Copper Prices Jump as China Doubles Usage

Investors bid up the price of the metal and the stocks of companies that mine it

(Bloomberg)—High school rugby coach Bob Markovich paid $3,812 for 250 shares of the Global X Copper Miners ETF in September. He got the idea from an investment club he advises for students, including his daughter Lydia.

"It's the right time to buy it, the right time to stockpile it and the right time to own it," said the father of five who coaches sports at Christian Community School in North Eaton, Ohio. His wager, 12 percent higher to date, links booming demand in China with supply constraints at world copper mines.

Investors are driving up the price of copper and the stocks of companies that mine the metal used to electrify the world's cars, homes and offices. China's consumption will almost double by the end of 2020 to account for 49 percent of world copper sales, according to CRU, a London-based mining and metals consulting firm. Plans for three exchange-traded products backed by the metal, including one by BlackRock Inc., the world's largest money manager, may increase pressure on suppliers.

"Copper is red gold," said Jeremy Gray, global head of resources at Standard Chartered Plc in Hong Kong. Gray predicts the metal could rise by 50 percent to $12,000 in the next six to 12 months. "We're on the verge of the biggest commodities bull market we have ever seen," he said.

All but two of 81 new copper mining projects due to start by 2016 stalled after the 2008 financial crisis curtailed investment, delaying 3.5 million tons of additional capacity, the Standard Chartered analyst said. The constraints mean demand will outstrip supply until at least 2013, he said.

2008 Levels

Copper has risen 14 percent this year, with contracts traded on the London Metal Exchange tripling to $8,435 a metric ton since December 2008. The Bloomberg index of world mining stocks also has climbed 16 percent in 2010 to the highest level since Aug. 1, 2008, driven by miners such as Freeport-McMoRan Copper & Gold Inc., Antofagasta Plc and Ivanhoe Mines Ltd.

Investors are piling in even after warnings from hedge fund manager James Chanos and Harvard University economics professor Kenneth Rogoff that China's prosperity is inflated by a real estate bubble that will burst and slow growth.

Last month, BlackRock, JPMorgan Chase & Co. and London-based ETF Securities Ltd. each announced exchange-traded products backed by copper. BlackRock and JPMorgan have filed plans to raise as much as $1.5 billion to buy and hold the commodity.

Raising Prices

ETPs, which can be bought and sold like stocks, give investors access to commodities without having to take physical delivery. In the gold market, 50 percent of the 1,200 tons purchased for investment last year went into physical funds, surpassing coins and bars for the first time, ETF Securities said in October. Gold is heading for a 10th consecutive annual advance, the longest winning streak in London since at least 1920, and has risen almost fivefold over the decade.

Funds that own physical supplies may exacerbate shortages while raising prices "at an accelerated rate," said Daniel Brebner, the head of metals research at Deutsche Bank AG in London. The Frankfurt-based bank will provide trading and custody services for ETF Securities' product.

Investors inject a price premium into copper that changes the economics of manufacturing, said Jeffery Burghardt, a vice president of Luvata Inc. in Buffalo, New York. Luvata produces copper and brass coils for the automotive and construction industries. At current prices, the metal accounts for as much as 75 percent of the cost of such household applications as light bulb sockets, Burghardt said.

'Dominated by Speculators'

"You have markets set up to be price-discovery vehicles for the industry that are now investment vehicles," Burghardt said. "They are dominated by speculators."

Marcelo Awad, the chief executive officer of mining at Antofagasta, the London-based company controlled by Chile's Luksic family, says fund sponsors are calling up.

"In the last nine months, investment banks and funds have approached us to discuss new ETF products," Awad, 54, said in an interview at his office in Santiago, the capital. "I can't identify the firms, but I can say we only listened to them." Its stock is up 40 percent this year.

Awad credits China's purchases with providing a shock absorber for the South American country during the global recession, and again after an 8.8 magnitude earthquake upended the nation's economy last February. Antofagasta recorded $392.8 million in sales to China last year, 13.2 percent of its total. Awad said the company would generate 25 percent of its revenue there in 2012.

Bubble Warnings

Not all signs are positive. China's expansion is creating a bubble, according to hedge fund trader Chanos, founder of Kynikos Associates LP in New York. He told an investment conference sponsored by Grant's Interest Rate Observer on Oct. 19 that 17 percent of Beijing office space is vacant and rents there fell 22 percent last year. In Shanghai, 12 percent of offices are empty and rents fell 26 percent, he said.

"Large-scale capital projects grow sillier by the day," Chanos said. He declined to comment for this story.

The investor frenzy for base metals may not last, said Charles Kernot, director of metals and mining at Evolution Securities Ltd. in London.

"There is a huge speculative element in metals prices, and at some stage that bubble will burst," he said. "Long-only pension funds will decide that having a ton of copper sitting underneath their office is actually not a very sensible thing to do."

Beijing Meeting

Just how co-dependent China and the world's extraction economies are emerged during closed-door governmental meetings in November 2008. Santiago Gonzalez, then Chile's mining minister, said he had grown nervous watching copper's price plummet 58 percent from that year's high of $8,730 a metric ton to $3,640 on the day the talks began.

Gonzalez, making his first trip to Beijing, said he asked Xu Shaoshi, China's minister of land and resources, and Ma Xiuhong, then vice minister of commerce, how the country planned to respond to the crisis. "If China stopped buying—or China stopped investing—that would immediately drive copper prices down and we were going to have problems," he says now.

"They told us not to worry" because that week they would announce China's domestic stimulus plan, Gonzalez said. The government's $586 billion spending plan was "intensive in copper use" and "gave us reassurance that Chinese copper consumption was going to be maintained."

Spokesmen for the two Chinese ministries declined to comment. Copper bottomed at $2,845 that Christmas Eve.

