Articles in Category: Investing Hedging

About a year ago I was interviewed by a columnist from a leading economic newspaper about the prospects for the lithium market.

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The gist of the article was the question of will lithium demand from electric vehicles unsustainably drive up prices due to supply shortages? I said no. I expected the market to rise as demand increased, but that there was no shortage of lithium in the world and supply would rise in response to price increases and demand.

Well, the paper went on to report that supply shortages would constrain the market and the lithium price was set to boom. That’s okay. I don’t expect everyone to take my advice as gospel and, to some extent, you could say the author was right, the price has risen as this graph from CRU illustrates.

Source CRU Group

Source: CRU Group

But the same CRU article goes on to explain that to every price rise there is a response. The extent to which the market responds with new capacity or expansion to existing capacities varies with the commodity, the market during the time frame involved and any number of other issues. We will come back to CRU’s modelling of the lithium market a little later but, for now, how has the lithium industry responded to this rise in demand and what effect has the rising price had?

Lithium Investing

Well, Reuters leads an article with “stampede to invest in lithium mines threatens price gains” and goes on, as the title suggests, to say a rush to invest in new and expanded mines for lithium means material will flood the market just as demand for lithium batteries is due to soar, curbing prices. Read more

Over the holidays, we will be republishing our top posts of 2016 over the next few days. This was our single most-read post of 2016 from way back in January. Many of Soros’ predictions for the year we’re about to leave behind never came to fruition (a “hard landing” in China) while others were spot on (the Federal Reserve left interest rates, mostly, alone this year). Looking back on it now, much of what Soros spoke of has not changed. China is still exporting deflation even though metal prices recovered this year.

You would be a brave investor to bet against George Soros. The billionaire investor has shown a canny knack of making the right calls over the decades. As an article in Bloomberg says he rose to fame as the hedge fund manager who broke the Bank of England in 1992, netting $1 billion with a bet that the UK would be forced to devalue the pound.

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He also successfully bet that Germany’s deutsche mark would rise after the collapse of the Berlin Wall in 1989 and that Japanese stocks would start to fall in the same year. Between 1969 and 2011, Soros led his hedge fund to average annual gains of about 20% before returning money back to investors in 2011. Read more

It has probably never been as hard to read the runes for the fortunes of emerging market (EM) economies as it is now.

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If currencies are any barometer for the health of an economy, or at least for investor’s perceptions of the health of an economy, this year has seen considerable variations and fluctuations. Robust commodity prices appear to signal continued strong health and confidence in China, even as the government works hard to realign the economy from export-led manufacturing to consumer-led domestic growth, but the currency has been falling since the spring as this chart shows.

Source Financial Times

Source: Financial Times

EM investors started the year hiding over fears about China and the oil market, then recovered during mid-year as growth remained stable and commodities rose. Read more

In recent weeks the Dalian and Zhengzhou commodity exchanges and the Shanghai Futures Exchange have all toughened trading requirements several times.

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The measures imposed include raising trading margins, hiking transaction fees and imposing trading limits in attempt to tamp down speculative trading. Reuters’ Clyde Russell referred to the situation as China having “thrown the world’s commodity producers and traders a massive party.”

HRC and CRC prices in China continue to rise. Source: MetalMinerIndex

HRC and CRC prices in China rising through November. Source: MetalMinerIndX.

This year saw most analysts surprised by the strength of both China’s coal and iron ore imports, which led to rallies in the prices of both commodities. Chinese imports of iron ore jumped to the third-highest on record in November with 91.98 million metric tons up 13.8% from the previous month, taking the year-to-date gain to 9.2% compared with the same period in 2015, according to Reuters. Read more

Many economists and market observers have been warning for some time that with cheap cash sloshing through the Chinese economy, and attractive investments in the real economy remaining scarce, investors had plowed too much money into China’s bond market.

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The Financial Times reports China’s 10-year government bond yield fell from 4.6% in January 2014 to 2.65% by late October. Banks borrow overnight and buy longer dated bonds in what appears a clear carry trade but, to work, the market requires stable and low market rates. Read more

While this year’s spectacular rebound in iron ore prices has been a godsend for the world’s biggest miners, it has not gone high enough for smaller, less-efficient producers that still have pits shuttered and equipment idle.

