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Business News/ Opinion / Online-views/  Metals bubble poised to burst as supplies may overwhelm demand
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Metals bubble poised to burst as supplies may overwhelm demand

Metals bubble poised to burst as supplies may overwhelm demand

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By Millie Munshi, Bloomberg

New York: Copper, nickel and lead, the best performing commodities in the past four months, may be the worst by year-end.

On Wall Street, the chorus is getting louder that increasing supplies of metals are outpacing demand. From Goldman Sachs to JPMorgan to Societe Generale, there are warnings of a mania that is showing all the signs of a climax.

“This is a real bubble," says metals trader David Threlkeld, who first got the world’s attention in 1996 when he showed that copper hoarding by Sumitomo Corp. trader, Yasuo Hamanaka, would lead to a market collapse. Once again, “we have an enormous amount of unsold copper," says Threlkeld, president of Resolved Inc. in Arizona.

The metals bears are convinced that consumption may drop partly because China, the biggest user, is attempting to reduce investment through interest-rate increases and lending curbs after the economy expanded by 11.1% in the first quarter.

Demand is also weakening because of a slowing US economy and a consumer-driven pursuit of alternatives to historically expensive copper and nickel, according to Stephen Roach, chief economist at Morgan Stanley, the second-largest securities firm by market value.

Copper will decline by 30% to an average of $5,650 a metric ton in the fourth quarter from about $8,000 today. Nickel and lead will drop about by 50% from record prices reached on 4 May.

The anticipated slump would depress exports from Australia, Canada and Chile, wipe out more than $22 billion on the London Metal Exchange and squeeze the profits at mining companies from BHP Billiton, the largest in the world, to OAO GMK Norilsk Nickel, the biggest metals producer in Russia.

Bears Miss Rally

To be sure, many of the bears were wrong so far this year. An investor who acted on the advice of JPMorgan, the third-largest US bank, missed gains this year of 67% for nickel, 30% for copper and 41% for lead, the best-performing commodities in the 26-member UBS Bloomberg CMCI Index. That compares with a 6.2% increase for the Standard and Poor’s 500 Index and 2% for US Treasuries, according to Merrill Lynch indexes.

“We’re sticking to our guns" because “prices are unsustainable," said London-based Jon Bergtheil, head of global metals strategy at the bank, on 2 May. Nickel may average at $35,328 a ton in 2007, down from $51,600, because stainless steelmakers might buy less in the second half, he said.

Finding Alternatives

Nickel may plunge to $30,000 a ton by the end of 2008, because the current level is “overdone," Goldman Sachs analysts led by James Gutman in London said in an 2 April report. “There is a risk of longer-term demand destruction." Stainless-steel producers are canceling orders, he said.

The record copper price of $8,800 a ton reached last May was the metal’s peak, said ABN’s analyst Nick Moore. He recommended selling copper in December because global supplies were growing.

World supplies of copper outpaced demand by about 50,000 tons in the first quarter. Global output rose by 8% in the period, twice as much as demand, the company said.

Rising Output

Chile, the world’s biggest supplier of the metal, said production jumped by 13% in March as high prices encouraged miners to increase supply.

Nickel stockpiles tracked by the London Metal Exchange, the world’s largest metals bourse, rose almost by 60% since dropping on 6 February to 2,982 tons, their lowest since July 1991 and barely enough to supply the world for a day.

Consumption Cut

Some of the world’s biggest users of metal are finding ways to reduce consumption. Pohang, South Korea-based Posco, the world’s fourth-largest steelmaker, said on 25 April, it will increase output of nickel-free stainless-steel fivefold next year. Nickel helps make steel corrosion-resistant.

Morgan Stanley’s Roach, who will soon become the bank’s chairman in Asia, says commodities are poised to crash in the same way they did in May 2006, when a 5.4% weekly decline in the Reuters-Jefferies CRB Index was the biggest tumble since December 1980.

“Watch out below for yet another reversal of commodity froth," Roach said on 26 April. “It’s deja vu spring of 2006." He correctly predicted the slump in commodities 12 months ago.

Roach anticipates a drop in commodities because China will increase interest rates to slow the economy and inflation, while a slowdown in US housing will rein in consumer spending.

China ordered banks on 29 April to set aside more money as reserves for the seventh time in 11 months to try to prevent the world’s fastest-growing major economy from overheating. Lenders must put aside 11% of deposits starting on 15 May, up from 10.5%.

‘Boom in Demand’

Even the largest US pension fund, the California Public Employees Retirement System known as Calpers, is chasing commodity returns after years of holding stocks and bonds. The fund in March invested $450 million in the Goldman Sachs Commodity Index.

“Strength in commodity markets will be something we should see generally over the next 10 to 20 years," said Russell Read, the chief investment officer, in a 24 April interview. “We see a relative shortage of commodities stemming from a boom in demand from emerging markets, particularly India and China."

The gains in metals are “100%-driven by funds," said Resolved’s Threlkeld. “At some point the funds are going to want to take a profit. And when that happens there could be an almighty crash."

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Published: 07 May 2007, 10:22 AM IST
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