Freeport-McMoRan Copper & Gold Inc (FCX) has had a rough time with the global economic weakness and it does not look like it will end anytime soon.
With more than 70% of its revenue coming from copper, it does not look like Freeport will recover any of its value in the near future. Copper is just getting hammered. The prospects for the consumption of copper in China are dimming. It is peak time for the nation but it appears that factories are not stockpiling the metal because economic conditions are weakening. It is not China alone. In India, copper prices have been in decline because of "industrial slumps." Let's face it, we have very weak global markets right now. Even The uncertainty in Europe added to worries about global growth sending industrial commodities like oil and copper lower.
Freeport is not taking this lying down; it is planning on future growth. It is organizing explorations close to its present mines in order to boost reserves enabling it to grow future production capacity in its large minerals districts. The capacity for such reserves rest in both North and South America along with Tenke Fungurume minerals district in Congo's Katanga province. So long term, Freeport's operations look positive.
In the short term though, the company will have to face increased costs in copper production. Net cash costs (net of by-product credits) averaged $1.26 per pound of copper for first quarter 2012 as compared to $0.79 per pound for first quarter 2011. This has been across its copper-producing segments. Grasburg Indonesian operations might face year-over-year cost acceleration due to dwindling volumes and this will diminish the company's effort to infuse high fixed costs.
Freeport had an average first quarter in 2012 but saw a drop in profits earned from quarter to quarter y2y. Operating cash flows for first quarter 2012 totaled $801 million (which were net of $720 million in working capital uses) as compared to $2.4 billion seen in the first quarter of 2011 (which included $114 million from working capital sources). It is just not a good time for the industry.
But this drop in copper prices does offer us an income opportunity. As we expect Freeport to remain bearish a bit longer, we would take advantage of the trend by initiating a Bear Put Spread.
The Options Play
Presently trading at 33.09, we are bearish on the stock for the short term and are looking at a Bear Put Spread.
- Buy an August 2012 put with a strike of '33' (priced at $2.68)
- Sell an August 2012 put with a strike of '32' (priced at $2.21)
- Net Debit to Start: $0.47
- Maximum Profit: $0.53
Reasoning behind the Trade
- The copper industry still looks fairly bleak for the near future.
- FCX mines a majority of copper.
- The stock is in long term bearish pattern it does not look like it is ready to exit.