LONDON (Reuters) - The London copper market is today in backwardation. Just as it has been for just about all of this year.
Over the last few weeks, extra tension has come in the form of an unidentified, dominant long position-holder who is gripping the front part of the London Metal Exchange (LME) curve.
Both phenomena are predicated on stubbornly low stocks at exchange warehouses.
The benchmark cash-to-three-months period was valued at $67 per tonne backwardation at Wednesday’s close, but that cash premium is drawing precious little metal into LME sheds.
It’s all so counter-intuitive for a market that was widely expected to be swimming in surplus by this stage of the year.
But it’s becoming increasingly clear that one of the reasons why the London market remains so starved of metal is the activity of an even bigger copper player than the mysterious London long.
The Strategic Reserves Bureau (SRB), the Chinese government stockpile manager, is the world’s ultimate copper buyer and it has been highly active this year. Indeed, it is still hungry for more metal.
The SRB has a long track record of buying copper, a strategic metal for China’s industrial development but one which the country does not produce enough itself.
The bureau’s most notable intervention came at the end of 2008, when copper prices plunged to below $3,000 per tonne at the height of the unfolding financial crisis.
Not even the most die-hard bear would expect prices to revisit that sort of level any time soon, and the SRB appears to agree.
It has steadily ratcheted up its purchases this year, starting with an initial 300,000 tonnes of import orders and supplemented by an opportunistic swoop on another 200,000 tonnes or so of bonded warehouse stocks in March, when LME three-month copper dipped towards the $6,300 level.
And with prices again looking soggy at a current $6,700, the SRB appears to be looking for another 150,000-200,000 tonnes in what may be an acceleration of its 2015 budget.
The exact tonnages are impossible to pin down. The SRB tries to move with stealth in the copper market. It doesn’t publicize its purchases, although inevitably information leaks out from its supply chain.
Moreover, the bureau occasionally rotates its holdings, meaning older metal is sold even while newer material is arriving. There may, in other words, be some offset to this year’s implied purchases of up to 700,000 tonnes.
But what’s not in doubt is that the SRB has been a major, albeit largely hidden, actor in this year’s copper dynamics.
Which goes a long way toward explaining one of the conundrums in the market this year, namely the strength of China’s imports.
Net imports of refined copper rose by 20 percent, or just over 400,000 tonnes in the first nine months of this year.
And that despite the Qingdao port scandal in early June, which forced a mass redistribution of copper within China and reduced banks’ appetite for using imported metal for collateral financing.
Even in the immediate panicky aftermath of Qingdao, net imports were still running above 200,000 tonnes per month in the June-August period, a high level relative to previous periods of destocking. Imports accelerated again in September and, judging by the preliminary trade report out earlier this week, did so again in October.
China’s own refined copper production is rising, while just about every macro indicator is pointing to slower growth in the engine-room of global industrial growth.
Squaring these trends with the continued strength of copper imports has become increasingly problematic, even allowing for counter-cyclical demand drivers such as purchases by China’s National Grid.
Things make a bit more sense, however, if SRB purchases are factored into the equation.
The bureau’s initial 2014 program to buy 300,000 tonnes of imported copper would have been split across several months of arrivals, helping to explain why monthly inflows have been so robust this year.
And SRB purchases would also help clarify some of the statistical confusion that has surrounded this year’s supply-demand balance in the global copper market.
In October the International Copper Study Group (ICSG)surprised the market by forecasting a 307,000 tonne deficit. Just six months earlier it had projected a 405,000 tonne surplus.
A major component of that statistical U-turn was an upgrade of the group’s apparent usage calculation for China from 5 to 7 percent.
Apparent usage is measured by adding national production to imports and adjusting for changes in visible stocks. So in part, the change of forecast was down to this year’s Chinese import strength, even if part of what has been imported has headed straight for SRB storage.
Statistical surplus has been transformed to statistical deficit.
And, judging by the meager inflow of metal into LME sheds despite persistent backwardation, reality is bearing out the ICSG’s change of view.
SRB buying has two important implications for prices.
In the short term, it represents a red flag for those expecting further Chinese economic weakness to translate into lower copper prices.
It’s clear that any further price declines, say toward $6,000 per ton, are going to incentivize the bureau to buy still more metal.
Which is not to say the price can’t go lower, just that if it does, existing tensions in LME stocks and spreads are likely to accentuate.
In the next two years, might the SRB simply suck in all this market’s expected surplus?
Ever since the bureau first showed signs of activity late last year, there has been consistent talk in the Chinese market that it is working toward an end-2015 target of having around 2 million tonnes of copper.
Of course, we don’t know what the starting-point was, but it now seems fair to assume that it will buy something like a million tonnes over the course of 2014 and 2015.
That would account for most analysts’ expected cumulative surplus over those two years.
Beyond 2015 forecasts necessarily get a bit hazy, but the broad consensus right now is that copper supply will start tightening again as the current austerity among miners translates into fewer new mines down the line.
If it does, will the world be well stocked with copper? Or will only China’s SRB be well stocked with copper? And what would that mean for the price?
Such bullish thoughts might seem premature given the current low pricing environment for copper, but then the SRB’s heightened activity this year suggests it too is looking at a tighter market down the road. That’s why it’s in the market right now.
editing by Jane Baird