Ardent Listener
7th January 2007, 19:29
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Copper Conundrum
By Alf Field
January 3, 2007
A strange conundrum has developed in the copper market during the past year. An extreme divergence of views amongst major players has left the copper market set up for some dramatic moves in 2007. The chart below is revealing.
What follows is an analysis of the Commitment of Traders positions in the Copper Comex Futures market. The purple lines show the net position of “Commercials”, the grey lines are the net position of “Large Speculators” and the yellow lines are the net position of “Small Speculators”. Bars above the horizontal line are net long positions while the bars below the line are net short positions. The green line shows the open interest, which has declined steadily during the course of the year.
Updated to December 26, 2006.
What is intriguing about this analysis is the change in the attitude of the Commercials. The Commercials tend to be copper mining companies that use the Futures market to sell product for forward delivery at prices that lock in good profits, giving a degree of certainty to the level of future profits. These forward sales show up as short positions in COT statistics, and this was exactly the situation during the early part of 2006. The Large Speculators (often Hedge Funds) tend to take the other side of the trade and are normally net long.
In the middle of May 2006 a dramatic change occurred – the Commercials changed from their normal net short position to a net long position! What is remarkable about the timing of this change is that it occurred precisely in the week that copper made an all time high price of $3.98, having trebled in just a year from $1.32 in May 2005.
Just to emphasize that point, at the peak of the copper price, the Commercials closed their shorts and went net long, i.e. into a speculative net long position. After a $2.66 per lb price increase in a year, one would have expected the copper miners to be falling over themselves to lock in huge potential profits by forward sales in the Futures market. Instead they were doing exactly the opposite, opening speculative long trades!
If this had been a brief aberration, one might have written it off as over-exuberance of the moment, but that has not been the case. In the 7.5 months since the 11 May 2006 peak, a period during which copper has been correcting in a high level consolidation, the Commercials have continued to increase their speculative net long positions. This is revealed by the steadily rising vertical purple bars in the above chart, currently at their highest level.
The Large Speculators have built up an increasingly large net short position during the same period, as shown by the grey vertical columns below the horizontal line in the graph above. It is easier to understand the approach of the Large Speculators. After the copper price had trebled in a year, the Large Speculators could argue for a reversion to mean; argue for higher prices curbing demand, causing substitution and also encouraging increased production, as well as producers selling forward to lock in future profits; all factors leading to lower copper prices.
Thus the big conundrum in the copper market is this: Why have the Commercials abandoned selling forward to lock in profits at historically high copper prices and instead deliberately built a large speculative net long position?
Obviously the Commercials must be very confident that the copper price will soon be heading substantially higher.
What do the Commercials know (or think that they know) that might push the copper price to new all-time high levels?
One might also ask why anyone would wish to pay $26 billion (70% in cash) for the purchase of a copper mining company like Phelps Dodge? The purchaser must be reasonably positive about the future level of copper prices.
I have no access to what the Commercials are thinking or expecting in the short run, so I cannot answer these questions. The following comments are pure speculation.
Imports of copper into China declined quite sharply during 2006 despite reports that the Chinese economy continues to grow at around 10% per annum. Are the Commercials of the view that China was feeling the “sticker shock” of much higher copper prices and thus using up internal stockpiles of copper in place of imports, thereby delaying the moment when China will have to return to normal levels of copper imports when their internal stocks are exhausted? Or are the Commercials expecting the decline in the US Dollar to accelerate, both on the foreign exchanges and in purchasing power, leading to a rise in metal prices?
Whatever the reasons, there are two diametrically opposed viewpoints in the Commercial and Large Speculator camps. One side will be brilliantly correct and the other spectacularly wrong, with a large sum of money changing hands as a result.
There is also a conundrum in the technical analysis of the copper price. The following chart shows a downside target of $2.18 per lb for the end of the copper correction using conventional technical analysis:
An Elliott Wave analysis of the copper price is shown in the chart below and gives a different picture to that painted by conventional technical analysis.
The EW analysis indicates the possibility of a low point for the 7.5 month correction since the May 2006 peak at $3.98 could be at $2.80, a level that the London cash copper market achieved yesterday, hence the timing of this report. There are three reasons for suggesting that $2.80 could be the low for the correction, being:
A completed Elliott Wave A-B-C correction, with all minor waves in place, has been achieved;
The A and C waves of the correction are exactly equal at the $2.80 level, a common EW relationship, as shown in the chart below;
A typical EW correction can retrace 61.8% of the prior move. In this instance the prior up move was from $2.14 to $3.85 (closing prices), a gain of $1.71. A 61.8% correction of $1.71=$1.05. Deducting $1.05 from $3.85 peak gives a target of $2.80.
The $2.80 area is thus pin pointed by two separate Elliott Wave calculations.
It will be interesting to see how the Elliott Wave technique fares against conventional technical analysis. If the EW forecast of a $2.80 low for copper is to be correct, there should be limited downside and almost immediate strong upside action from here.
It will also be interesting to see how the Commercials versus Large Speculators stand-off works out over the next few months.