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The price of the steelmaking material has nearly doubled in 2016 to above $80 a metric ton, a boon for miners such as Vale, BHP Billiton and Rio Tinto which extract the material at a cost of less than $20 per mt.

ABI Limps Out of 2016

Coming off a modest increase after two consecutive months of contraction, the Architecture Billings Index recorded another small increase in demand for design services. As an economic indicator of construction activity, the ABI reflects an approximate nine to 12 month lead time between architecture billings and construction spending.

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The American Institute of Architects (AIA) reported the November ABI score was 50.6, essentially unchanged from the mark of 50.8 in the previous month. This score reflects a slight increase in design services (any score above 50 indicates an increase in billings).

It seems like a bizarre question when iron ore has been on a bull run this year and coking coal producer Glencore has just agreed first-quarter contract prices with Nippon Steel that are the highest since 2011.

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But Morgan Stanley, in its 2017 Outlook, takes a bullish stance on base metals but forecasts bulk commodities such as iron ore and coking coal will do no more than tread water next year. Trying to call a peak in any market is, at best, a stab in the dark, but coking coal spot prices appeared to be easing just as contract prices set a new near-term record. Read more

Scenario: Within the next two months you need to go to your supplier and buy metal. Let’s say you are thinking about placing an order that will meet your metal needs for the next six months. Let’s say you correctly identify that you are in a bull market (you read us).

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Therefore, as you expect prices to keep moving up, you quickly grab the phone and call your supplier to place the order ASAP.

Is that the right way to do it? Nope.

I say this over and over, but I don’t get tired of saying it: The key to being consistently ahead of your competitors (and beat the market) is not about predicting, but about finding the right time to buy. Markets are unpredictable and you can always get it wrong. The key to consistently lowering your purchasing costs is to buy at an attractive price, one in which the metal has high probability to make a move higher.

In a previous post (part one of this article), we talked about one of the situations we like to use to hedge/buy forward, price consolidations. Today we’ll show another good circumstance to time your purchases during a bull run:

Price Pull-Backs

In a bull market, sometimes prices rally and it’s risky to buy at those levels because prices could pull back simply due to profit taking. A good opportunity to time your purchase is when prices correct or pull back and then momentum picks up again. That signals that buyers are again back in control and prices are likely to move higher.

Tin offered two good opportunities to time purchases after prices pullbacks this year. Source:MetalMiner analysis of fastmarkets.com data

Tin offered two good opportunities to time purchases after prices pullbacks this year. Source:MetalMiner analysis of Fastmarkets.com data.

We’ve seen examples of price pullbacks in pretty much across all industrial metals this year. A good example is tin.

After calling bull market back in April, buyers could have bought tin after a price pull back in May and recently after another pull back in November. It’s important to identify those areas where we expect to see support, which we indicate in our monthly outlooks. Buyers had another great opportunity to buy tin back in July after a price consolidation.

Subscribers bought cold rolled coil steel in November after a price pullback. Source: MetalMiner Index

Subscribers bought cold rolled coil steel in November after a price pullback. Source: MetalMiner IndX.

A more recent example is steel. We called bull market in steel back in April, when buyers had a great opportunity to buy forward (we recommended buying one year’s worth of demand). But then, in the summer prices signaled a top, we recommended subscribers to hold on purchases, and wait for a price pull back to buy again.

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Prices then corrected over the next few months. During price pull backs is important to wait until momentum picks upwards again. That happened during the third week of November, when we sent our subscribers a note recommending to buy steel forward. Another textbook price pullback during a bull market.

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Many of our readers are wondering what’s going on with the U.S. dollar and industrial metals.

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The dollar and commodities tend to move in opposite directions. Why, then, is the dollar trading at a 14-year high at the same time as industrial metals are on a tear? For how long can these two continue to move together? Who is the real bull and which one is just imitating?

Industrial metals ETF (in black) vs dollar index (in green)

The industrial metals ETF in black vs. the U.S. dollar index in green. Source: @StockCharts.com.

To answer these questions we need to look at history. The dollar and industrial metals have risen in tandem since September. Even oil prices are making multiyear highs. But this is not such a strange development.

The US Dollar and Commodities

The dollar-commodities relationship has not been without its temporary periods of decoupling. Over the past two decades there were two major periods in which the dollar and commodities moved up together for a whole year. The last time this happened was in 2005 and the causes were rather similar to what we are seeing now.

