Last week, the Telegraph had a very interesting story involving China’s State Reserves Bureau (SRB) buying up copper and other industrial metals not merely for strategic stock-piling or value-buying but to rid itself of some of its US dollar holdings. It’s an interesting theory and one with a few supporters, according to the article.
According to the article, John Reade, the metals chief at UBS said he was surprised at how much copper the SRB had purchased. He suggested the SRB may have gone this route as an alternative to foreign bonds. Stuart and I thought we’d get out our napkin (we seem to have quite a few of those around here) and determine whether the theory had a basis in fact. As a backdrop, we remind readers that China currently holds approximately $1.9t of US dollar reserves.
First, what metals has the SRB stockpiled? We have written about this extensively over the past few months. These metals include: aluminum, zinc, copper, nickel and the Ã‹Å“alternative energy metals’ we have been reporting on such as indium and praseodymium as well as some of the platinum group metals like rhodium. Now just because the SRB stockpiles metals, one can’t conclude that those purchases mean China has relinquished US dollars. The way China exchanges dollars for commodities requires it to a) buy those metals from overseas suppliers and b) buy those metals in US dollars. We would contend that aluminum and indium (I won’t comment on praseodymium) purchases have generally speaking taken the form of domestic buys. Recent estimates suggest the SRB has purchased 590,000 tons of aluminum (locally) already according to this article and 200,000 tons of refined zinc, also from domestic sources.
The SRB has purchased approximately 300,000 tons of copper from offshore sources. At $4250/ton (our best estimate as to average purchase price) that means China has converted $1.275b of its dollar reserves to metal. Rumors suggest the Chinese may want to purchase up to 1 million tons of copper for an incremental conversion of $2.975b. Adding in zinc, cobalt or any other metal, we believe this strategy would likely only convert $5b to metal. Of course we have not considered gold into the equation, also a possibility. That represents a very tiny percentage of China’s entire US dollar reserves.
But switching dollars to commodities does present several benefits, as the Telegraph points out. This tactic minimizes the need to increase the yuan and metal can be easily warehoused, unlike other commodities such as oil. Buying at bargain basement prices also helps (though copper has risen this year).
If you really want to know China’s strategy for moving its reserves out of dollars, just watch which companies it buys and for how much. It’s much easier to spend your money on big-ticket items like entire companies than a few hundred thousand tons of raw material purchases.