Our outlook for 2012 (and beyond) and what we believe could save the U.S. economy is simply, increased exports through dollar devaluation, which would ultimately lead to more jobs, more overall demand, a stabilized housing sector and decent growth.
This past Wednesday, China kicked up some dust by announcing it may begin initiatives involving monetary easing. This is of great interest to U.S. as it shows China is not going to sit idly by watching its yuan appreciate against the greenback. If China begins to devalue its currency, in an attempt to stabilize demand for its exports, which are at a 2 year low, the U.S. will only strive to devalue the dollar further. As we've stated in many previous reports, it's a race to debase.
What China might not yet realize is that it can fight all it wants, but in the end, the Fed will win. The Fed has control of the world reserve currency. China does not have the time, or global support needed, to change that. It will lose the currency war. How painful it chooses to make the loss is yet to be seen. The U.S. will attempt to take back many jobs China has taken from it in the past decade.
This bodes well for our investing theory and position in the markets as we move forward into 2012 and beyond.
Gold, silver and precious metals continue to receive the lion's share of the press headlines and investment writers' attention. I believe this theme will continue, but there are other assets which benefit from a weak dollar, especially if a weak dollar is combined with some decent economic activity.
The focus of every major economy around the globe this year will be to aggressively speed up economic activity. Keep that in the back of your mind when making investment decisions.
Our team would like to take this opportunity to focus on copper - a base metal that, like gold and silver, will appreciate with inflation and has tremendous potential for increased demand given the theme of 2012: Economic growth.
Copper's price and demand is not necessarily tied to short-term monetary policies. As stated, copper does not need inflation for it to rise in value. Real demand, which we have been seeing of late in China, the United States, India, Brazil, Korea and Russia, will not only maintain, but continue to outpace supply of copper in the years ahead of us.
Copper is a more stable commodity than gold and more of a long-term trade in our view. At some point the gold bubble will burst and demand will simply vanish for a long period. With copper, we doubt that will be the case for at least the next decade. The fast paced urbanization of China, India and Brazil will continue to lead copper demand for the next decade. I believe the long-term established industrial uses for copper, both domestically and abroad, justify cause for investors to be allocating a portion of their portfolio to the base metal.
Let's take a look at the demand outlook for copper.
Historically speaking, commodity super cycles, which we are in, generally last between 16 and 20 years (roughly). If we entered a new commodity super cycle in 2002 or 2003, following the tech bubble, we still have a long way to go.
Source: Xstrata Copper presentation, April 2011
What this graph so perfectly illustrates is that it takes time for emerging countries to build out their infrastructure. This continued infrastructure build out, in China, India and Brazil, should justify sustained high prices and high demand for copper. China and India have more than 20 times the population the United States did when it industrialised in the early 20th century. Demand has been fiercer and could last even longer in this 21st century super cycle commodities boom.
The story with copper is a simple one: long steady upward growth in demand accompanied by declining reserves and a lack of major new discoveries.
A trend like this does not stop overnight. Even in the recession of 2008 copper was rock solid. Its price may have declined, but demand stayed with the trend and the price soon bounced back to all-time highs. This trend is intensifying in 2012 with China continuing to lead the way.
On January 10th 2012 it was announced that copper imports by China surged to an all-time record in December. This was reportedly due to pre-holiday stockpiling (China's New Year is Jan 23) amid low domestic inventories for the world's largest consumer of the base metal.
What's interesting to note is that China's imports, as a whole, are down (2 year lows), but its copper imports have increased 7 months in a row, according to data on the General Administration of Customs' website. Inbound shipments of the refined metal, copper alloy and products were 508,942 metric tons, the highest level ever, according to Qu Yi, a Beijing-based analyst at CRU International Ltd.
This is setting off alarm bells within the copper industry.
Tight credit conditions, after China raised bank reserve ratios six times in 2011, spurred metal imports as a means to secure trade financing. Unprofitable arbitrage between London and Shanghai in the first half caused a 29 percent drop in inventories as users ran down domestic supplies.
China has some catching up to do in its bid to secure and stockpile copper for future use. With copper off its April highs of close to $4.50 per pound, China is clearly buying up all it can get its hands on. The Chinese are bargain hunters, and just like in 2009, when copper prices were cheap, they are buying it up rapidly.
As you can see from the below graph, copper entered 2011 near an all-time high of over $4.50 per pound. It has since declined some 30% (nearly $1 per pound) from its highs.
Bloomberg reported recently that, Goldman Sachs Group Inc. analysts Max Layton and Allison Nathan say market jitters in Europe have led traders to take their focus off the fact that copper supplies are under pressure. Strikes by workers in Latin America have created a copper deficit, which will trigger a "strong rally" in the second quarter of 2012, the analysts wrote in a Nov. 20 report.
China consumes 39 percent of the world's copper, according to estimates by Morgan Stanley. There is no question that China is the very tip of the demand spear for copper. Where future copper supply will come from, outside of Chile, is a question on a lot of minds these days.
Future Copper Demand:
The above chart speaks to the statement of peak copper. Copper production has literally increased every year for 100 years (similar to oil). This simply cannot continue. Copper, although recyclable, is a finite resource. The United States has seen its copper production fall for a decade as Chile and Peru are leaving it in the dust. It is our strong belief that as world class deposits in mining friendly jurisdictions of the United States become ready for production, large companies will seize the opportunity. If the United States wants to increase its exports to balance its trade, copper is one metal it can achieve that goal with. Our team will discuss this in more detail in a future volume.
Global copper consumption continues to inch ever higher - averaging increases of close to 534,000 tonnes per year.
Copper is the heartbeat of economic activity. China is leading the world in economic growth and is stockpiling copper once again as its inventories run low. The purpose behind the stockpile is simple; China expects economic activity, including manufacturing and infrastructure projects, to ramp-up once again.
Back in 2009, when copper was trading at roughly 50% of today's value of $3.75 per pound, the Chinese were swallowing up copper mines around the world, stockpiling the metal for the country's expanding infrastructure and future demand. Today, China is once again buying copper, but this time at a much higher price than in 2009. As stated above, China is buying at a record pace despite the price doubling since its last copper binge. What does this tell you about its forecasts for future demand and future copper valuations? What does it tell you about China's thoughts on future inflation? With our team fully anticipating continued inflation and China confirming copper to be a bargain at these levels, our team is bullish on the long-term outlook for this base metal.
One last thing to keep in mind is that India, Korea, Russia and Poland combined will consume more copper than China over the next couple years. So while China is a big driving force behind the copper trade, the amount of demand from the rest of the world, including the US, is staggering. This could create the perfect storm for copper companies and investors in the base metal.
Our team strongly believes copper is a metal we need exposure to.