Copper on the mend

If BHP Billiton boss Andrew Mackenzie is right, and commodity demand does rise by 75% over the next 15 years, then there is one metal that will lead the way: copper.

A glimpse of copper’s “bellwether” role as the metal which is first to move on good or bad news has been evident over the past week as it has risen to a two-month high of $US3.23 a pound.

Mackenzie did not mention copper in his optimistic speech to an Asia Society lunch in Melbourne on Wednesday, but if he had he would have been on a winner because a few hours after speaking the copper price rose by US5c.

A rise of US5c might not sound like much, but it does when added to the US14c/lb rise since July 30, with that combined US19c/lb uplift translating into a 6% increase in the copper price over the first eight days of August. I flagged the prospect of a copper recovery in my April article, Recovery prospects for sick Dr Copper.

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Before getting too excited and rushing out to buy shares in some of the better copper producers such as Sandfire (SFR) and PanAust (PNA), or explorers such as Rex (RXM) and Peel (PEX), a few points need clarifying.

Firstly, Mackenzie’s forecast of a 75% increase in commodity demand over the next 15 years is almost too simple to be believed. Just assume 5% annual demand growth and multiply that by 15, without bothering to spell out that some years will be better than others, and that there might a couple of negative years tossed in to trap traders. Secondly, that the copper market is being buffeted by the winds of change – to borrow a famous phrase.

China, the global copper sponge, is a source of daily conflicting reports; demand up one day, demand down the next.

The latest news of surging exports and imports in July is a positive signal that coincides with Mackenzie’s 75%. Next week could see demand down signals.

But, layered over the top of Chinese statistics and their sometimes fictional characteristics, and Mackenzie’s 15-year demand forecast, is evidence that the worst of the global downturn is passing and that some form of normality is returning.

If that is the case, and the central banks of the western world have been able to engineer a recovery through their ultra-accommodative monetary policies, then the first cab out of the commodity ranks will be copper and the biggest beneficiaries will be the major diversified miners; BHP Billiton and Rio Tinto.

On balance, and be prepared for bouts of bad news from China as the erratic global recovery gains strength, it would be wise to assume that the bottom of the current commodity price cycle was reached sometime in June, or perhaps little earlier.

What cautious investors should wait for is a clear sign that the copper-price recovery is sustainable, preferably at a price above $US3.40/lb. Speculators can dive in whenever they feel the urge.

If copper moves back over $US3.40/lb, and if stockpiles are still declining, then it will indeed be time to load up copper stocks starting with beefier exposure to the big two diversified miners, BHP Billiton and Rio Tinto, while also considering adding PanAust, Sandfire, OZ Minerals and an explorer or two such as Peel and Rex.

Interestingly, Rex is already moving up as speculators re-discover its promising Hillside project in South Australia, rising by 21c (62.7%) since the end of June to recent sales at 54.5c.

While the copper price is one pointer to a wider economic recovery, a better indication of a stabilising metal market is the size of the copper stockpile sitting in warehouses around the world.

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Most warehoused material is out of sight, but there is one organisation which has a track record for accuracy, the London Metal Exchange.

Over time an equal-but-opposite correlation between the copper price and the LME stockpile can be clearly seen.

A year ago, when the copper price rose to a high of $US3.80/lb, the LME stockpile stood at around 240,000 tonnes. As stocks rose to a five-year peak in late June of 678,000 tonnes, the copper price fell to $US3.05/lb.

Since hitting that stockpile peak, which was possibly caused by warehouse owners not releasing copper in a timely manner, there has been a noticeable downward turn, with around 605,000 tonnes now in LME storage – a 10.7% fall in less than two months.

The stockpile downturn started on June 25 and has continued in an almost straight line since then, with the sliding surplus matched by a rising copper price.

It’s too early to say that a sustainable downward trend has developed, and professional copper watchers such as Japan’s Pan Pacific Copper sees this year’s surplus of mine production over consumption continuing next year.

Offsetting that caution is the latest trade data from China, which revealed a 5.1% growth in exports during July, while imports rose by an eye-catching 10.9%.

HSBC Bank, a China specialist, was mildly optimistic about the trade numbers, noting that they should “at least provide some relief for those concerned about China’s recent sharp growth deceleration”.

Cutting through the immense and often contradictory flow of data is not easy but under it all there are positive signs emerging in the metal market, including Mackenzie’s long-range optimism and a somewhat more cautious comment from Rio Tinto chief executive, Sam Walsh, who said when releasing his company’s half-year profit result that the medium-term outlook “remains volatile with a broader range of outcomes now possible.”

“Chinese economic growth has decelerated so far this year and is unlikely to recover significantly in the second half, but we do not expect a hard landing,” Walsh said.

Taken collectively, Mackenzie’s 75% commodity-demand growth over 15 years, falling LME copper stockpiles, and an upturn in the copper price, and a pattern can be detected.

Very significantly the pattern is being aided by producer discipline in delaying new copper mining projects such as BHP Billiton’s mothballing of its giant Olympic Dam mine.

For investors with an eye on the commodity sector and an interest in re-building a position in metals, copper is the place to start, thanks to its use in virtually every aspect of industrial production from construction and technology to household appliances and power generation systems.

It is the ubiquitous nature of copper as a metal found everywhere that has earned it the nickname of Dr Copper, a predictor of industrial and stockmarket trends.

Or, as some commodity watchers have been heard to say recently: “copper is the new gold”, a darkly amusing observation which plays on the fact that copper rises in good times, while gold rises in bad.