Multitude Of Trends Point To Rising Copper Price Ahead

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Includes: BHP, CPER, FCX, JJCB, JJCTF, RIO, SPY, TECK
by: Geoffrey Caveney
Summary

Last week's copper rally looks like a breakout after a consolidation period, pointing to bigger gains ahead.

The bullish fundamental case for copper is simple and powerful: the world's growing demand for electric power, which requires more copper electrical wiring.

Copper and the stock market are both bullish, and since late 2016, copper is actually solidly outperforming the stock market.

Analysis of the Copper/Treasury Yield ratio trend also points to higher copper prices going forward.

How to invest in copper.

Last week copper (JJC) (JJCB) (CPER) (CU) got the market's attention again, with the copper price rallying from $3.07/lb on May 31 to $3.30/lb at last Friday's June 8 close:

The financial news headlines mainly treated this copper price surge as simply a reaction to difficult labor negotiations and the threat of a work stoppage at the world's largest copper mine, BHP Billiton (BHP) and Rio Tinto's (RIO) Escondida mine in Chile.

But when we look at the copper price trend over the past two and a half years, a different and clearer picture emerges. Copper has been in a very strong bull market since the bottom under $2.00/lb in January 2016. The price broke above $3.00/lb last August, and since then the price has traded in a range, consolidating the gains of 2016 and 2017.

In this context, last week's rally looks like a classic breakout after a consolidation period. This points to bigger gains ahead, and suggests that the next leg up of the copper bull market has only just begun.

[Note to readers: I saw this coming in May, and alerted my subscribers in the Stock & Gold Market Report. In that service, I have been adding copper miner portfolio positions since May 18.]

I have read a lot of mixed views recently on where the copper price is headed from here. My own bullish view is not merely based on the technical chart perspective above, although that is indeed an important and promising indicator.

The Bullish Fundamental Case for Copper

The bullish fundamental case for copper is simple and powerful: The world has a voraciously growing demand for electricity and for everything that runs on electric power. And more electric power requires more electrical wiring, which is made of copper.

Analysts debate many things about global technological trends, and which metals and commodities will be in more or less demand because of them: lithium, cobalt, graphite, uranium, etc. Also up for debate are the impacts of new technology on demand for metals like silver, platinum, palladium, etc. But I see very little debate over the demand for copper wire to conduct the electricity that has, does, and will provide the power for all of this technology.

The bullish case for copper is not about what percentage of the world's autos will be electric by 2027; it is about the growing electrification of just about everything just about everywhere. The devices I use to write this article are powered by electricity conducted by copper wire. So are the devices you use to write comments, whether bullish or bearish.

The United States uses over 12,000 kilowatt hours of electrical energy per capita per year. Russia and Japan use about 7,500 kwh per capita per year; the EU about 5,500 kwh, China about 4,500 kwh, and India only about 1,200 kwh per capita per year. The global average is under 3,000 kwh per capita per year. (See the figures at this link.) The most technologically advanced industrial countries will not be reducing their electricity consumption; China, India, and the rest of the world will be enormously increasing their electricity consumption and catching up.

The Copper Price and the Stock Market Trend

Of course, a long-term technological trend does not guarantee anything about the direction of a commodity price in the short term. But as I pointed out to begin this article, the current technical trends are very positive and bullish for the copper price too.

The copper price tends to move together with the broader stock market in the same direction, because both tend to be bullish when the global economy is doing well, and bearish when the global economy is doing poorly. Since 2016, as we all know, global stock markets have surged in a booming bull market. So has the copper price, and in fact, since late 2016, copper is actually solidly outperforming the S&P 500 (SPY):

As for the stock market itself, to me the trend looks simply bullish for very simple reasons. Just take a quick look at a basic chart of the S&P 500:

There's not much anyone can debate about this beautifully simple chart. The S&P 500 goes up, it touches the 200-day moving average (red line) a couple times in 2016, a few times so far in 2018, it bounces upward off of it every time like clockwork, and then it keeps going up.

So yes, until I see evidence to the contrary that shows up in the price chart, I'm not going to bet against the stock market!

And if the stock market keeps going up, and copper moves together with stocks, and the copper price has actually been outperforming the stock market for a year and a half - well then, for me the message is very simple: We should be very bullish about the copper price going forward from here.