Dollar index (in green) vs Commodities (in blue)

The U.S. dollar index (in green) vs commodities (in blue). Source: @StockCharts.com.

Has This Happened Before?

Back in 2005, industrial metals were on a tear thanks to China’s increasing appetite for commodities. Today, the main factor driving commodities up is higher-than-expected demand growth, especially from China, while lower than expected supply.

That would normally bring the dollar down, but in 2005 there were a series of factors that made the greenback rise, even in the face of a rising commodity market.

First, the dollar’s role in the temporary break in the dollar-commodity inverse relationship in 2005 was owed to a two-year push of U.S interest rate increases (from June 2004 to June 2006) which lifted U.S short-term interest rates above those in the Eurozone. Currently, the dollar is getting a boost as the Federal Reserve is expected to increase rates while interest rates in Europe are in negative territory.

Another driver of a rising dollar, back in 2005, was a blow to confidence in the European Union and its currency dealt by France’s rejection of a proposed European Union Constitution. Similarly, events like Brexit, a referendum in Italy or the upcoming presidential elections in France are adding tensions about stability in Europe and contributing to an appreciation of the dollar against the Euro.

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Finally, also contributing to the dollar’s surge in 2005 was a temporary tax break granted by the Bush administration to U.S. multinational corporations, allowing them to repatriate profits from their overseas subsidiaries. This prompted a surge of inflows into U.S. dollars from euros and, unsurprisingly, the dollar rose against the euro. A very similar case is what new president-elect Donald Trump has proposed: Lowering the corporate income tax rate from 35% to 15% while allowing repatriation of corporate profits held offshore at a one-time tax rate of 10%. These policies, if implemented, will create more demand for dollars so it’s no wonder that investors have already been betting on the dollar since the election’s outcome.

What This Means For Metal Buyers

By looking back in history we can relate the current macro factors driving dollar and commodities higher to what happened back in 2005. The dollar-commodity inverse relationship is a strong one but there are periods where they can decouple for some time. This means that there is no reason to be bearish on commodities because the dollar is moving higher and vice versa. These two markets could continue to trend higher in 2017. We will continue to watch them closely to determine which one breaks first but, until then, I’m temporarily bullish on both the dollar and commodities.

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MetalMiner’s Global Precious Metals MMI dropped two points this month to 79, from 81 in November; a 2.5% decrease. But that’s less the story than what happened within this precious metals sub-index.

The PGM Story

As we said last month, longer-term structural concerns remain for the platinum-group metals (PGMs), especially platinum and palladium. However, in the short term, one of those two precious metals that are instrumental in automotive catalytic converters kept the Global Precious MMI from falling even further for December.

Global-Precious-Metals_Chart_December-2016_FNL

Indeed, with gold and silver falling across all four geographic markets (see below), our U.S palladium bar price jumped to an 18-month high, rising a whopping 24% month-over-month. Japanese palladium also rose appreciably.

The platinum bar price, however, did the reverse. Our U.S. platinum bar price hit a 10-month low, dropping 7% since Nov. 1.

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Crossing like ships in the night, one heading north, one heading south, what should buyers make of the platinum/palladium divergence?

According to HSBC senior analyst James Steel, talking to Platts, “the platinum-palladium spread has narrowed substantially, from $375/ounce before the U.S. election. This reflects clearly tighter underlying fundamentals for palladium.”

With car sales in the U.S. and China continuing to be robust, and with Johnson Matthey predicting another supply deficit in 2017, palladium could continue its buoyancy for the near future.

The Dollar –> Infrastructure –> Gold

Raul de Frutos gave MetalMiner readers this helpful rundown in late November:

A rising dollar depresses commodity prices, especially precious metals. It does have less of an effect on more economically-sensitive groups like energy and industrial metals. Indeed, industrial metals are on the rise despite a strong dollar. This is because the dollar is rising on expectations of higher rates down the road but, at the same time, metal prices are getting an additional boost because of Trump’s plans to spend big on the nation’s infrastructure. However, gold’s demand won’t be affected by infrastructure spending. As a result, investors are left without reasons to buy gold at this moment.

That still appears to be the case here in early December, as the US gold price on our MetalMiner IndX hit its lowest point in 10 months, falling to $1,173/oz on Dec. 1 — just over an 8% drop from Nov. 1.

(Silver prices followed suit across 4 markets globally, all dropping from November to December.)

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