Key Points:
- Overall, the last two decades have been continuing to show a positive correlation between copper and stocks.
- The dollar hit the bottom and started rising during 2011, continuing to rally throughout this decade having a negative impact on commodity prices. During times of crisis like the ones we are living in, money normally flows from risk-on assets such as stocks and commodities (including copper) to risk-off assets such as the Dollar and Treasury Bonds.
- This piece of writing will help you to better understand the dynamics of the copper-stock relationship. You will find out which factors should be taken into account when trying to predict the future price movements of copper.
- Trading idea: scroll down to the second half of the article.
Copper is a key industrial commodity and it is known as a barometer of global economic health because of the material wide usage in automotive, infrastructure, construction, power transmission and electronics as well as other industrial applications.
During the first two decades of this century, copper price has been, in general, positively correlated to the trend of the S&P 500 Index (SPX) with a few exceptions. These are thoroughly analyzed in this piece of writing. As “hard times teach us the most valuable lessons” and if you are curious to learn how the copper market behaved historically, take a look at this article.
The copper market today (the Oil price war and COVID-19)
There is a strong inverse correlation between the dollar (USD) and commodities. In other words, they have been trending in opposite directions from 2011 until today. The dollar hit the bottom and started rising during 2011, continuing to rally throughout this decade, having a negative impact on commodity prices. A change in the trend of the dollar index leads or coincides with a change in direction of commodities and vice-versa.
During times of crisis like the ones we are living in, money normally flows from risk-on assets such as stocks and commodities to risk-off assets such as the dollar and Treasury Bonds. There have been major losses in stock markets, along with falling commodities prices. The current crisis results from two factors: the Russia-Saudi Arabia Oil price war and the COVID-19 global disease. The latter has been driving down demand for oil causing prices to fall. In response, in the beginning of March, the Organization of the Petroleum Exporting Countries (OPEC) agreed to impose a deeper round of production cuts in order to alleviate downward pressure on oil prices. OPEC presented the plan to Russia (since November 2016, Saudi Arabia and Russia created an informal alliance so as to manage the price of oil), who rejected to adhere, arguing that it would be important to first assess the real impact of the virus outbreak on oil demand before carrying out production cuts. However, OPEC members and allies have recently reached an agreement to slash production, from 1 May onwards, by approximately 10 million barrels of oil per day (or a 10% of global supply). Despite that, this deal has failed to address the supply-and-demand imbalance as global oil demand is estimated to have fallen much more than 10 million barrels of oil per day. Falling demand, rising inventories, as well as lack of storage capacity caused WTI crude prices to fall, temporarily, into negative territory for the first time.
The Fed, alongside other central banks, worried with the aftermath of the crash, eased monetary policy – expanding money supply and pushing short-term interest rates lower (and bond prices higher) – in an effort to stimulate borrowing and stem the drop in the stock market as well as providing a shelter for the economy from the effect of the virus.
Demand-and-supply imbalance
As with any other asset, copper is influenced by fundamental, technical and sentimental drivers. I will focus mainly on the fundamental issues that currently affect the demand-and-supply balance. According to ICSG, global copper production fell 0,6% whereas the global refined usage decreased 0,5% during the first 11 months of 2019 (despite demand figures increased in China and in the U.S.).
– Demand: China is by far the largest consumer of copper (counts for over half the global demand) and naturally has a great impact on the red metal’s prices. The Chinese influence on copper price can be clearly seen in the chart below that compares the China iShares (FXI) to the price of copper. They rise and fall together. For instance, they bottomed out in the beginning of 2009 and then both markets rallied together – it seemed that both markets were feeding off one another. The Chinese market peaked at the start of 2018 and initiated a downward trend, which gave an early warning that copper would turn down as well. FXI may, then, be considered as an early indicator for copper. Therefore, the state of the Chinese economy as well as its stock market have a big influence on the price of copper. A slowdown in the Chinese economy reduces demand for global commodities, including copper.
In the midst of both the Russia-Saudia Arabia Oil price war and the coronavirus outbreak around the world, short-term forecasts for the demand of the copper market are, unfortunately, grim. Even though some recent reports shows that China is getting back to work due to the almost inexistent number of coronavirus cases and fatalities, the general consensus is that the world’s populous nation could face subsequent waves of infections. If so, harsh lockdowns will again affect the economy and subsequently the demand for copper will be negatively affected once again.
