Funds buy on expected demand strength

Fund enthusiasm for base metals continued unabated in the report period Jan. 17-21. Large volumes of speculative money flowed into the market, pushing both copper and aluminum to fresh peaks for the current cycle. The attention then switched to nickel, which, after a few weeks of range trading, hit a fresh high of $8,610 per tonne on Jan. 21.

The funds continued to trade on expectations that strong industrial production growth will lead to escalating demand for metals over the next few months. Even the announcement by Alcoa of a restart of 200,000 tonnes of idled smelting capacity could do little to dent the positive mood.

The German IFO business climate index rose to its highest level in two years, while U.S. imports continued to outpace export growth, fuelled by strong domestic demand.

The current rally in prices should be viewed with caution, however. The Alcoa announcement is a reminder that there is still substantial idled production capacity in aluminum, copper and nickel, and that this could be profitable at current price levels.

Copper hit a peak of $1,945 per tonne in the report period before falling back on Jan. 21 to find good buying at the low $1,900-per-tonne level. In upcoming weeks, a key upside resistance level will be the long-term downtrend line of $1,970 per tonne. If broken, further fund-buying seems inevitable.

Prices for the red metal continued to attract high levels of fund interest: recent data show that speculative interest on Jan. 11 had climbed to almost 23,000 lots — a historic high. We still believe copper is fundamentally overvalued at these levels, and further speculative buying and higher prices cannot be ruled out over the next few weeks. When a correction does come, the price fall could be all the sharper. We are also concerned it could be exacerbated by producer selling, since prices are now at levels where most of the industry is able to cover its operating costs.

Consumers entered the year in a positive mood, though, as of yet, there is little sign that this affecting order levels for copper products. Orders for brass mill products in the U.S. are flat too. In Europe, there is strength in the brass rod sector, yet other sectors are quiet; and the same is true of Japan, where there are hopes that better levels of construction activity will trigger higher orders for brass mill products. Our own feedback is similar. Consumers report that business is at good levels, but, so far, they are not seeing the orders for extra material that would confirm demand is about to take off.

Meanwhile, we continue to hear reports of off-warrant material, particularly at consumers’ yards in Europe. One major European consumer is said to be holding double its normal level of copper stocks. Another fear is that, at current prices, idled mine capacity will be attracted back. Taseko Mines (tko-v) last week announced it intends to resume production at the 30,000-tonne-per-day Gibraltar mine as soon as copper prices stabilize above 85 per lb. ($1,870 per tonne).

Aluminum prices hit a fresh cycle peak of $1,754 for the London Metal Exchange 3-month price on Jan. 19, before, that is, Alcoa’s aforementioned announcement took the steam out of the market. The market is currently trading at $1,715-$1,745 per tonne, and there is strong technical support at $1,690-$1,695 per tonne if a bullish mood takes hold.

Alumina market tightness remains the main focus of the market, and much of the recent buying on the LME was fueled by speculation that Russia’s 800,000-tonne-per-day Krasnoyarsk smelter is about to cut back on production. Krasnoyarsk’s usual alumina supply arrangements with the Nikolaev refinery have been disrupted by an ownership dispute that has delivered control of the refinery to the Sibirsky Group, though the plant is now said to be receiving alumina deliveries from the Achinsk refinery.

The alumina market is extremely tight at present; still, let it be stressed that it is in the interest of alumina traders to fuel fears of shortages, operating, as they do, in what is, at the best of time, a rather opaque market. De-bottlenecking and other process improvements at refineries will almost certainly result in significant extra production this year, over and above scheduled capacity expansions. The market should ease significantly as the year progresses. For this reason, we remain skeptical that alumina shortages will significantly hamper growth in primary production.

Alumina tightness certainly seems to be having little impact on production: Western output grew 4% between the end of 1998 and the end of 1999.

A technically driven nickel market hit a fresh high of $8,625 per tonne on Jan. 21 as day-trading funds increased their long positions in what appeared to be a delayed reaction to the activity in copper and aluminum earlier in the report period.

Zinc continued to underperform, with prices trending down and finding support at $1,190 per tonne. A levelling-out in the stock decline and an easing of nearby spreads since the beginning of the year have resulted in a calmer tone, and fears of a squeeze are subsiding.

Since the beginning of January, LME stocks have been stable at around 280,000 tonnes. They climbed 1,850 tonnes during the report period in response to a 2,075-tonne delivery of metal into the Trieste warehouse. The shipment was rumoured to be Chinese metal, and further deliveries are expected in the coming weeks. In the short term, support at $1,185 per tonne is expected to hold whilst, on the upside, a break above $1,225 is required to signal the start of a fresh uptrend.

At the beginning of the report period, Gold prices moved sharply higher in response to speculation of producer buybacks resulting from a merger between Randfontein and Harmony Gold Mining (hgmc-q). As the week progressed, however, prices and volumes dropped as the market turned its attention toward the then-upcoming U.K. gold auction, held on Jan. 25. Sentiment prior to the auction was relatively weak, and speculators’ positions were reasonably well balanced. Gold prices were expected to drift lower following the auction.

On a brighter note, a Reuters poll of gold market analysts reveals positive expectations for the gold price this year. The average price forecast is $297.6 per oz. (a 7% improvement on the 1999 average of $278.6). Our own forecast is slightly lower than the poll’s, at $295.