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Posts Tagged ‘LME prices’

These are buoyant times for (some) commodity investors, and (some) commodity producers, what does it mean in terms of a global recovery?

A common feature among people drawing conclusions about the economy from commodity markets tends to be a sole focus on price, and even then only prices in exchange traded commodities. If buyers out number sellers prices rise, so rising prices mean a return of global demand which in turn means global recovery — right? Well not quite, despite the enthusiasm displayed in many articles pushing that line. The flaw in this line of thought is that the buyers who are out numbering sellers in commodity markets need not be end users of the commodity. There can be speculative demand from speculative buyers just as there can be economic demand from industrial buyers. From the point of view of the markets, or the commodity producer, it doesn’t matter who the buyer is: more buyers than sellers means rising prices. The problem arises when you use market price — at face value — to draw conclusions about the economy. Since most of the people who connect price to economic recovery without digging deeper tend to be economists, I’m assuming economic theories don’t allow for speculators.

Let me focus on metals and minerals (e.g. iron ore, coal). People don’t eat these (unlike food commodities), they are used as inputs for industrial production. As global demand picks up we would expect to see increasing consumption of metals and minerals. When buyers out number sellers prices rise. This is clearly what is occurring at the moment, you only need to look at price charts–which I haven’t reproduced here because we’re all familiar with them. But what if the majority of buyers are not end users of the commodity and do not take delivery, i.e. speculative buyers? If the buyer doesn’t take delivery then you would expect stockpiles to rise. In other words if speculators are out numbering industrialists you would expect to see quantities of the commodity that are available, i.e. stockpiled, to increase. In the first chart we have the base metal stockpiles on the London Metals Exchange.

LME stockpiles
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A recent article from Reuters titled “Economic optimism lifts US copper to 13-month peak” provides an example of the leap of faith many are taking when they observe rising copper prices and conclude that global economic prospects are brighter. The article included a lot of bullet points, but most related to matters unrelated and unconnected to economic activity.

Some of the discussion related to charting. Terms such as “double bottom neckline” and “resistance level” may have meaning among charting traders, but those terms should be confined to discussions relating to where people betting/gambling/speculating on the copper price see the price heading. In other words speculators who are long copper because of a chart pattern shouldn’t lead a journalist or sub editor to frame the article around economic matters. The predictions being made based on “double bottom neckline” are unrelated to whether or not economic optimism exists and are unrelated to economic data. For clarity I am not saying a trader can’t profit from these things, but merely that they are what they are, and what they are is independent of economic fundamentals.

Another bullet point related to housing sales. The assumption is presumably that, as a so-called bellwether metal, a rise in housing sales means a rise in construction, which means a rise in copper consumption, which means an expectation of a rise in demand. Below is a chart of US copper consumption this decade. For reasons unclear to me consumption has been falling all decade. The International Copper Study Group (ICSG) has forecast consumption in the USA, Europe and Japan to be down approximately 17% this year.

copper2

US copper consumption

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Given the weakness (freefall?) of the US Dollar I decided to make another series of LME data, this one with Trade Weight Index corrected pricing. The Fed Trade Weight Index (TWI) is published weekly whereas the LME trades daily and is closed on certain holidays. So I wanted to create a list of the TWI for each day of LME trading this decade. There may be easier ways (?) but this is the approach I took:

1. Convert all dates to absolute time.
2. The first LME trading day this decade was on 4th January 2000. Remove TWI data prior to that:

time = AbsoluteTime[{2000, 1, 4, 0, 0, 0.}];
TWIData = DeleteCases[TWIData, x_ /; AbsoluteTime[First@x] < time];

3. Collect the LME trading days for each weekly TWI datum. I figured the easiest way to do this was to use BinLists. Each week has 604800 seconds so this will be the bin width.

bins = BinLists[LMEdates, {start, finish, steps}];

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According to Reuters, London Metals Exchange (LME) tin traders are describing the market as “disorderly” and saying that prices do not reflect reality. Apparently a single entity owns 90% of long warrants. My reaction is that while having one entity controlling the long side is obviously a distortion, what is causing other metals to be similarly distorted in so far as prices being positively correlated with stockpiles?

Below is a Wildebeest Correlation Plot—a plot of the rolling correlation between prices and stockpiles—of LME tin as of the end of September:

Tin WCI plot

Tin WCI plot

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It is puzzling that base metal prices are rising at a time when stockpiles are also rising. This is not some sort of short term fluctuation, it has been a trend since late March 09.

Copper is an exception in that there was a sharp drop in the stockpile earlier this year, attributed to Chinese buying, but stockpiles have been drifting up for 2-3 months since then.

LME copper data from the last 2 years

LME copper data from the last 2 years

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