Commodity Conundrum – gold, copper, nickel…

Although gold is a metal, its price has very little to do with cycles in the global economy and more to do with psychology and a myriad of other variables – and which are important at a given time is a roll of the dice (inflation, interest rates, and of late sovereign debt crises).  The adjacent photo is from a gold pour at the Meadowbank mine in Nunavut.  Funny story:  I was up at the site very early (pre-mining) days because my former fund management company helped finance much of the exploration (prior to being aquired by Agnico-Eagle, the company with the property was called Cumberland Resources).  I accidentally wondered into the core shack and saw samples of visible gold from a new drilling zone I was not supposed to see. Of course, there wasn’t much I could do about it (ethics) personally but the deposits did grow enough to become a mine over the years.  Years later, at the Denver Gold Show, while chatting with the CEO’s of both companies, I jokingly suggested to the boss at Agnico that they aquire Cumberland.  They sure kept their poker faces on – they must’ve been having preliminary discussions and I’d never have guessed it because that’s exactly what happened.

Other metals are very sensitive to global demand – and China represents the lion’s share of that demand.  Even when I published my first book Resources Rock in 2004, the rate of growth of Chinese metal consumption was staggering if little appreciated.  My own rule of thumb is that if China’s economy is acclerating, or the U.S. and Europe are poised to grow, the outlook for the commodity prices is pretty good.  If all are on the same wavelength, then prices will rocket up (which if you look at below chart, is what was occuring when that book was written).

From (Sept 13/11) Scotia’s Strategy Snapshot: The OECD released its latest set of data on leading economic indicators (LEI) yesterday.  Although differences are pronounced on a country basis, the global LEI, which includes the 34 OECD countries plus six non-major members (China, Brazil, India, Russia, South Africa, and Indonesia), is still suggesting that global economic activity will continue to expand in the coming months.  The
global LEI declined for four straight months in July, losing 0.3% MOM, but the
gauge remains up 1.9% YOY, suggesting a slower, but positive, pace of global economic expansion.
On a country basis, however, the LEI is standing in negative territory in the Euro zone (-3.6% YOY), U.K. (-4.6%), and Brazil (-4.2%), while it is still expanding in China (+13%), Japan (+0.6%), and the U.S. (+0.8%) as illustrated in our Chart of the Day.

The conundrum now is whether the cycle peters out or is just interrupted by investor worries.  I still expect that China’s industrial production is dependent (if less now than historically) on the health of the U.S. economy, and although it’s just treading water, the verdict is still out on the next several months.  If you’ve read my prior postings, I remain optimistic and believe the reslience of “Main Street” America is being underestimated.  If so, then predictions about China may also be too conservative.

Another factor that is commonly in the press today cites the purportedly “high” level of inventories for base metals.  I can assure you, it’s virtually impossible to make money in metals stocks if you buy them when inventories are skinny.  The best returns come to those who anticipate a drawdown as growth and demand improve.  Prices rise as inventories diminish, and peak when they are low.  Buying when inventories are low means you might get stuck in the stocks as inventories start to build and prices will be falling as they do. 

(Reuters, Monday Sept. 12) – “Global nickel stockpiles are now rising slightly after declining for over a year-and-a-half, putting pressure on prices, according to Norilsk Nickel the world’s largest nickel and palladium producer.”  If in the past year to year-and-a-half they were declining, that has now stopped,” chief executive Vladimir Strzhalkovsky said on Monday at the Reuters Russia Investment Summit.  And, they have started to increase by a tiny, barely noticeable amount. It is about 1-3 percent in the past month and a half.”

The future direction of inventories (what is important) will be determined by the future of the global economy.  Everyone wants to make bets without uncertainty, but then they wouldn’t be bets would they?  Either it’s 2007 all over again or China, or the U.S. and Japan are about the lead the charge back to some semblance of prosperity.  One other factor to consider is seasonality.  Typically the stocks of resource companies begin to rally right about now.  Place your bets!

Riding Portrait

Invest to Live, Live to Ride

About Mal Spooner

Malvin Spooner is a veteran money manager, former CEO of award-winning investment fund management boutique he founded. He recently authored A Maverick Investor's Guidebook which blends his experience touring across the heartland in the United States with valuable investing tips and stories. He has been quoted and published for many years in business journals, newspapers and has been featured on many television programs over his career. An avid motorcycle enthusiast, and known across Canada as a part-time musician performing rock ‘n’ roll for charity, Mal is known for his candour and non-traditional (‘maverick’) thinking when discussing financial markets. His previous book published by Insomniac Press — Resources Rock: How to Invest in the Next Global Boom in Natural Resources which he authored with Pamela Clark — predicted the resources boom back in early 2004.
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