Issue link: http://resourceworld.uberflip.com/i/661612
A P R I L / M A Y 2 0 1 6 www.resourceworld.com 47 by analysts using the research and dis- seminating the conclusions without the full knowledge of the limitations of these forecasts. Our industry lives and dies by enthusiastic anticipations of project development, in quantity as well as in the timing of delivery. This is a systemic bias and I doubt it will ever change. But as data related to new projects or expansions are collected and aggregated in a database, it requires a proper review to determine if the assumptions are still valid in the cur- rent market conditions. Needless to say, my recent review of the copper supply scenario revealed slower construction schedules, significant proj- ect delivery delays and assumptions of project cancellations. When I combine these changes to the recently announced production cuts, I see no oversupply in the short term, but rather a market in equilibrium or a small deficit in 2016-17, followed by increasing deficit in the fol- lowing years. Long-term supply analysis entails a dis- cussion on incentive pricing. The incentive price is obtained by determining the copper price required for new projects to yield a given IRR (say 12%). By graphing marginal production (in t Cu) as a function of copper price, we can determine what copper price is required for say, the next 4.0 Mt of new copper production. A number of issues should be considered here, namely what project parameters represent. These param- eters, often sourced in feasibility studies, have a history for being on the lighter side of capital and operating cost forecasts. Also, recall the earlier discussion on volatility and the notion that future cop- per projects exhibit a riskier profile than the last generation, begging the question: is the 12% discount rate sufficient for initiating project investment spending? Readers will often find, in the literature, that a value of $3.50/lb is required to incentivize the development of the next 4.0-4.5 Mt Cu. In my opinion, this will not be enough. While waiting for long-term fundamen- tals to prevail, what do we monitor in the short term? The US dollar index has to turn. A weakening US dollar is positive for commodities. World growth, exclud- ing China, must also improve from 2015. We monitor China's growth, particularly the property market, in terms of inven- tory and price changes; and rail freight and electricity consumption as proxies for industrial production growth. We try to gather intel on the activities of China's Strategic Reserve Bureau (SRB) and we monitor the investment program of China State Grid, the largest copper consumer in the world. We also monitor project execu- tion for a few significant projects and the inventory changes on the LME, SHFE, Comex and Bonded warehouses. Be warned, sentiment and technicals always trump fundamentals. The copper price is currently the captive of a down- ward trend dating back to late 2011. Until it clears the channel in a clean upward break, there remains a constant risk for testing the lower limit of the range. This condition is well understood by specula- tors willing to profit from short bets. In conclusion, in the near future, the supply glut promised year after year will again fail to materialize. Furthermore, at the time of writing, it appears, a significant deficit will emerge as no new projects will be ready in time to compensate for natu- ral depletion and global (mainly Chinese) demand. Although current production cuts are sufficient for market equilibrium (net of scrap impact and SRB activities), the copper price will always react to external factors over fundamental supply/demand until, in my opinion, the supply deficit becomes a "mainstream" concern; and consequently speculation (read: short selling) remains a significant price risk in 2016. n