the similarities between the two commodities are quite striking, we believe that an argument could be made that copper fundamentals are superior," UBS said.
"A key difference between the two is supply reaction; a new copper mine takes a least two years to build and much longer to find; an oil well takes less than a year to bring to production.
"Furthermore, the copper market has no OPEC to satisfy unexpected demand when it arises."
All of which begs the question, is this copper nirvana
