Smc Comtrade - Copper Gearing Up

Copper Gearing up…

comtrade

comtrade Rebuilding Momentum Contents

Section 1 Executive Summary

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Section 2 Economic Trend and Key Economic Indicators

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Section 3 Copper

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Resent price trend ·Copper premium to gain in Europe and US ·Spot copper TC/RCs around $50/tonne ·Scrap metal decline supports copper Demand ·Traditional demand drivers are likely to take charge again ·US housing and automobile sectors are likely to bottom out in coming quarters ·Surging Chinese demand Supply ·Raw material markets have tightened ·The supply pipeline

Section 4 Copper Market Outlook ·Demand summary outlook ·Supply summary outlook ·Our base scenario for Prices

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comtrade EXECUTIVE SUMMARY

Changes in LME prices since the start of this year

Rebuilding momentum

While the majority were panicking and turning more bearish with the passage of each day, we noted that copper was giving an early warning signal of impending change. It is said that the economy usually mimics the copper markets. This could be seen again if we look at copper prices couple months back. While examining the copper charts, it appears that the economy and copper are trending in the same direction. Copper prices appears now to be closer to a bottom than a top, which also means that markets are also close to putting some sort of bottom, if one takes a long term perspective. Copper has also a tendency of putting in a bottom well in advance of the markets and the economy, and it provides an early warning signal of a potential change in market direction.

Source: SMC Comtrade, LME

During the last strong correction, which lasted from 2000 until early 2003, copper put in a bottom towards the end of 2002, well in advance of the markets and the general economy. Thus a change in direction here will provide the first signs of a turn around. If the Dow trades down to the 7200 ranges and or puts in a new 52 week low, while copper starts to trend higher, it will be a very strong long-term bullish sign. More over, there are now many positive sings that have resurfaced and are also providing the current market optimism. This optimism is also resulting in marking the best quarterly gains in most of the equity and commodity indices. Demand for safer assets is waning while Treasuries are loosing their shine. Short Term lending rates have dropped to their lifetime lows while financial institutions are now in a position to return their loaned capital. Many key leading economic indicators have not only reduced in their pace of decline but they are now showing sustainable signs of recovery.

Summary Annual LME Cash Prices and Prices Forecasts, 2007-2011 US$/tonne Copper

2007

2008

2009

2010

2011

$7,290

$5,400

$6,000

$7,300

$8,800

Source: SMC Comtrade, LME

Commodities as an asset class, after a shaky start to the year, certainly look to be in favour again. The flagship metal in the base metals complex has already opened its innings on front foot. We have seen money chasing commodity indices since second month of this year, and we think this trend is set to continue over the remainder of the year and next year as well. This move will further supported by a weak dollar and improving metal fundamentals.

Our base case scenario for prices Going ahead from here, we envisage copper prices have definitely made their bottom at around $3500/tonne and now it is not long enough when copper once again resumes it's up trend. We remain dependent on China to lead copper demand, which now should also find support from the so far moribund metal demand from major consuming economies. Declining prices of US dollar and rising inflation in the days to come will provide a strong platform for the surge in prices from macro economic point of view. Our base case forecast is $6000/tonne in 2009 and $7300/tonne in 2010.

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comtrade Economic Trend and Key Economic Indicators

The main event: The US housing sector is bottoming

Strong reversal signs: They are picking up (ISM)

Source: SMC Comtrade, Reuters

Source: SMC Comtrade, Reuters

Euro

Participative rally…

Source: SMC Comtrade, Reuters

Source: SMC Comtrade, Reuters

Annual Industrial Production Growth Rates and Forecasts for Key Economies, 2002-2009 Annual % Change

2004

2005

2006

2007

2008

2009

USA

0.7

0.6

0.8

0.3

-2.2

-0.5

Euro Zone

0.9

2.7

5.3

1.5

-12.3

20.2

Japan

1.8

3.7

4.8

0.8

-20.8

-34.2

Germany

0.3

4.6

7.4

4.9

-11.3

-20.4

14.4

16.5

14.7

17.4

5.7

7.3

8.9

5.7

13.4

8.0

-0.2

-2.3

China India Source: SMC Comtrade, Bloomberg

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comtrade COPPER

LME Cash and 3-month copper prices

The Red metal is gearing up for much bigger gains Improving global confidence, better economic data, committed Chinese government on new billions of dollars of expanded infrastructure projects, expected sharp rise in inflation in major consuming countries are some important characterize of global copper market. Prices are poised to rally from the current levels and are expected to breach $6000/tonne levels before Christmas. Supply side will also come into picture in later half of the year due to earlier closures of mines and ever-increasing concerns of lower ore-grade, especially in the American mines. These problems will especially emerge in the backdrop of improving global appetite for copper. Metal forward curve has entered as flat terrain from the second half of next year. Generally during this time this curve remains in a shape of a right tick mark due to seasonal demand momentum. The flatness of this curve is made by the market forces, in which no one is ready to pay forward premium giving the scenario of a sharp recovery in the global economy.

