For the past few months, Dr. Copper has been under the weather.
Reduced economic growth forecasts, lowered quantitative easing expectations from the Fed along with other factors have sent prices for the good doctor down into the doldrums — plunging 12% year to date. As a leading economic indicator, that perilous drop is making plenty of investors nervous about the base metal’s — and global economies’ — standing for the year ahead.
However, investors might not want to give up on copper’s prospects just yet.
Signs are showing that the red metal could become red-hot and lead to outsized portfolio gains in the second half of the year.
Bouncing Off Its Lows
Much of copper’s issues and weakness has to do with falling demand amid rising supplies. As the Chinese economic machine has stalled during the past few months — with progressively lower PMI readings — copper has dropped precariously.
Copper is used in a variety of electrical power applications, technology devices and other manufacturing functions, making demand and prices sensitive to shifts in economic activity. China continues to be the main consumer of the metal — around 40% of global demand — and any hint of slowing in its industrial output can wreak havoc copper’s underlying price.
That’s especially true when you consider that output of the metal has been slowly rising amid new openings — many of which started during the pre-recession days. Add in the looming end to the Federal Reserve’s QE programs, and it’s easy to see why investor enthusiasm for copper has waned.
Despite this, copper is finally beginning to show some reddish sparkle as Asia’s Dragon has begun to roar again.
Last week, China surprised analysts and the market by reporting that its industrial output rose 9.7% in July from the year-earlier period. The reading beat analysts forecast of only 9% growth, as well as substantially revving up its engines from the 8.9% growth seen in June.
But the good news keeps on coming.
After slowing down during the first half of the year, Chinese exports and imports both rose by more than what economists had predicted. Exports of Chinese goods popped 5.1% in July versus the same month a year earlier. That reversed a 3.1% decline registered in June. At the same time, those exports and rising industrial demand lead to a huge increase to the amounts of copper imported into the country.
Import data showed that China brought in 410,680 tons of copper in July. That tonnage was an 8.1% increase over June’s 379,951 tons. Perhaps more importantly, those copper imports are the highest since May 2012. Analysts now predict that destocking in the emerging market is now done, and that it’s very likely that China will continue to import such large quantities of the industrial metal as its factory output is once again humming along.
Add in potential stimulus measures from Beijing, and the bottom for copper prices could already be in. Prices for the metal have hit two-month highs.
Playing the Continued Pop
The potential play in the red metal is twofold.
First, is the iPath DJ-UBS Copper TR Sub-Index ETN (JJC). The exchange-traded note gives investors exposure to the return of futures contracts on copper. As with many of Barclay’s (BCS) iPath line, JJC’s underlying benchmark is a total return index. As such, investors also receive a collateralized investment in T-bills as well. That has to do with the idea that futures traders need to have “cash” on hand to settle their trades when they come due.
The ETN charges 0.75% — or $75 per $10,000 invested — per year in expenses. While that might seem expensive, it’s actually pretty cheap considering that the funds first-mover status has allowed it to garner great trading volume and assets under management. Perhaps more importantly, the fund popped a nice 2.9% after the China data came out.
The second way to play copper’s return to glory could be beaten-down Freeport-McMoRan Copper & Gold (FCX).
The firm has suffered as both copper and gold prices have fallen into the toilet. However, with its recent additions of McMoRan Exploration and Plains Exploration & Production, the company is quickly becoming a diversified commodity play, which will suit it wonderfully over the next few quarters. Already, energy prices have surged on rising demand. Adding copper to that mix will only strengthen the company’s bottom line and improve its overall picture.
FCX currently trades at a forward P/E of 10 — based on earnings estimates with lower copper prices. That could be a steal if you factor in higher oil prices, as well as higher copper prices. And don’t forget Freeport’s juicy 4% yield.
If copper continues to ride the China high, investors could be looking at some nice gains in the months ahead.
As of this writing, Aaron Levitt did not hold a position in any of the aforementioned securities.