Why I’m Getting More And More Excited About Copper

June 22, 2017

Why I’m Getting More And More Excited About Copper

  • Forecasts on electric vehicle market penetration are getting more bullish.
  • At the same time, copper is already in a supply deficit.
  • Every copper miner is different, so be careful out there.

Introduction

I’m a value investor looking for low risk investments that will lead to high returns. Therefore, when I hear Elon Musk talk, I don’t get excited as an investor because the risk is too high for any potential return as there is a probability that TSLA goes bankrupt when a recession comes along or that it doesn’t turn a profit in the next decade as margins will probably get competed away.

However, the person in me gets very excited when I hear Elon Musk talk because I am extremely attracted by what TSLA represents – a world without carbon emissions, clean energy, silence, renewables, and endless possibilities. And I really believe that we are at an inflection point where humanity is turning from fossil fuels to renewable, electric energy.

As I’ve said, investments like TSLA, lithium, and cobalt are already a bit too hyped up for me because I can’t know whether the high prices come from real demand or speculation.


Figure 1: Cobalt prices have soared in the last year. Source: InfoMine.

I described the risks of investing in hyped investments here.

However, just by looking around myself I see more and more electric vehicles, more home charging stations, I see more solar plants—especially driving through Germany—and I’ll soon see solar roofs, so the logical thing to do is to look for related investments where margins can’t get competed away and where price isn’t pushed up by speculators.

Investing in the electric vehicle industry will be like investing in the car industry, and thus very cyclical with single digit margins in periods of economic expansion. There will be some alpha depending on current trends, but that’s it.

Solar tile roofs, electric batteries, and all those things will probably be produced in bulk somewhere in China and other low-cost labor countries. Therefore, investing in that trend will probably end up like has been the case for those who invested in solar panel producers in 2008 when the craze was all about solar energy.


Figure 2: Guggenheim Solar ETF (NYSEARCA: TAN) is down more than 90% in the last 10 years. Source: Yahoo Finance.

However, I managed to find one investment that is going to benefit greatly from the above described trends and thanks to the fact that its supply is limited, it profiles itself as the best investment vehicle for the upcoming electric revolution. The investment is the core of all electric transportation energy: plain, simple, boring old Mr. Copper.

Copper Environment

In addition to higher demand for copper, the metal is trading close to 5 years lows due to the recent 5-year slump in all metal commodities.


Figure 3: Copper price in the last 5 years. Source: Bloomberg.

Even if the electric vehicle trend is just picking up, copper is already in a supply deficit. U.S. electric vehicle sales in 2016 were 159,139, thus just 0.008% of total U.S. vehicle sales. This number is insignificant now, and therefore copper prices are still low, but we can only imagine what will happen when electric vehicle sales become 10% or 20% of total vehicle sales, or when we start seeing more electric buses on our streets or even electric trucks.


Figure 4: Tesla’s semi. Source: Electrek.

The facts behind the above described trends are that an electric car needs as much as five times the copper compared to a normal car.

Add to that the charging stations, improved infrastructure requirements, more renewable producing stations, and you could easily see demand for copper double in the next decade. Another positive is that many countries are contemplating banning diesel and other heavy emission engines due to large problems with smog, think China and India.


Figure 5: An electric vehicle needs far more copper and rapid expansion could double demand for copper in the next 20-years. Source: International Copper Association.

There are different forecasts on how fast we’ll switch to electric vehicles, but somehow I think it will happen extremely quickly. Just think of the smartphone you had 10 years ago. That’s my point, you didn’t have one 10 years ago but you probably have one now.

In general, electric vehicle adoption forecasts are becoming more and more bullish.


Figure 6: Bloomberg now forecast 50% of new cars being electrical in 2040. Source: Bloomberg New Energy Finance.

Positive changes in structural trends can only be a boon, the important thing is that due to declining ore grades and the low hanging fruit that has already been mined, copper is already in a deficit.

Copper Outlook

The International Copper Study Group (ICSG) forecasts copper deficits both in 2017 and 2018. This should keep copper prices at least stable in the short term, if not push them higher.


Figure 7: Copper is entering a supply deficit. Source: ICSG.

The deficit is expected to widen as ore grades decline due to mine depletion and the fixed amount of copper in the ground.


Figure 8: Only higher prices can justify investments into lower grade ore bodies. Source: Codelco.

Lower grades and higher demand will slowly but surely lead to higher copper prices as there is no other option for compensating the lack of supply in order to put possible projects in motion.


Figure 9: Copper supply gap forming. Source: MetalMiner.

For example, Rio Tinto (NYSE: RIO) and BHP Billiton (NYSE: BHP) own the Resolution copper project in Arizona. The project has enough copper to supply one quarter of U.S. copper demand for many years, but the copper deposit sits 7,000 feet below the Earth’s surface. At such a depth, temperatures easily reach 160 degrees Fahrenheit which make mining very expensive. On top of that, just to start mining, RIO and BHP plan to spend somewhere from $6 to $8 billion on the project and the project isn’t expected to come online in the next 10 years. By the way, $1 billion has already been invested.

Higher future copper prices can only be a positive for existing, already profitable miners as their costs would remain fixed while their margins and profits would increase. The World Bank forecasts copper prices to increase at least 30% up to 2030. This forecast excludes the growth in the electric vehicle industry as it isn’t a significant trend yet and the World Bank can’t include it in its forecast.


Figure 10: World Bank’s copper price forecast. Source: Knoema.

How can you benefit the most from the above trends? Well, because of their fixed costs, copper miners are the ones that will profit the most from higher copper prices.

Copper Miners 

At this stage, any investment in a copper miner that has long term mine lives will probably be a very positive long-term investment. Here are some ideas on where to invest:

Diversified miners:

If you want to be diversified across various metals with an exposure to copper, then the largest global miners are an idea:

  • Rio Tinto (NYSE: RIO)
  • BHP Billiton (NYSE: BHP)
  • Glencore (NYSE: GLNCY)

If you want more copper exposure, then look at the following companies:

  • Freeport-McMoRan Inc. (NYSE: FCX)
  • Antofagasta plc (LSE: ANF; OTC: ANFGF)
  • Southern Peru Copper Corp (NYSE: SCCO)
  • KGHM Polska Miedz (WAR: KGH)
  • And many other smaller copper options.

However, I must warn you that there are huge differences in current valuations, risk reward ratios, debt levels, mine quality, jurisdictions, political issues, management quality, shareholder interest protection, labor issues, and the individual miner’s exposure to copper among the above miners and other miners where huge alpha returns can be achieved by those who carefully analyze all copper miners and select only a handful of the best ones for their portfolio, those who have the lower risk and the higher return potential.

What I find very interesting is the fact that the market is currently attaching a huge discount to future copper production, this is 5 to 10 years from now. However, 5 to 10 years from now is exactly the period when copper prices will be at their highest as it will be clear to anyone that the world will need much more copper.

By Sven Carlin Commodities Copper Investiv Daily Share: