The Cost of Copper

- Copper Prices Reflect Investment Risk Environment

Amid rapidly fluctuating hi-tech and financial stocks, basic commodities would seem to provide a long-term source of stability. Yes… and no. With a history of human use since 8,000 BCE, copper is a mainstay in the production of cable, wire, and electrical products, as well as pipes for plumbing, heating and ventilating, building wire, and sheet metal facings. In the past five years the price of copper has ridden a rollercoaster up and down, proving that even in common metals there is risk and reward.

 

Last Price, Value at risk, and Volatility of NYMEX copper contracts out to December 2009.

Copper production has a very long lead time-it can take ten years to get a new copper mine developed-and as a result supply tends to be inelastic. In the decade after 1989, thanks to steady production and soft demand cash copper prices experienced a slow decline, and by March 1999 copper hit a ten-year low of US $0.63 per pound. By July 2003, growing demand supported a climb to $0.75 per pound. Not a spectacular increase, and perhaps the kind of glacial movement one might expect from an ancient commodity.

But the heat was on. Spurred by the economic boom in China and India and huge demand from the construction industry, copper became a target for short-term speculative investors. After a slump in February 2007, by July 2008 the price hit a ceiling of $4.00 per pound. Then came the "fall off the cliff," to paraphrase Warren Buffet. By December of last year-only five months later-the price of copper had plunged to $1.25 per pound.

 

Volatility of the copper curve out to 21 months.

But there has been recent improvement, and by the second week of March the price had climbed to $1.60. The ripples are being felt. On Tuesday, March 10, U.S. mining equipment manufacturer Caterpillar Inc. said the mining industry could be anticipating a return to growth in the next 18 months, and the price of copper is a key indicator of a turnaround. Copper at $1.40 serves as a break-even point for many producers, and when copper falls below $1.10, many miners suspend operations. A price of $1.60 is a threshold at which some miners put idle equipment back to work.

Not everyone is optimistic; some mining customers are convinced that copper will dip as low as $0.90. But demand from China and other infrastructure-building countries may support the price-it's just a matter of how quickly.

 

Correlation-over-time of Caterpillar Inc. stock to spot copper.

Profits are still being made. The Corporación Nacional del Cobre de Chile (Codelco), the world's largest copper producer, announced on February 27 that in spite of the global economic crisis, in the last quarter of 2008 the company took US$104 million in profit, despite the fact that in 2008 copper production decreased 117,000 metric tons compared to 2007. But when assessing risk, investors sometimes need to consider more than economic indicators. Codelco explained that the company lost 53,000 metric tons of output due to "violent protests by a group of contractors, and climatic factors." While investors watch Wall Street the world continues to do what it always does, and not every problem can be linked to sub-prime mortgages.

Chart of 90-day volatility-over-time of spot copper created using RiskAPI_HistorialVol function.

For information on powerful risk-management tools that allow you to track and measure the risk of physical copper, copper derivatives, and copper-exposed global equities, contact PortfolioScience today.

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