Salman Partners Economist Calls Bottom in CopperTuesday July 21, 2015 14:14
Source: JT Long of The Gold Report (7/20/15)
Experienced investors know that commodities and equities move in cycles, and understanding where copper, iron ore, nickel and zinc are in the cycle can result in much smarter decisions than blindly following the pack. In this interview with The Gold Report, Salman Partners Vice President of Commodity Economics Raymond Goldie brings some perspective to the charts and equities that could ride the inevitable waves up.
The Gold Report: You recently wrote a paper called "Stagnation: The New Paradigm?" where you put current commodity prices in perspective by showing charts going back to 1999. What happened over the last five years in iron ore and copper and what can we expect going forward?
Raymond Goldie: The price of iron ore from 2011 to 2015 dropped more than 70%. If you look at the other great indicator of the mining industry—the price of copper—you find a similar, but smaller, decline over the same time period.
TGR: What were the fundamentals both behind iron ore and copper's astronomical moves up going back to 2004 and the subsequent falls?
RG: Iron ore prices really started to rise in 2008 because of increasing demand for infrastructure needs globally. Copper received added attention in China as it became seen as money right alongside gold. Chinese bankers started using copper, especially for foreign trade financing, which helped push copper prices up to levels that may not have been sustainable.
In both cases, the main reason for the following shift down was that supply had increased faster than demand.
Both iron ore prices and copper prices are, even at their relatively depressed levels today, higher than any price that they'd ever seen before 2006.
TGR: The continuing trend lines that you have on both iron ore and copper in these charts show slow, steady growth going forward. What prices are you expecting in 2016 and beyond?
RG: One of the things I've learned is that I'm not particularly good at forecasting prices. The forward strip markets, the futures prices on the London Metal Exchange, incorporate the aggregate of expectations and are better at forecasting prices. That seems to be calling for a steady increase in copper prices over the next 10 years.
In the case of iron ore, there is no forward strip market, so I relied on the Australian government forecast. We're at a pretty flat bottom now and the best estimate is a steady increase in iron ore prices.
TGR: What would steadily increasing commodity prices mean for the commodity equities market?
RG: One of the charts that I've put together shows the relative performance of the Toronto Stock Exchange diversified mining index against the overall Toronto composite index. It shows seven clear economic cycles since 1960. In every one of those cycles, equities have experienced two peaks and two troughs. One of the peaks happens as you recover from the end of the recession. Then in the middle of each cycle, those equities tend to languish and decline and form a second trough, finally running up to the cycle end peak. I believe we are at the middle of one of these mid-cycle peaks right now.
TGR: Is there anything different about this cycle than the previous cycles? Is it acting as predicted?
RG: Many have said we are experiencing uncommon demand, but if we look at the Western world's demand for base metals in this cycle compared with some of the previous cycles, we find that the trend of the line for demand has been pretty much in the middle of previous cyclical trends. Even China's export data is, on average, sideways. There may, indeed, be strong growth in China in demand for copper, but there's also been strong growth in production of copper in China. The net result is that China's impact on the rest of the world copper market is pretty flat. So it's not a demand story.
I think it's a supply side story that is resulting in copper prices that are stronger than at any time before 2006.
TGR: What is causing the lack of supply and will that continue?
RG: At the beginning of every year, copper mining companies publish their production goals, and typically up to 2005, they achieved that. One of the ways they did that is by tucking away some high-grade ore so they could kick up the pounds if needed at the end of the year. But since 2005, the world's copper industry has consistently produced 7% less copper than planned. One of the reasons we've had these shortfalls is that those areas of high-grade ore don't exist anymore. They've been mined out.
That is why we have a supply side issue at existing mines. When it comes to building new mines, not only are we not finding sparkling new copper deposits at the rate we used to, but also it takes longer to get mines into production—12, 15, 20 years—because of new environmental compliance regulations.
That is why this isn't a typical cycle. This is a cycle constrained by government compliance and governmental regulations.
TGR: Can the junior companies fill that demand in the coming cycle?
RG: Many juniors have superb projects, but they're lacking financing. Banks generally want to lend to big companies. So the juniors are sitting, waiting to be taken over or engage in a joint venture with a big company. But big company shareholders often do not want to see their companies underwriting big new expansion projects. They'd rather see that cash returned to them.
TGR: Do you have any words of wisdom that can help investors re-engaging with the market as the summer comes to a close?
RG: We have seen the bottom in copper. We are still waiting for the bottom in nickel, and zinc could be a couple of years out. I would focus on copper equities. Start with the big, liquid copper producers. Looking out further will be the time for other junior copper plays and then later, nickel, and even later, zinc.
TGR: Thank you for your time.
*Pinch-point curve™ is a term trademarked by Raymond Goldie.
Raymond Goldie, vice-president of commodity economics and senior mining analyst at Salman Partners, has extensive experience in the investment business, including more than 20 years as a mining analyst covering non-precious-non-ferrous and precious minerals (gold, silver, PGEs, diamonds) and fertilizer companies. In geology, Goldie holds a Bachelor of Science from Victoria University in Wellington, New Zealand; a Master of Science from McGill University; a Ph.D. from Queens University; and a Diploma in Business Administration from the University of Toronto.