Source: SMC Comtrade, LME

LME 3-month copper prices vs. cancel warrants

Our base case forecast for prices is, therefore, that prices have plateau at their current levels centered around $4500/tonne. They should start rallying after the current brief pause of five weeks towards $6000/tonne before Christmas. The aggressive stance is only the result of the underlying fundamental development in the copper market and an expected bounce back of copper demand in China as well as outside China. In summary, our base case forecast is for annual average copper prices of $4400/tonne in 2009 and $6200/tonne in 2010.

Source: SMC Comtrade, LME

Forward Curve

Source: SMC Comtrade, LME

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comtrade Recent price trends

LME cash and 3-month spread

The global copper market ended 2008 in surplus after heavy destocking by major consuming countries and the worst ever financial meltdown since the great depression. Housing, infrastructure and transport combine for more than 55 percent of world copper demand have been the most adversely affected sectors. It took only six month for copper prices to fall from its record high levels of above $8900/tonne to below $2850/tonne. Since then prices have not only managed to hold on their grounds but have smartly managed to gain more than 70 percent from there multi year lows in December 2008. This upward price journey started with a slight hint of global recovery, which now seems to be very obvious. Since its multi month lows, prices have moved smartly on back hopes of an early end of the global recession, China's strong performance in its manufacturing sector and declining LME warehouse stocks. Prices are expected to remain in an upward trend over the coming months. In fact, we warn they may be poised to a strong rally, helped by short covering.

Source: SMC Comtrade, LME

LME copper prices vs. US cancel warrants

Copper premiums to gain in Europe and US on Chinese imports Copper premiums in Asia were steady this week, but the summer demand lull in China and rising availability in the world's biggest consumer of the metal mean warehouses in the region could again start to see deliveries. Of the entire LME stockpile in Asia -- 2,250 tonnes, equivalent to less than a quarter of China's daily consumption -- 13 percent is on cancelled warrants. There are just 25 tonnes of copper left in LME warehouses in Singapore and 2,200 tonnes in South Korea -- 0.7 percent of the global total -- in a region that consumes more than a third of the world's copper annually. Estimated premiums for copper in warehouses in Singapore were $160/180/tonne above the London Metal Exchange cash prices, which is also of a little change from past few weeks due to slowdown in the physical off, take of the metal, especially from China, which had been importing

Source: SMC Comtrade, LME

record monthly copper from past three months. So far China's has drawn in more than 1 million tonnes of copper cathode from around the world, twice the level of imports in

13 yuan premium, after being in discount for the most part of the month. Shanghai had a premium of 1,500 yuan to London at the start of the month.

the same period last year. This has also led in drying up the copper warehouse stocks from the Asian LME warehouses. We believe premiums will remain low in coming month in this region as well due to seasonal slowdown and the near ending of the government's restocking for construction projects but going ahead in the third quarter, scenario will improve with improving demand intake dominated by China. More over, the arbitrage window between Shanghai and London is now standing around

Copper prices have risen around $4800/tonne from near $3,200/tonne at the end of last year and premiums for physical material in Europe have also moved higher alongside future contracts. The premium for copper on Europe's physical market against LME cash contracts is up at about $90/tonne from around $60/tonne and about $20/tonne at the start of the year when markets were in the throes of despair. More over, Copper buyers are now looking Further afield (is an LME warehouse in 4

comtrade New Orleans) for the metal which has seen cancelled warrants - material tagged for delivery -- rise to 40825 tonnes from 500 tonnes at the end of March.

Spot copper TC/RCs around $50/tonne

electricity; and surging ISM numbers, boosted the ongoing optimism of an early recovery from the earlier estimation of pro longed recession.

LME copper stocks levels at major locations

Spot copper treatment and refining charges have fallen to about $50/tonne in the European region down from a TC/RC level of $75/tonne reported in March. TC/RCs, the fees charged by smelters to refine copper concentrate into metal and are also a key part of global copper industry's revenues. Generally, TC/RCs are higher when more amount of concentrate available for smelting which also implies more of refine metal supply in near terms. Lower TC/RCs gets adjusted towards the demand side as they can result into physical tightness going ahead. European TC/RCs are comparative lower than Chinese smelters due to their higher domestic prices. Going ahead these charges will find support due to Chinese demand, production cuts announced by several producers and falling LME stocks. Source: SMC Comtrade, LME

Scrap metal decline supports copper prices Second hand-copper gather by the so-called urban miners have been disappointed due to lowed availability of scrap copper which accounts for nearly a third of the 24 million-tonne world copper market. Copper scrap acts like a buffer: when prices reached $9,000/tonne in July 2008, scrap supply helped keep them from rising further and the collapse in scrap supplies helped support prices when they fell to around $3,000/tonne. Chinese buyers, which account for about 24 percent of world copper scrap consumption, remained active in the low-grade scrap market used in domestic manufacturing. With falling prices around 70-80 percent of the high-end scrap market is likely being disappeared since last year. As per ICSG, the United States is the world's main supplier of scrap copper. Weak margins and lower international prices along with a nosedive in the US and European manufacturing activities have been restricting an important source of scrap copper for the world. This will further lead to a severe contraction in the global scrap metal market supporting higher copper prices.

