As copper prices hover just above the US$2.00/lb mark, conjecture exists as to how low prices will go and for how long they will remain at these levels. While concerns over excess supply initially sparked weakness this year, demand concerns have continued to dampen market sentiment.
However, the reality is that weakening demand was always going to eventuate, particularly as the gradual decline in Chinese consumption set in. After all, China was eventually going to stop growing at a double digit pace as it transitions from an investment to a consumption and services driven economy. Growth is now expected at a slower but more sustainable level of 6.5 percent.
So why is this such a surprise and why have prices dropped so dramatically to 6-year lows?
Firstly, emerging economies and developed economies such as the US and Europe have not picked up the slack as originally expected. Secondly, a higher US dollar (on the expectation of interest rate rises by the FED) has made commodities such as copper more expensive for buyers using other currencies. Thirdly, declining inventories and production cuts have not alleviated ongoing global demand concerns.
Historically, supply constraints and disruptions have helped alleviate these concerns with the expectation that the market would return to a balance/small surplus. In a lower price environment, projects are deferred or delayed and price induced closures become more frequent. The closures announced so far have had little impact in the short-term, with price gains quickly eroded.
Further mine closures will assist with the rebalancing of the market in 2016/2017 but prices are likely to take time to fully recover. While prices are starting to hit a floor and should recover in the second half of 2016, current price levels will be the new norm, at least for the next 1-2 years, after which the market should readjust to a deficit position.
“Closures announced so far have had little impact, with resulting price gains quickly eroded.”
KPMG in Chile