– Supply: Chile and Peru are the two leading producers and exporters of copper. Even though, they have been reporting low infections and fatalities figures, they are probably in the early days of the pandemic. Bear in mind that winter is approaching, potentially worsening the spread of the virus. If lockdowns in South America and around the world (China and the United States are also top producers) persist, we may witness a slowdown in copper production. After all, in case the usage of the red metal decreases and prices stay weak, miners will have an incentive to reduce production. In addition, copper price instability might be fed by political turmoil and labor disputes in Chile and Peru.
That said, a demand-and-supply imbalance in the copper market is currently inevitable. Producers will seek an actual recovery in demand to resume full production and consider investing on new projects.
Trading idea for the future
– Pay attention to the Chinese stock market (FXI) as its direction has a huge influence on the direction of copper. The existing downtrend line of the FXI appears to have been broken and if the same scenario occurs to the copper’s trend line, this might be a good short-term opportunity for copper buyers (see chart below).
On the other hand, if copper does not break the trend line and continues to fall (in case this rebound, over the last few days, proves to be short-lived), it might face further selling pressure, especially if the red metal does not face fundamental resistance. Note that copper and the stock market have been highly correlated (as can be seen from January 2020 onwards – it seems that both markets are feeding off one another). We should recall that, in March 2009, both the FXI and Copper’s downward trend lines were broken at almost the same time.
– Look out for a reverse of the current upward trend of London Metal Exchange (LME) stockpile levels. Check this website to keep up with the most recent monthly data. This might also be a good chance for copper buyers. As happened in the context of the Great Recession, the economy has been deteriorating, the miners are facing some issues in finding consumers, which leads to an increasing number of deliveries to the LME warehouses (resulting in soaring LME stockpile levels along with plunging copper prices). As explained in this article, high or rising stockpiles mean falling demand or/and overproduction whereas low or falling stockpiles mean rising demand or/and lower supply levels. LME stockpile levels started its upward movement in late January 2020 (even though figures are still under the 5-day inventory threshold). Comparatively with the previous crisis, LME stockpile levels reversed its upward movement in March 2009, starting a downward path (even though figures did not fall under the 5-day inventory threshold), which supported rising copper prices.
– If the dollar falls sharply, it can push commodity prices higher. Look out for a bearish breakout of the long-term uptrend of the dollar index as it can lead or coincide with a change in direction of the Commodity market (CRB Index). If so, make sure there is also a bullish breakout of the downtrend of this index.
Final Thoughts
Overall, it is likely that, given the sudden halt in economic activity as a result of the current pandemic, we will witness a high degree of volatility in the copper market. Amid fears of recession, monetary easing and stimulus packages, the current deflationary environment might turn into an inflationary one as soon as the virus is officially controlled and the global economy rebounds, spurring demand for commodities including copper.
If, in the near future, we continue to see rising LME stockpile levels (reflecting a supply surplus), declining stock markets, falling CRB Index coupled with an appreciating dollar, we will witness a fall in copper prices. It is, indeed, too soon to be bullish on copper. In the long-term future, and with respect to demand, the massive urbanization and industrialization plans of Asian countries (which are far from complete) will likely support copper demand and price. On the other hand, if the discovery of other price-competitive materials that can substitute copper becomes reality, it will have an opposite effect on demand and price.
Generally, copper is sensitive to economic trends and it is closely tied to the peaks and troughs of the global economy and stocks. In at least four recessions since 1970, the ups and downs of the stock and copper market coincided fairly closely. When the economy is slowing, demand for copper will be lower, raising fears of an impending recession. Most people consider it as a coincident indicator unlike stocks, which are considered to be a leading indicator for the whole economy.
Misfortunes of copper and stocks may open the path for precious metals (gold and silver) as investors search for further alternatives.
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Disclosure: Please remember to consider every piece of investment information you receive here as an idea for further consideration. It does not constitute a recommendation to buy or sell assets and does not take account of your adjectives, or your financial situation. At the time of writing this article, I do not have any position in the assets mentioned. Thank you for reading.
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