Demand There have been two stories dominating the demand side of the copper market this year. The Chinese buying sphere, which is taking advantage of multi year low copper prices on hopes supported by a massive loosening of credit which in turn boosted consumption, and huge state investments such as

The Chinese government operates it own buffer stock operations via the State Reserve Bureau (SRB). As with commercial players, the Bureau's actions are counter-cyclical, buying when prices are weak and selling when they are strong. But it tends to hold onto what it buys for longer periods of time, causing even more headaches for statisticians. The media like to use the adjective "secretive" when talking about the SRB and by contrast with its smaller counterpart in South Korea. However, if its recent buying is a secret, it's the worst-kept secret in the market. What we don't know yet, though, is the Bureau's tonnage target or its timeframe, both critical to understanding the likely evolution of the market in the coming period. What we do know is that its price trigger to restock was somewhere around the $3,000 per tonne level. Similarly there's also a strong surge in the manufacturing numbers in the major consuming economies, which was also reflected in sharp recovery in copper prices. The metal, often seen as a barometer of underlying economic strength, rose nearly 20 percent in March alone and was on track to its best quarterly performance since the second quarter of 2006. The surge in prices for one of the most widely used materials in construction, automobiles and electronics reflects cautious optimism in financial markets that the economic situation has turned a corner, the majority of the metal's rally over the past few months was fueled by a change in sentiment and of what can probably happen in the future.

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comtrade Traditional demand drivers are likely to take charge again

Incredible China

However, as seen since the summer of 2006, China solely dominated world copper demand by its vicarious appetite. China has taken the lead from the traditional copper consuming economies of North America and Western Europe. But from going into 2010 – 2011, we are expecting these old drivers to once again take charge as they are injected by very cheap dose of massive government spending in order to stimulate them. The combine efforts of major central banks at the international level are expected to shown results after the second half of this year, which in turn will help in improving their growth numbers.

Further evidence of a potential bottom in the recession was seen in U.S. consumer confidence data that showed spending rise for a third straight month in April, while sentiment edged up in May with the market consensus of 42.3 as compared to 39.2 in last month. The data is schedule to print on 26 of this month. These datas are lifting hopes that the housing industry slump could be moderating. Building construction accounts for more than 40 percent of all copper use, with the average U.S. family home containing 439 pounds of copper. More over, US bellwether auto sector is also likely to gain from the ongoing government efforts to restructure them. According to the latest US vehicle survey, there are around 250 million vehicles on the road, and only 9.2 million new vehicles are expected to be manufactured this year. Which means that car stockpiles can get over soon resulting in latent demand for new cars. Cars use copper for everything from the radiator to break lines.

Chinese appetite 300 250 200 150 100 50

China PMI

Copper Imports

Apr-09

Mar-09

Feb-09

Jan-09

Dec-08

Nov-08

Oct-08

Sep-08

Aug-08

Jul-08

Jun-08

May-08

Apr-08

Mar-08

0 Jan-08

As far as US is concern, copper demand has been weak since the start of 2008. Unsurprisingly given the escalation of the housing and mortgage market fall-out, activity in copper market failed to revive since this period. Going ahead from here, housing sector still has some pain left which should be healed towards the end of this year. With record low long-term mortgage rates, and strong support from the Obama administration's $787 billion spending and tax cut package. The U.S. Congress approved the stimulus in February to kick-start the economy. We remain optimistic about this sector. Housing numbers have already witnessed a gentle and more flatter shape in their curve indicating much reduced pace of their decline. In another reports, sales of new single-family homes rose 4.7 percent in February, their fastest pace in 10 months. The new home sales data followed an unexpectedly strong 5.1 percent jump in existing home sales.

