Copper dubbed ‘one-trick pony’ in 2008 forecast

In their report on copper and zinc prices, Scotia Capital analysts Onno Rutten and Lawrence Smith upped their copper price forecast by 35% to US$3.25 per lb., but turned bearish on zinc.

More ominously, the two analysts warn that the base metal complex could be at risk if the global economy continues to trend downward on the heels of the U.S. credit crisis.

While warning that such a turn could take copper down as “collateral,” they still believe there is evidence of continued strength in 2008 for the red metal.

The key to copper’s strength in the coming year, according to the report, is Chinese demand. The indicators point to hoarding of copper in the massive country, and the situation has made for tight supplies, despite the U.S. economic slowdown and reduced demand from Europe.

Chinese consumption of refined copper is up 40% year-to-date — a situation that makes for a surplus of just 150,000 tonnes in 2008 — not enough to insulate prices from any supply disruptions.

Also influencing strong prices are speculative interest, fuelled by a weak greenback, declining interest rates and persistent inflation concerns.

The fact that copper prices have stayed high since the Federal Reserve Bank cut rates to deal with the subprime crisis boosted Rutten and Smith’s confidence that index and hedge funds were providing strong support to copper prices.

But the reliance on China comes with a caveat.

“The copper market is primarily supported by Chinese demand strength, as there is no Western world demand strength for any of the base metals at the moment — hence, copper should currently be seen as a ‘one-trick pony,'” they write.

While it may not be the most reassuring tag, it has a more gentle ring than the moniker chosen for zinc. Rutten and Smith have labelled the mineral the “whipping boy.”

The key culprit behind the tag is the ramp-up of several new mines. A 400,000-tonne surplus is being forecasted for 2008, leading the analysts to knock down their price predicted by 8% to US$1.10 from US$1.20 per lb. for next year.

Apex Silver Mines’ (SIL-X) San Cristobal mine, in Bolivia; Peruvian miner Milpo’s Cerro Lindo; Teck Cominco ( TCK.B-T, TCK-N) and Xstrata’s (XSRAF-O, XTA-L) Lennard Shelf, along with a ramp-up at their massive Antamina, where they are teamed with BHP Billiton (BHP-N, BLT-L) — are all feeding into the zinc surplus.

As for the Chinese influence, while the report says zinc mining in the country has been sluggish, “Chinese smelters will have more than adequate feed supply available to continue to ramp-up zinc production thanks to sharply improved Western world concentrate availability and rising concentrate imports to China,” they write.

The report also names nickel and aluminum as being in a surplus situation. When combined with the impact of the credit crisis on the economy, Rutten and Smith say “there is a real risk that the entire LME complex could weaken.”

And if the credit crisis manages to spiral itself into a recession in the U.S., Rutten and Smith believe the LME complex would be hit even harder. In such a high-risk setting, Rutten and Smith pick First Quantum Minerals (FM-T, FQM-L), Lundin Mining (LUN-T, LMC-N) and Thompson Creek Metals (TCM-T) as their “sector outperforms,” largely due to their expectation that the three companies’ earnings will come in higher than predicted.