Wednesday, March 3, 2010
The "bear case" for copper I presented last week was punched in the gut.
The punch came from the enormous earthquake that struck the South American nation of Chile on Sunday.
Chile is by far the world's largest-copper producing nation. It produces around 30% of the world's copper. If Chile quit mining copper, it'd be like if Saudi Arabia and the U.S. both quit producing oil.
Traders showed their concern by sending the price of copper up 4.6% on Monday to $3.43... a huge move. But the price has since drifted back to around $3.35. Here's why...
A disaster like the Chilean earthquake can damage mines and destroy key infrastructure, like roads and power lines.
After this weekend's quake, the country's four largest mines shut down. Several big copper mines declared "force majeure." That's a legal term for an unintended breach of a supply contract due to, in this case, an act of nature. In other words, they couldn't deliver the copper they'd promised.
Chile's major copper mines are about 600 miles from the earthquake's epicenter. Chile's fourth-largest mine, El Teniente (the Lieutenant), is the largest underground mine in the world. Of the larger mines, it was the closest to the epicenter. The quake shut the mine down, but there were no reports of damage.
On Monday, I spoke to the chairman of one of Chile's copper mining companies. He told me there is no comparison between Chile and the recently struck Haiti. Chile's buildings and mines were built to a stringent code designed to withstand exactly this kind of event. And he told me his mines came through fine.
There is some damage to Chile's roads and railways. But reports coming in suggest most of the roads to the ports are OK. And while the earthquake closed the major port of San Antonio, it didn't affect the two major copper ports of Antofagasta and Mejillones.
The quake did cut power to at least four copper mines, including El Teniente. Mines need enormous amounts of power, especially underground mines. And limited power supply will hurt production. But mine output will resume as power is restored in a few days.
This giant earthquake could have devastated Chile's copper industry. It didn't. At most, it disrupted supply for a few days.
As I explained last week, hoarders are holding an enormous amount of copper hopping to catch a higher price. All that supply in "weak hands" basically means any dip will turn into a major rout. One veteran copper analyst is predicting a 70% drop in copper prices.
While Chile's earthquake kept a bid under copper for a short time as the market figured out exactly how much damage it did, this "uncertainty spike" couldn't even send copper above its January high around $3.50 per pound... and it doesn't change my bearish stance on the metal one bit.
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