The Copper/Treasury Yield Ratio

If you want still more evidence supporting the argument for the copper price rising higher from here, I present to you an analysis of the copper price relative to the 10-Year U.S. Treasury Yield:

The 10-Year Treasury yield is the standard benchmark for interest rates. When we compare the price of copper relative to this yield, it answers this question: Is the interest one earns by holding Treasury bonds keeping pace with the price inflation of a core commodity like copper?

A Treasury bond yield is a nominal interest rate, but to understand the direction of real interest rates in the economy, we must account for the effect of inflation. This is what a ratio like Copper/Treasury Yield does: When this ratio is rising, it means that price inflation is outweighing the nominal interest rate, so the real interest rate is falling.

If we look back over decades and centuries, nominal interest rates have been tending to fall lower and lower over time. Meanwhile, naturally, the prices of commodities like copper have tended to rise higher and higher over time. So over the long term, real interest rates fall and a ratio like Copper/Treasury Yield rises.

With this context, we can now take a look at the actual chart of this Copper/10-Year U.S. Treasury Yield ratio from 1990 to the present:

We see here a confirmation and continuation of all the long-term historical trends described above. We see that this ratio was under 0.2 from 1990 to 2003, and then it soared from 0.2 to almost 1.2 in 2008, and again from 0.4 to 2.4 in 2012. This was the decade of the commodity supercycle in action.

As the commodity supercycle ended, the Copper/Treasury Yield ratio fell back to 1.2 in 2013. But it held there, and since then this ratio has been stable for a long time now around the 1.0-1.5 range. We can zoom in on the last 5 years to take a closer look at the ratio in this range:

The Big Picture narrative is this: the long-term historical trend of this ratio is almost always upward, the 2002-2012 decade was a massive upward move for it, and the last 5 years have been a very long period of solid consolidation of this ratio.

All of this is a classic set-up for the next major upward move of the Copper/Treasury Yield ratio.

Since this is a ratio, there are several scenarios by which such a move could play out:

  1. If the 10-Year U.S. Treasury yield keeps rising, as it has been since mid-2016, then the copper price will have to rise even more to make the ratio go up.
  2. If the Treasury yield is stable within a range, then simply a rising copper price will drive the ratio higher.
  3. If the Treasury yield falls again, then the copper price simply holding up better than the falling yield would be enough to move the ratio higher. But a rising copper price combined with a falling yield would spark the biggest upward move for the ratio - which was precisely the dynamic that powered the massive rise of this ratio from 2002 to 2012.

For all of these reasons, I am very bullish on a rising copper price for the rest of 2018 and into 2019. Last week's rally was just the beginning.

How To Invest In Copper?

Unlike precious metals, with copper one cannot just buy and store the metal itself - it is valued by the pound, not by the ounce. It would literally take one ton (2,000 pounds) of copper to equal the value of just 5 1-ounce gold coins.

Of course, there is an active futures market for copper, but this is more the domain of specialized commodities and futures traders, rather than typical long-term investors. A single copper futures contract represents 25,000 pounds, which is now worth around $80,000. It's not a market where you can safely invest $500 or $1,000 or even $5,000 in a meaningful way. The professional futures traders do it with leverage or with options, but these are high-risk trades that are very different from long-term investing.

So for most investors, the way to invest in copper is to invest in copper mining companies' stocks.

By far the best-known copper miner stock is Freeport McMoRan (FCX). This stock is likely to perform well as the copper bull market continues to rally in the months and years ahead. However, there are a whole host of complicating issues when it comes to Freeport as a company and as a stock. Above all, its biggest asset is the Grasberg mine in Indonesia, and Freeport must continually engage in complex and difficult negotiations with the Indonesian government about the operation of this mine.

Other stocks likely to perform well as the copper price rises include BHP Billiton, Rio Tinto, and Teck Resources (TECK). These are diversified base metal miners, and BHP and RIO produce iron ore most of all. I expect all base metal prices to rise along with copper. The iron ore market is more independent, and its price may rise less than copper and the base metals themselves. Still, all of these stocks are likely to be good investments and perform well in the copper bull market.

My best copper miner stock picks - senior miners, mid-tier producers, and junior miners, developers, and explorers - are reserved for subscribers to my service, the Stock & Gold Market Report. But I hope all readers can find something useful in the analysis and recommendations that I provide in this article.

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

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: I am long FCX and TECK call options.