Seeking Alpha

Copper: Why The Laggard Metal Could Soar In 2020

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Includes: BHP, COPX, CPER, GLCNF, JJC, JJCTF, RTPPF
by: Winnie Muli
Winnie Muli
Commodities, base metals, REITs, bonds
Summary

Copper lagged while other metals like palladium outperformed in 2019.

The trade war and the global manufacturing recession contributed to this.

I expect the global economy and supply issues to propel copper higher.

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Thesis

The price of copper bottomed in August, when it reached a low of $2.52. The price has been rallying since then. In this article, I will explain why the price of copper is set to retest and possibly pass the $3 level. First, I believe that the global economy will do better than the market expects. Second, supply will likely be constrained in 2020. Finally, technical factors point to a sustained rally.

Overview

2019 was a relatively positive year for metals. Palladium was the best-performing metal, gaining 54% on supply concerns. Gold rose by 15% as the Federal Reserve turned dovish when global central banks continued to add more gold into their reserves. In 2019, these banks were responsible for 20% of global gold purchases. Platinum rose by 17% on automobile demand, while silver struggled.

Copper started the year strong but lost momentum along the way. The prices of the red metal were highest on February 27 and April 17, 2019 at $2.974. They then dropped, and the lowest price was recorded on August 26 at $2.520. There were several reasons for this. First, hopes of a trade deal between China and the US soured in the beginning of the second quarter. Second, the market experienced a global manufacturing recession. The manufacturing PMIs in most developed and emerging markets remained below 50 for a better part of the year. Third, the mini trade war between Japan and South Korea also contributed to the decline.

In all, copper prices gradually increased by a 4.06% margin, from the last recorded low of $2.5 to $2.8 as of December 16, 2019. In this analysis, I will explain the reasons why copper could be a better performer in 2020. First, I expect the global economy to perform relatively well in 2020. Second, supplies of the red metal will likely be constrained in 2020.

Global Economy Growth is Positive for Copper Price

Copper is often viewed as a barometer of the world’s economy. True to this, copper prices struggled in 2019 as the world went through a broader weakness and the manufacturing sector went through a recession. Copper is such a valuable metal because of its use in the electric and electronic industries.

As we start a new year, there is a sense that the world may see a broader recession. A recession is often negative for copper because it impacts demand from countries and companies. According to a survey by Bankrate, 55% of the economists surveyed expect a recession to happen in 2020. There are valid reasons to be worried about the health of the economy. In the United States, corporate earnings growth has slowed, budget deficit is increasing, the decision by Boeing (BA) to halt 737 Max production could dent the economy, and political uncertainty could scare investments.

However, I believe that a recession will be unlikely in 2020. In recent weeks, data from China has shown some improvement. In November, data from Caixin showed that manufacturing PMI is improving. As shown below, the PMI has been increasing since June 2019. The same growth was seen in data from China Logistics. The China data matters because the country is the biggest buyer of copper.

China Caixin Manufacturing PMI

(Source: Trading Economics)

In Europe and United States, manufacturing activity has been weakening. However, there are signs that the weakness has bottomed. A key catalyst for this is the recently announced Phase I of the US and China trade deal. Another catalyst is the recent election in the UK, where conservatives had a resounding victory. The passing of USMCA and the Fed’s commitment to lower interest rates are other catalysts.

Therefore, after having a sluggish growth in 2019, I expect the global economy to power ahead in 2020. This will be a positive thing for copper and other base metals.

Supply Concerns in 2020 Could Push Price Higher

Chile is the world’s biggest copper producer. According to S&P, the country produces more than 30% of the world’s copper. The Escondida mine, which is owned by BHP Group (BHP), Rio Tinto, and JECO, produces more than 1.2 million metric tons of copper every year. In October, there were protests over a hike in metro fares, leading to a sharp decline in the Chilean peso. These protests did not have a major impact on copper production. As we start a new year, there is a possibility that these protests will affect production.

Another catalyst will be the planned upgrades by Codelco, the state-owned copper mine in Chile. The company has been doing upgrades to replace its decades-old equipment. The goal is to enable Codelco to dig deeper as iron ore supplies diminish. According to Bloomberg, the company is expected to accelerate these upgrades in 2020 if it gets the much-needed funds from the government. As a result, upgrades could lead to disruptions in its mines. This is important because Codelco is a major copper producer that produced more than 1.81 million tons from its mines.

Another supply risk for copper production will be from the Democratic Republic of Congo (DRC). In recent years, political risks in the African country have been increasing. This was part of the reason why Glencore (OTCPK:GLCNF) decided to close down its Mutanda mine in DRC, which is an important copper-producing country.

According to KPMG, the country boasts some of the best-quality copper mines in the world. In addition to political risks, the new government has added more mining levies. This has affected the profitability of copper mining companies. Just recently, Tenke Fungurume, the Chinese-owned company, warned that it was operating at a loss. Tenke is the biggest copper miner in DRC. In a statement to the Financial Times, the company said that some smaller mining companies had opted to slash production or exit the market. It also blamed the poor infrastructure and frequent power shortages.

Similar problems are also happening in neighbouring Zambia, which is another important producer. In all, I expect supplies in Chile to increase marginally in 2020 while those from Zambia and DRC to fall in 2020, which will be beneficial to copper prices.

Copper Technical Indicators Point to a Sustained Rally

Finally, a copper rally appears to be supported by the technicals. The 1-year chart shows that copper price established a double top pattern at almost $3 in February and April 2019. The price then declined and reached a low of $2.52 in August. It then started moving upwards as hopes of a trade deal emerged. On the chart, the RSI has been on an upward trend. It has risen from the oversold level of 30 to the current 70. Further, the 28-day and 14-day moving averages have recently made a bullish crossover. The price has also crossed the 61.8% Fibonacci Retracement level. This means that there is likelihood that the price will continue the current trend. Based on the above fundamentals, I expect the price to retest the 2019 high of $3.

https://www.tradingview.com/x/UqnhDWWH/

(Source: Author / Trading View)

Risks to the Thesis

There are several risks to all these. The first risk is if the recent optimism of trade fades. While the first phase of the trade deal has been heralded as a success, there is a possibility of more escalation. This could affect the first thesis mentioned above. The second risk is of a strong dollar. There exists an inverse relationship between the dollar and commodities. While the Fed has turned bearish, there is a possibility of more dollar demand. This could lower the copper price.

Conclusion

Copper was a laggard in 2019. It underperformed most of the precious and base metals. Nonetheless, I expect the price to continue the current rally in 2020 as it attempts to retest the previous high of $3. There are several ways of taking advantage of copper price movements. You can trade copper options at the CME exchange and buy copper mining companies like Glencore (OTCPK:GLCNF) and Rio Tinto (OTCPK:RTPPF). You can also invest in copper ETFs like the Global X Copper Miners ETF (COPX) and the United States Copper Index Fund (CPER).

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.