March 19, 2020 / 2:27 PM / 14 days ago

Column: Copper crashes as viral chill catches up with metals

LONDON (Reuters) - Okay. So now it’s time to panic.

A worker monitors a process inside the plant at the copper refinery of Codelco Ventanas in Ventanas city, Chile January 7, 2015. REUTERS/Rodrigo Garrido

"Doctor Copper" and the rest of the base metals traded on the London Metal Exchange (LME) had weathered the global financial storm surprisingly well until Wednesday.

However, over the last 48 hours LME copper has dropped by 16%, hitting a four-year low of $4,371 early on Thursday before clambering back to $4,685 per tonne.

Copper’s collapse is part of the broader dash for cash, particularly U.S. cash, that is roiling the world’s financial markets.

But the metallic rout also amounts to a collective rethink about the impact of the novel coronavirus.

Metal markets thought it was just about China. They are now adjusting rapidly to the reality it is global. As will be the hit on metals demand.

And, indeed on metals trading. The LME is itself affected by the virus. It will suspend its hallmark open outcry trading rings from next week in favour of electronic price settlement.

CHANGE OF FOCUS

Copper’s has been hard hit in early London trade for two consecutive days as the LME contract catches up with a base metals selloff in Shanghai.

The Shanghai Futures Exchange's (ShFE) most active copper contract went limit-down in early trading Thursday, as did aluminium, tin and zinc. Copper volumes in the first three minutes of trade equalled the whole of Wednesday's session, LME broker Marex Spectron said.

As a result, sellers moved on to the London and New York copper contracts, it said.

Hedge-selling against put option positions likely added to the ferocity of the action in London.

The price sliced through put options sitting on the $5,000 and $4,900 levels. Exchange open interest totalled around 140,000 tonnes on those two strikes alone across the April-June period.

China turning bearish on base metals is symptomatic of the sudden change in market narrative.

Copper traders were expecting China to be the market’s saviour.

China’s manufacturing sector largely ground to a halt over the first two months of this year. The country’s economic growth is expected to contract over the first quarter by up to 5.2% (Citi) or even 9.0% (Goldman Sachs).

However, with almost no new domestically-transmitted infections and factories restarting, base metals markets were hoping for a really big stimulus package.

Even Chinese investors see things will not be that simple.

Hopes of a V-shaped rebound in the Chinese metals economy are fading as the viral chill on manufacturing activity and end-user demand rolls through Europe and on to the United States.

The automotive sector is a major end-user for all the base metals and epitomises the scale of the potential demand impact. Not only are car plants closing across Europe, reducing immediate demand for parts, but end-user demand has all but disappeared. Who could possibly be thinking of buying a new car just now?

China may be the driver of all things metallic, but part of its appetite for metals, such as copper, is to make things to sell to the rest of the world.

Steel and iron ore are leveraged to China's domestic construction activity, which is a possible reason iron ore has yet to succumb to the mass panic.

Base metals tend to be more closely linked with global manufacturing, which is “heavily-linked to the global industrial cycle through exports and supply chain links,” Goldman Sachs said in a note.

“We believe that the Chinese stimulus will not be able to fully offset ex-China weakness,” it said.

The bank has just cut its base metal price forecasts. In the case of copper, three-, six- and 12-month forecasts have been cut from $5,900, $6,200 and $6,500 to $4,900, $5,600 and $6,000 respectively. (“Metals: Going down to cost support levels”, March 16, 2020).

SUPPLY ALSO IMPACTED

The title of that Goldman note is a reminder that when the going gets tough in metal markets, the analysts dust down their cost curve models in an attempt to locate a possible price floor.

Cost curves, though, are themselves highly dynamic right now. The oil price has slumped and the dollar has boomed, leading to weaker producer currencies. Both will actively work to reduce the miners’ production costs.

Another problem is that metals producers are notoriously slow to react to market signals. The instinct is to keep producing until the financial pain becomes too intense by which stage the price could be well below the theoretical cost curve.

It has become clear that China’s big smelters largely kept operating over the quarantine period, pumping metal into a demand void. ShFE stocks have mushroomed over the period.

The one interesting exception is lead. National production slid by 10% in January-February and ShFE stocks have fallen by 26% since the start of January. Quarantine measures appear to have disrupted the battery-recycling chain, a core component of lead’s production profile.

Will this pattern of over-production and stocks build replay in the world outside of China?

This is where there is a coronaviral kink in what is otherwise an overwhelmingly bear narrative.

Big producers aren’t waiting for a market signal to start reining back production.

Containment measures are already forcing them to reduce operations.

Peru, which accounts for around 12% of global copper and zinc production, has declared a national emergency. Many mines are being placed on care and maintenance or seeing activity reduced to minimal critical levels. MMG's Las Bambas is the latest to confirm reduced operations.

The disruption has spread to Chile. State-owned Codelco will reduce operations for a two-week period as part of a national effort to control the spread of the virus.

Anglo American is moving to a minimum "operational continuity" plan at its Los Bronces copper mine.

In both countries the emergency measures are supposed to operate for two weeks but timetables are evidently going to be highly flexible.

If there is a glimmer of hope in the current metallic gloom it is that such supply restraint, involuntary though it may be, prevents the accumulation of too much inventory during what is shaping up to be a global manufacturing crisis.

Copper has joined the global panic. Where it goes next is down to a three-way tug-of-war between Chinese stimulus, collapsing demand in the rest of the world and supply disruption.

The only certainty is volatility.

The opinions expressed here are those of the author, a columnist for Reuters. 

Editing by Barbara Lewis

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