Copper prices fell to a two-year low earlier this month. The other London-traded base metals followed a similar pattern. In what we view as merely extremely oversold conditions, copper staged a mighty 10% rally. The other metals consolidated but continued to hover near their lows. An indication, perhaps, that the recovery in copper prices was tied more to short covering than a resurgence in demand for industrial metals. Indeed, we find that the supply/demand situation for copper continues to head in a bearish direction.
On May 1, The International Copper Study Group (ICSG) released its most recent report, which showed that the global balance sheet posted a 67,000 tonne surplus for January. Although 2012 ended with a 396,000-tonne deficit, that shortfall contracted sharply over the past few months – by more than 100,000 tonnes. And it would seem from recent developments that this will continue. ICSG estimates that 2013 will end with a surplus of 415,000 tonnes, the first time the market will be in surplus since 2009.
Chilean copper output grew by 3% in 2012, below initial optimistic estimates. Thus far in 2013, however, forecasts for output growth of between 5% and 10% appear to be achievable. Despite a sluggish February, in which output grew only 2.8%, and ongoing labor strife, average monthly output is up 6.5% versus the same period last year.
Warehouse stocks continue to build. At just under 900,000 tonnes, combined inventories at LME, COMEX, and Shanghai warehouses have more than doubled over the past year. And that is on top of the 500,000-tonne-plus stockpile rumored to be held at bonded warehouses in China.
China continues to be the world’s largest importer and consumer of copper, but imports are in a downtrend. April imports were 7.4% below the previous month and were at their lowest level in 22 months. Import volumes have fallen by roughly 40% from their late-2011 peak. Naturally, even with some countries slowly recovering from the global economic crisis of the past several years, there are no countries or regions that can compensate for the sheer magnitude of Chinese overseas purchases.
Rising energy and labor costs worldwide have driven production costs up over the past few years, but copper prices remain well above the cost of production. Costs vary from mine to mine and from region to region. The costs we surveyed averaged between $1.50 and $2 per pound. Still, it is a very profitable business, and where unimpeded by weather and labor problems, mining companies will produce as much as they can. With Chinese buying possibly in for a long-term decline, global demand may not be sufficient to sop up excess production.
A study of open interest and CFTC commitment of trader data confirm that commodity funds were heavily short and probably were a strong contributing factor to the sharp decline in prices that began in early February, bearish fundamentals notwithstanding. During the recent rally, open interest dropped sharply and the net-short position was trimmed by more than 20,000 contracts.
We believe that this rally warrants establishing new short positions or adding to existing ones. Lower our long-standing buy stop at $3.85 per pound, basis nearest active contract, to $3.45.