The Verdict Is In For Copper

 |  Includes: CU, JJC, RIO
by: Bob Johnson

The Financial Times reported on Wednesday, September 21, that

Rio Tinto (NYSE:RIO), one of the world’s largest natural resources companies, has warned that some of its customers were asking to delay shipment of metals, in a clear sign that the financial turmoil is starting to hit the commodities sector.

Many factors constrain the supply of copper. The yield of many mines is dropping as the quality of ore decreases. That is, all the low hanging fruit has been picked in much of the world. Bringing a new mine into production is very expensive, from $2B up, and time consuming, on the order of three years. Further limiting factors are environmental concerns, hostile governments, labor actions and bad weather. All of these constraints on supply have meant there is no surplus of copper and production has been closely matched to demand keeping the price at historically high levels.

The largest consumer of copper by country is China, which is 40% of the world demand. Copper is being used at the customary rate in China and the rest of Asia. However, the same is not true for the rest of the world. There is a continuing, perhaps an increasing, slowdown in industrial production in the Western world. While September is usually the month that the volume of copper shipped hits its annual highs, the summer is over and it’s back to work, the demand is softer this year.

Copper is more sensitive to changes in the economy, due to its use in manufacturing and construction, than any other commodity. So, even with constraints on supply, demand can drop below production levels causing the price of copper to fall.

The verdict is in for copper. The optimism, which reigned from May through July, has been quashed. The price, as recently as the end of July at nearly $10,000 a tonne, is now at $8,500. Copper will continue to fall as the European financial system continues to falter and as is indicated by unemployment in the US, the recession continues.

Copper Investing News reported on Wednesday that:

Commodities plunged across the board on Monday, on speculation that demand for raw materials will drop due to debt struggles in the Eurozone. Copper led the pack in terms of the declines, with the most-active contract (for three month delivery) settling at the lowest price point since last October.

On Tuesday, copper prices continued to hover around nine-month lows following the release of more negative economic data. Contributing to the red metal’s weakness was lower-than-expects US housing market data, and a cut in global growth expectations from the IMF. On the Comex division of the New York Mercantile Exchange copper for December delivery dropped 1.5 percent, to touch $3.73 a pound, after dropping 3.8 percent on Monday.

On Tuesday, the Commerce Department reported that housing starts in the US fell 5 percent from July, to touch 571,000. Economists had forecast 590,000 new home starts for August. Also on Tuesday [as reported by Forbes], the International Monetary Fund cut its 2012 global growth forecast to 4.0 percent, compared to the previous expectation of 4.5 percent, citing the likelihood that the US and Europe will go through a second recession as reason to curb its global growth estimate.

Analysts are now concerned that copper demand is about to take a big hit, despite robust demand from top consumer China, as industrial users slow purchases. “People are waiting on the sidelines to see if prices get cheaper,” said Gary Mead, an analyst at VM Group in London. “Industrial and end-users and consumers in the wholesale sense are in a wait-and-see mode. It’s clearly the fact that there’s no decision on the table for the end of the euro crisis. There’s a tremendous amount of fear out there.”

Could this loss in demand have been foreseen earlier? On August 24, I published an article entitled “What Now Doctor Copper?”

"Dr. Copper" is said to be the metal with a Ph.D. in economics for its ability to predict the future of the global economy. Copper turned higher in 2003 as the economy recovered from the 2001 downturn. It turned lower in 2008 as the credit crisis was getting started. And the metal started moving higher in the last days of 2008, three months before things turned around for the stock market. We get a sign from Dr. Copper when the daily price crosses the 200-day moving average. In the jargon of technicians, it could be a “golden cross” if it is up or a “cross of death” if it is down. It is an indication of a reversal of a price trend. Does a change in the price trend of copper indicate a change in the stock markets a quarter later? After a year of upward trajectory, the first week in May of this year copper crossed its 200-day moving average in the downward direction. “

These graphs were included with that article.

Click to enlarge

The copper price line crosses the 200ma line in May.

Click to enlarge

The S&P plummets 3 months later.

It is history now. Dr. Copper indicated, I believe, a downturn in the economy in May and it materialized as reflected by the Dow in August. Now, Dr. Copper is signaling another decline. This is evidence that the US and Europe are headed for another dip in the recession.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

Additional disclosure: I have a position with Ivanhoe Mining (IVN), which is a partner with Rio Tinto (RIO) in the Mongolian Oyu Tolgoi project.