Copper prices to ease but “not massively so,” Wood Mackenzie says

Wood Mackenzie is forecasting global demand growth for copper this year of 3.6%, a copper deficit of about 100,000 tonnes and LME cash prices averaging US$8,700 per tonne or US$3.95 per lb., down from an average of US$8,800 per tonne or US$4.00 per lb. in 2011.

The consulting group forecasts a pick-up in Chinese demand in the second half of the year with copper prices peaking in the third quarter at US$8,900 per tonne. (Last year copper prices peaked in February at US$10,000 per tonne.)

“The year didn’t start off particularly well but we’re expecting much stronger prices as we move into the second half,” Richard Wilson, the consulting group’s chairman of metals, said in an interview at the Prospectors and Developers Association of Canada’s mining convention in Toronto. “We’ll probably end up lower than where we were in 2011, but not massively so.”

Wilson conceded that while that prediction might look optimistic given continuing worries about tepid conditions in China, he believes policymakers in Beijing “are going to have to open the investment floodgates some time this year to prevent a potential meltdown, which they definitely don’t want…The difficulty is if the Chinese government are too late to step in and start pushing liquidity into the economy, they’re in real trouble. And I don’t think they’re going to have a choice, actually.”

“You have to be very careful when you look at China,” he added. “You can’t assume that China will respond like a mature Western economy would to its problems. The one thing that China has is a lot of cash.”

Wilson also noted that it is not uncommon for the Chinese to buy half a million tonnes of copper metal over the space of a couple of months because they are speculative when it comes to metal purchases. “If you get to a point where the copper price drops down much below US$6,000 per tonne, let’s say, you could see very strong Chinese buying, just for pure speculation,” he explains. “So it’s not ‘all over’ by any stretch of the imagination.”

One of the reasons copper has performed so well in recent years Wilson says is that stock levels measured in days of consumption—currently at about 50 days—are “way, way below other metals,” whereas a normal stock level would be in the 65-75 day range. Last year copper stocks were measured at 54 days of consumption and in 2010 were at 57 days of consumption. Wilson predicts they will rise to about 60 days of consumption in 2013. (For comparison purposes, zinc is currently at about 120 days of consumption.)

And when the marginal cost of production is considered, which he defines as the 90^th percentile of the cash cost curve, the price of copper last year was at a premium of about 95% above its marginal cost of production—“a pretty big differential when you had a copper price of almost US$4 per lb. on average.” By contrast, the aluminum price last year was below its marginal cost of production, nickel was almost at its marginal cost of production and zinc was at a 41% premium.

Wood Mackenzie puts the marginal cost of production for copper at about US$2.20 per lb.

At the same time, however, capital costs of copper projects have soared. Between 2004 and 2011, capital costs on average escalated at 22% per year while costs at the mine site during the same period grew at a pace of between 16% and 17% a year. In 2004, for example, the cost of copper concentrate may have been about 50¢ per lb. but today it is probably closer to about $1.50 per lb., he said.

The only reason cash costs haven’t shown a similar increase Wilson maintains is because of the “very, very decent prices” for byproduct metals associated with copper production such as gold, silver, molybdenum, zinc and lead. “You’ve seen a major increase in the offsetting byproduct credit for those costs so that is what brings your average costs down to about somewhere probably just under US$1.30 per lb.”

Looking ahead, Wilson forecasts that 2013 marks the year when the market will start to see some fairly big projects coming through and copper prices are likely to be about US$3.70 per lb., and might range somewhere between the mid-three dollar to the high two-dollar range in 2014 and 2015.

“The gold-plated run that copper has enjoyed in these last five, six, seven years is beginning to look a lot more questionable because we have a lot more supply coming through and I don’t think we can rely on China for double-digit growth as it moves from an infrastructure-rich economy into a more consumer-driven economy so those growth rates will slow considerably and that will create different conditions for the market,” he concluded.

“The outlook for copper is that it’s still okay for now but watch out over the next few years because there could be choppier waters ahead, but nothing disastrous.”