"From there it rose, never falling again, and kept going up and up," said Gonzalez, who teaches mining development at Central University in his country's capital.

Mine Blasts

Chile sold $9.8 billion of copper to China last year, accounting for 19 percent of the nation's exports and 6 percent of its gross domestic product, according to data extrapolated from the central bank and International Monetary Fund.

China's demand for copper is felt around the world from the blasts at the Cerro Verde mine in the desert of southern Peru to children watching television in the hillside village of Bentang, in Hunan province, which just got electricity in 2008.

Low rumblings shake the open pit at Cerro Verde most days. The rock-smashing explosions release energy equivalent to nine space shuttle liftoffs, according to majority owner Freeport- McMoRan, of Phoenix, Arizona. Management is spending $50 million to increase the plant's capacity by 10 percent a year, adding 30 million pounds (13,607 metric tons), said John Brack, Cerro Verde's former president, who returned to the U.S. in October.

Journey to China

"It would be impossible for China to evolve the quality of life without copper," Brack, 55, said in an interview in April. "We get to provide that. It's pretty cool." He is now vice president of Freeport-McMoRan's New Mexico operations.

Five to six pounds of ore are produced for each ton of rock processed. Shards seven inches in diameter are crushed and loaded into 480-ton tumblers filled with steel balls that grind the stone and mix it with water pumped from the nearby Chile River. Chemical reagents and air injected into this slurry attract copper particles that ride the bubbles to the surface. A fine black powder consisting of 25 percent copper is the plant's principal finished product.

Workers load the concentrate into giant urns on rail cars bound for the port of Matarani on the Pacific Coast, where conveyors drop the cargo on ocean-going ships.

A crane operator at the Port of Nanjing, on the Yangtze river, unloaded a 21,000-ton shipment of ore from Cerro Verde in March as light rain turned spills to mud.

Busy Port

"Shipments of concentrate have risen almost 10 times at the port over the past decade and we saw a sudden jump in volume in 2005," said Cheng Yuming, a dock hand. He's bought two apartments, he said, as he joined the burgeoning middle class.

From Nanjing the ore moved to a mill belonging to Jiangxi Copper Co. in Guixi City, 1,100 kilometers (684 miles) to the west. The company smelts the powder into copper plates that are shipped to makers of electricity-conducting wires and rods.

TBEA Co., among China's largest suppliers of electricity equipment, uses such products in transformers and reactors. TBEA recently installed a 500-kilovolt reactor, containing 15 tons of copper, in Hunan province, where power is pushed out to areas that formerly relied on hydropower and kerosene lamps.

In Bentang, which is Mandarin for gushing pond, villagers say they pooled their savings in 2002 to buy 68 cement poles on which they planned to string wire to bring them electricity.

Cutting Wood

Sixteen townsfolk shouldered each pole up the brush-covered hillside. Yet they couldn't afford the cables and transformers required to connect them to the regional power grid. So they waited six years while raising funds from selling fir trees at the local Qiaotou Forest Farm.

Hu Dongmei, a widow living alone in a wooden house, said she finally plugged in an eight-year-old refrigerator after the connection was made in 2008.

"We used to spend hours cutting wood in the mountains in order to cook," said Xiong Changfang, inside his home where three light bulbs burn. "With electricity, we can use our time better, where more money can be made."

Eight more villages in the forest still have no power. Dao County, where Bentang is located, will spend 8 million yuan ($1.2 million) to supply them with service by the end of this year, said Zheng Jiqiu, party secretary of the farm.

State Grid Corp. of China, the country's largest electricity distributor, will absorb one million tons of copper a year until 2015, according to Qu Yi, CRU's Beijing-based copper analyst.

Supply Struggle

"We are looking at a copper market globally that is going to really struggle to keep up with the demand needs, and, in particular, the demand needs of China," said Barclays Capital metals analyst Gayle Berry in London.

Barclays introduced an exchange-traded note linked to copper futures prices in October 2007, just as China stepped up its buying of reserves from foreign companies and governments. The Barclays copper note has gained 11 percent this year, compared with 7.4 percent for the Standard & Poor's 500 Index. The metal "is the commodity most exposed to China's demand," said Jigna Gibb, director of commodity structuring at Barclays.

In March, Wheaton, Illinois-based First Trust Advisors LP introduced an exchange-traded basket of mining stocks, the First Trust ISE Global Copper Index Fund. It has risen 23 percent. Five weeks later, New York-based Global X Funds launched its copper miners product, which is up 17 percent.

Gold Standard

BlackRock's iShares Copper Trust plans to raise about $1 billion to buy physical copper, according to its Oct. 26 registration statement filed with the Securities and Exchange Commission. The J.P. Morgan Physical Copper Trust registered Oct. 22 plans to raise about $500 million.

"Physically backed ETFs have become the gold standard for investing in metals," said Will Rhind, ETF's head of sales and marketing in the U.S. He declined to comment further.

In Ohio, Markovich isn't just a rugby coach. He is a managing partner of Grand Rapids, Michigan-based Nav Capital Partners LLC, which distributes exchange-traded products. Nav Capital began marketing Global X funds this month, he said.

While working out of his home in Sheffield, Ohio, he also manages his own portfolio. He decided to invest one morning after his daughter's economics class at her private school outside Cleveland, he said. A student in the group of senior- year students he advises was debating a prospective investment in Bentonville, Arkansas-based retailer Wal-Mart Stores Inc. That made Markovich think of the Chinese factories that supply so many consumer goods, from Android phones to iPods.

"He said, 'Christmas is coming, incomes are down, so I think more people will be driven to Wal-Mart to buy Christmas gifts," Markovich said. "It hit me: I'm teaching these kids about supply and demand, and they're thinking about buying Wal-Mart. I should be doing that with copper."