sound familiar

If Copper Prices Fall, It Won't Matter for Investors

By David J. DesLauriers
11 Nov 2005 at 06:34 PM EST


TORONTO (ResourceInvestor.com) -- Copper prices has been ascendant for quite some time, up from 80c per pound in late 2003 to a new high today of $1.94 per pound. In the last six months alone, prices have shot up to the current level from about $1.50.

Recent Threats



As many must have read recently, the Chinese have apparently made plans to sell up to 80,000 tonnes of copper to try to cool this market a little bit, as it is “beginning to damage the healthy development of Chinese industry.” Apparently this fell on deaf ears, because the buying is continuing and the price of copper keeps rising.

Traders and market watchers attribute this to short covering, and predict that it won’t last much longer, as copper prices fall back to earth. Bloomberg however, reported today that although inventories have risen sharply in the last few months, “The market still isn't in surplus”, and “There is no stock on the exchanges and not a lot of stocks around.”

The forward curve has been behaving well, despite the many copper bears out there, and though the commodity is still in backwardation, the out months have been looking stronger and stronger, with the December ‘06 contract now all the way up at $1.56 per pound.

Analysts, Falling Prices

These high prices are of little moment, however to the majority of analysts or the big copper producers. Phelps Dodge tells analysts to use 85 cents copper in their long-term forecast, and most analysts use $1.20 for next year and 90 cents per pound for 2007 in their projections.

As a consequence, developers of new copper mines are trading as though copper really is trading $1.20 per pound. They have not felt the slightest impact from copper’s huge upswing. As an example, take a copper story, which we have written about in the past, and which is a solid company with a very attractive asset. Frontera Copper [TSX:FCC] has had a share price, which has barely moved, and indeed would appear to not even be sensitive to up days for the price of copper. This chart is illustrative of that.

Even Constellation Copper [TSX:CCU] with production on the way very soon, does not react. Investors would think that Quadra Mining [TSX:QUA], a high cost copper producer would be leveraged enough that investors would take notice with copper at $1.94 per pound, especially after the company’s savvy acquisition of the Carlota project. But, as this chart shows, apparently not!

And if the near-term producers and smaller producers are having a bad time of it, what about the developers? The answer is that simply nobody cares.

Take Inca Pacific [TSXv:IPR] for instance. Granted management has dropped the ball consistently because it has been focusing on other vehicles to the detriment of shareholders, but this company is sitting on 2 billion pounds of copper, and lots of moly in Peru. Despite this, shares are down 75% from when copper was 80 cents per pound, even though the metal has rallied 142%. Other developer situations are not as severe, but have certainly shown very poor share price performance.

Conclusion

What all this means is that the only way that these companies are going to have their huge upcoming cash flow streams recognized by the market is if they lock in prices by hedging. This is obviously difficult for pure play copper stories that believe that investors want to be able to participate in higher prices – but if that’s the case, where are these investors?

All of this to say that even if copper falls back to $1.80 or $1.60 or $1.40, it won’t matter, and shouldn’t make a difference to investors because none of these companies saw their shares rally on the way up anyway. Of course, knowing the market, the small producers, near-term producers, and developers will probably get beaten up nonetheless on the way down.

It is an unfortunate situation to find in which to find oneself, but companies who only produce copper as a by-product don’t need to share the same discounted-valuation fate – they should hedge, it is the only way to force analysts and the market to ascribe the value.