Source: SMC Comtrade, Bloomberg

Feb-08

US Housing and automobile sectors are likely to bottom out in coming quarters

Iron Ore Imports

Source: SMC Comtrade, Bloomberg

Surging Chinese demand In contrast to the US, 2009 will go down as a banner year in terms of Chinese copper demand. A backdrop of strong government initiatives – - earlier for cooling its economy in 20072008 & now stimulating with massive spending in 2008-2009, has supported the robust end-use markets internally, as evidenced by a strong surge in the PMI figures which are now much above their 50 level mark signaling manufacturing activity is back on track. Further more, after consumer and strategic destocking last year there has been the need to rebuilt their warehouses. And the slump in prices at its multi year lows provided Chinese buyers with an irresistible opportunity. Imports of copper surged to record levels in past three months of

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comtrade this year. This type of massive buying has also resulted in depletion of stock from the LME warehouses located in Asian and to a certain extent European warehouses. More over, it might seem that China is currently flooded with copper inventory in near term but our long-held forecasts for a strong third and fourth quarter look well founded. Chinese buying could once again become aggressive over the next 6 – 9 months; with some tightness in the mine copper (raw materials - due to mine shutdowns and low grade ores) the emphasis will be increasing imports of cathodes. A significant rally in copper prices is therefore a real possibility in the coming months.

Supply The long list of output curbs by mining and metal producers has continued to grow rapidly in the first quarter of 2009. Steps taken since the start of the year have come on top of a swathe of cuts announced in late 2008 in response to plummeting demand from the car and construction sectors. Copper producers in particular have felt less of a need to respond to falling prices as many are still profitable but still output has already been hit hard by technical problems and lower ore grades at some major operations. As per the recent estimated data of the annualized cutbacks of the metals accounted for 550000 tonnes, which is lesser than 5 percent of the global output.

take time for copper mines to resume their normal operations. Apart from this issue, Copper market balance has shifted into a huge surplus in this year as per the expectations of the International Copper Study Group (ICSG). The Lisbon-based group expects world mine production to rise to 16 million tonnes in 2009, up 3.8 percent from 2008, and growing to 17.2 million tonnes in 2010. Output of refined copper in 2009 is expected to slow to 17.6 million tonnes, down about 700,000 tonnes or 3.7 percent, from 2008 levels. A significant portion of the decline in output, about 200,000 tonnes, is attributed to reduced secondary production stemming from a global shortage of copper scrap. Copper market will have an expected surplus of above 345000 tonnes in 2009 and it would be growing to around 400000 tonnes in 2010. Lower mine ore has been a major concerning factor in few of the top mines in South America. In the latest press release by majority owner BHP Billiton, it stated that Chile's Escondida copper mine - the world's largest, will fall by 30 percent in the 2009 financial year versus the previous year. Mining of less rich ore and problems in the milling process are the major reasons behind the drop in output. Last year the mine produced 1 million tonnes of copper, or just under 5 percent of global output.

Copper still carries its long-term supply specific problems, which are lower ore quality and labor issues. Labor issues are the maximum copper mining as compared to any other metal in this decade. It is no wonder why copper prices have remained above their production costs as compared to other metals and also made maximum gains in their values on diminutive signs of global recovery.

Copper market outlook

Raw material markets have tightened

·Chinese demand has been underpinned by strong buying from SRB. End use share in the total Chinese demand should increase further more, which is also backed by massive government spending.

Overall, smelter and refinery capacity, especially in China, is still operating at a faster pace than mine production which seems so frequently to be disrupted due to production cuts or work halts. Scrap availability has also tightened as prices fell, while government, most notable Chinese, last year started to clamp down on the misreporting of scrap grades and smuggling. The impact of copper supply chain will be most strongly in China, the world's scrap importer.

Demand summary and outlook ·US copper demand has been hit hard since last two years due to downturn in US housing market. However, we still feel that the importance of US market in terms of global consumption can once again regain its status in the copper market.

·We see no let-up in Chinese demand growth and we are expecting a strong fourth quarter in terms of buying activity and imports.

Supply summary and outlook The supply pipeline Rising copper prices and global improving sentiments can make louder cries of mine workers in coming months. More over, copper supply will lag much behind its demand, as it will

·As of now Copper market is adequately supplied with

stocks due to destocking and cut downs in manufacturing and production activities. We expect this excess surplus to remain for the remainder of the year and in first few quarters of next year as well.

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comtrade ·The scrap tightness will be in limelight in this year, especially in China and European trades. ·Longer term, there are numerous large mines around the world at various stages of planning, evaluation and development, which

have been forced to delay their operations while many have experienced output cuts due to recent credit crisis. Doubts over when these projects will make it to production means that copper supply and demand could remain very finely balanced into the next decade.

Our base case scenario for prices Going ahead from here, we envisage copper prices have definitely made their bottom at around $3500/tonne and now it is not long enough when copper once again resumes it's up trend. We remain dependent on China to lead copper demand, which now should also find support from the so far moribund metal demand from major consuming economies. Declining prices of US dollar and rising inflation in the days to come will provide a strong platform for the surge in prices from macro economic point of view. Our base case forecast is $6000/tonne in 2009 and $7300/tonne in 2010.

Analyst Analyst Tejas Seth - Sr. Research Analyst [email protected]

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Notes

Notes