Alf Field
Comments to: ajfield@attglobal.net
Copper Conundrum
By Alf Field
January 3, 2007
A strange conundrum has developed in the copper market during the past year. An extreme divergence of views amongst major players has left the copper market set up for some dramatic moves in 2007. The chart below is revealing.
What follows is an analysis of the Commitment of Traders positions in the Copper Comex Futures market. The purple lines show the net position of “Commercials”, the grey lines are the net position of “Large Speculators” and the yellow lines are the net position of “Small Speculators”. Bars above the horizontal line are net long positions while the bars below the line are net short positions. The green line shows the open interest, which has declined steadily during the course of the year.
Updated to December 26, 2006.
What is intriguing about this analysis is the change in the attitude of the Commercials. The Commercials tend to be copper mining companies that use the Futures market to sell product for forward delivery at prices that lock in good profits, giving a degree of certainty to the level of future profits. These forward sales show up as short positions in COT statistics, and this was exactly the situation during the early part of 2006. The Large Speculators (often Hedge Funds) tend to take the other side of the trade and are normally net long.
In the middle of May 2006 a dramatic change occurred – the Commercials changed from their normal net short position to a net long position! What is remarkable about the timing of this change is that it occurred precisely in the week that copper made an all time high price of $3.98, having trebled in just a year from $1.32 in May 2005.
Just to emphasize that point, at the peak of the copper price, the Commercials closed their shorts and went net long, i.e. into a speculative net long position. After a $2.66 per lb price increase in a year, one would have expected the copper miners to be falling over themselves to lock in huge potential profits by forward sales in the Futures market. Instead they were doing exactly the opposite, opening speculative long trades!
If this had been a brief aberration, one might have written it off as over-exuberance of the moment, but that has not been the case. In the 7.5 months since the 11 May 2006 peak, a period during which copper has been correcting in a high level consolidation, the Commercials have continued to increase their speculative net long positions. This is revealed by the steadily rising vertical purple bars in the above chart, currently at their highest level.
The Large Speculators have built up an increasingly large net short position during the same period, as shown by the grey vertical columns below the horizontal line in the graph above. It is easier to understand the approach of the Large Speculators. After the copper price had trebled in a year, the Large Speculators could argue for a reversion to mean; argue for higher prices curbing demand, causing substitution and also encouraging increased production, as well as producers selling forward to lock in future profits; all factors leading to lower copper prices.
Thus the big conundrum in the copper market is this: Why have the Commercials abandoned selling forward to lock in profits at historically high copper prices and instead deliberately built a large speculative net long position?
Obviously the Commercials must be very confident that the copper price will soon be heading substantially higher.
What do the Commercials know (or think that they know) that might push the copper price to new all-time high levels?
One might also ask why anyone would wish to pay $26 billion (70% in cash) for the purchase of a copper mining company like Phelps Dodge? The purchaser must be reasonably positive about the future level of copper prices.
I have no access to what the Commercials are thinking or expecting in the short run, so I cannot answer these questions. The following comments are pure speculation.
Imports of copper into China declined quite sharply during 2006 despite reports that the Chinese economy continues to grow at around 10% per annum. Are the Commercials of the view that China was feeling the “sticker shock” of much higher copper prices and thus using up internal stockpiles of copper in place of imports, thereby delaying the moment when China will have to return to normal levels of copper imports when their internal stocks are exhausted? Or are the Commercials expecting the decline in the US Dollar to accelerate, both on the foreign exchanges and in purchasing power, leading to a rise in metal prices?
Whatever the reasons, there are two diametrically opposed viewpoints in the Commercial and Large Speculator camps. One side will be brilliantly correct and the other spectacularly wrong, with a large sum of money changing hands as a result.
There is also a conundrum in the technical analysis of the copper price. The following chart shows a downside target of $2.18 per lb for the end of the copper correction using conventional technical analysis:
An Elliott Wave analysis of the copper price is shown in the chart below and gives a different picture to that painted by conventional technical analysis.
The EW analysis indicates the possibility of a low point for the 7.5 month correction since the May 2006 peak at $3.98 could be at $2.80, a level that the London cash copper market achieved yesterday, hence the timing of this report. There are three reasons for suggesting that $2.80 could be the low for the correction, being:
A completed Elliott Wave A-B-C correction, with all minor waves in place, has been achieved;
The A and C waves of the correction are exactly equal at the $2.80 level, a common EW relationship, as shown in the chart below;
A typical EW correction can retrace 61.8% of the prior move. In this instance the prior up move was from $2.14 to $3.85 (closing prices), a gain of $1.71. A 61.8% correction of $1.71=$1.05. Deducting $1.05 from $3.85 peak gives a target of $2.80.
The $2.80 area is thus pin pointed by two separate Elliott Wave calculations.
It will be interesting to see how the Elliott Wave technique fares against conventional technical analysis. If the EW forecast of a $2.80 low for copper is to be correct, there should be limited downside and almost immediate strong upside action from here.
It will also be interesting to see how the Commercials versus Large Speculators stand-off works out over the next few months.
Alf Field
Comments to: ajfield@attglobal.net