Wednesday, June 22, 2011

Dr. Copper, the housing bubble edition

The mighty Dr. Copper; the only metal has a suffix attached to his name, for his accuracy predating equity prices for years. In the past 30 months or so, copper had a fantastic performance, almost quadrupled its price from December 2008 lows. But recently, this is becoming more of a story about emerging market infrastructure spree than acclaimed shortages.
An article in daily mail about a Chinese ghost city Kangbashi may give us some idea about the scale of the spree.

One approach road leads past what was until recently a 30,000-seater stadium, costing £100 million and rushed to completion in nine months for last year's Mongolian Games - horse-racing, archery and wrestling. When it was opened, it looked rather like Concorde about to take off. But soon after New Year's Day, a whole white wing, plus the central peak, collapsed during the night.
Refined copper imports by country in 2010

As the ancient Chinese saying goes:” one shall invest in art in heyday and own gold in troubled times:” With some Chinese art prices soaring to unprecedented levels, not doubt we are in a boom time. However, anybody who studied some history may ponder the question whether this time is different. Looking at the media flooded with articles about how superior a state-driven fixed asset investment economy is, I couldn’t help but wonder if anyone experiences the same déjà vu as I do.
Sotheby Indicator

Supply wise, for all the Malthusians I’ve got bad news for you. BBC just discovered new source of copper supply! They are in Goldman’s warehouse! Several prominent website has already covered this story in detail:

BBC bubble trouble interview via
MR: In fact it turned out that only about 40% of the copper was on the LME’s official stocks, and therefore visible to the market. 

The primary driver of this anti-competitive behavior is the fact that GS, JPM and Glencore now control virtually the entire inventory bottlenecking pathways: "In recent years, major investment banks like Goldman and J.P. Morgan and commodities houses like Glencore have been snapping up warehouses around the world, turning the industry from a disperse grouping of independent operators into another arm of Wall Street. The LME has licensed about 600 warehouses around the world.

Copper guru Simon Hunt explained:
The real story about copper is the size of the financial sector’s involvement in buying surplus copper and warehousing it outside the reporting system both in your country and elsewhere, which probably started in 2006. This is what creates robust demand, which is quite different to consumption.

I’m also a big believer in seasonality; the chance of a market collapse in autumn is just too high for me to discredit markets seasonal traits. So I examined three major housing bubble in the past 20 years or so, the Japan asset bubble, Asian tiger, and US housing bubble and put them into a seasonal perspective, presidential cycle in this case. These three housing bubbles are each characterized by the same stated-induced cheap credit, reckless speculation, and debt fueled asset inflation. And here is the result:
Seasonal copper price during major housing bubble
If the Chinese housing bubble talk is validated, with inflation pressure mounting up and further tightening measures in emerging market, Simon hunt’s prediction of copper price plunging to 7500 level surely could be realized by year end. After that, copper price tend to rally at the beginning of election year, and an even lower copper price in second half of 2012 is not avoided.

I will continue to monitor closely the market developments, feel free to visit my website:

1 comment:

  1. Very interesting. I came across the same pieces of information. I have been looking at copper prices/stocks/demand dynamics for a while. I believe commodities are actually a bubble at the moment. Especially copper.

    I view it this way:

    Investment banks are selling the "tight supply / chinese insatiable demand for commodities" story to their clients. They tell their clients to diversify their asset allocation by buying commodities. This is driving demand for commodities. Commodity prices go up.

    Investment banks again purchase the warehouses where this metal is stocked and kept for their clients at an inflated price. Warehouses (investment banks) make bigger profits with more and more metal stocked in them. They probably also use the warehouses to get information/massage the stock level information.

    Investment banks use the same story (i.e. tight supply and insatiable emerging market demand for commodities) to sell IPOs of mining companies and commodity brokerage houses (eg. Glencore) / and rack in huge fees.

    Commodities are a very profitable business for Investment Banks....

    What they forget to tell investors is that a lot of this demand (mainly in China) is inflated by 1) huge fixed asset spending in the EM economies that is not sustainable and also credit driven 2) housing bubbles

    Copper prices have been at record levels and are clearly overvalued (cost of producing ca. $3,000/ton vs prices close to $9,000/ton). Visible stocks have been going up. The demand is 1) not real demand 2) going to go down with tightening monetary policies in EM and lower growth in developped markets.

    Usually bubbles burst with a rise in interest rates (this is happening in China and other emerging markets at the moment).

    I see some trouble ahead and that's why I am short copper.

    Good pieces of information riskhacker.