A tumultuous start to the year has seen copper prices tumble, threatening growth in Africa’s leading producer nations. But whatever the future holds, the DRC and Zambia will play a key role in copper markets in the years ahead. Report by M J Morgan.
The Democratic Republic of Congo (DRC) overtook Zambia last year as the continent’s biggest producer of the red metal, with output at 942,000 tonnes, as new production came online faster than anticipated. Zambia, which has set the ambitious target of producing 1.5m tonnes by 2016, forecast its output at 900,000-915,000 tonnes over 2013.
This year’s 10% fall in prices has taken copper to its lowest level since 2010. Copper peaked at over $10,000 per tonne in 2011. Prices have fallen from $7,400 per tonne to $6,400 in March, before rebounding to around the $6,600 per tonne level.
Used predominately in construction, electronics and for wiring (due to its high conductivity) copper is seen as a bellwether of the global economy. As such, like crude oil, it is highly responsive to general optimism or pessimism about global growth prospects. However, unlike oil, China accounts for 40% of global demand. Half of Zambia’s exports, for instance, are bound for China. This massive exposure to one marketplace means the red metal’s price more precisely mirrors the Middle Kingdom’s fortunes than anything else.
Chinese imports in March rose more than 30% year on year to 420,000 tonnes. In fact, it is copper’s use as an asset class – in particular, its use in China as collateral for loans – that may be a major factor behind recent price developments. Precisely how many cheap dollars are raised with these loans is unclear and where exactly they are invested is opaque. US dollar interest rates are low compared to renminbi (Chinese currency) rates so this drives a carry trade – in which copper is used to secure relatively cheap dollar loans that are used to invest in high-returning investments in China or lent to the shadow banking sector.
Hedging on copper
The first Chinese domestic bond default, by solar energy company Baoding Tianwei Baobian Electric, led to Chinese speculators selling. But the fevered short selling, in the hope that the borrowers will default, releasing copper on to the market and driving prices down (which allows the copper they borrowed to sell to be repurchased at the lower spot price) may be a wrong-headed strategy. Whether this will happen depends on whether these loans are adequately hedged against fluctuations in copper prices.
Chilean production is forecast to hit 6m tonnes this year. World production is expected to expand around 5% this year and 7% the following year. Growth in demand is nearer half that. This means a surplus is expected this year of circa 400,000 tonnes, according to the International Copper Study Group (others put the figure nearer 140,000). This would be the biggest since 2001.
Markets elsewhere, such as those in Europe with lower inventories than in China, may pick up some of the slack – taking advantage of lower prices. China’s government too is likely to start buying if prices fall much lower – assuming it is not already doing so. Nevertheless, copper stocks in Shanghai warehouses are much nearer to record highs than is beneficial for producers’ peace of mind.
In the short term copper prices may fall, to around $6,000 per tonne, but are likely to find resistance above $5,000 per tonne – around the break-even cost of production. Rising energy prices, wage costs and lower grade ore deposits have combined to increase production costs significantly since 2007.
Major deals in DRC and Zambia
The DRC and Zambia are two of the key nations in driving global copper supply. The DRC’s Kamoa and Tenke Fungurume projects alone are reputably the second and third biggest copper reserves in the world.
Ivanhoe Mines are, according to Bloomberg, in talks with China National Gold (CNG) regarding a 15% stake in the $2.5bn Kamoa project which it owns 95% (with 5% owned by the DRC government).
The project is Africa’s largest high-grade copper deposit and the world’s largest undeveloped high-grade copper deposit. With estimated cash costs of production of $2,601 per tonne, the project should be extremely competitive. Kamoa needs $1.4bn to commission and is expected to yield 300,000 tonnes a year. Last year CNG ended talks to buy Barrick Gold’s African unit.
Katanga is a challenging environment in which to secure electricity supplies but Ivanhoe, in addition to its 30-year mining licence, has also secured a deal with DRC’s electric company, SNEL to refurbish two hydroelectric plants that should provide ample power for the project. Currently much of its energy needs are met by imports from Zambia.
Additionally, Dan Gertler’s Fleurette company is providing SNEL with $320m in financing to boost the country’s hydroelectric output from 2016. In 2011, Fleurette bought a 20% stake in the Glencore-run Mutanda copper mine from state-owned Gécamines. Both Global Witness and the IMF have questioned the fairness of the sum paid. Fleurette robustly denies these allegations.
Glencore’s Kamoto Copper’s mine in DRC entered production last year and is expected to produce 300,000 tonnes this year.
Freeport McMoRan, Glencore Xstrata and ENRC are all major copper miners in DRC. Freeport McMoRan operates the vast Tenke Fungurume copper and cobalt mine (of which it owns 56%, Lundin Mining 24% and Gecamines 20%). Cash costs over 2013 for Freeport were in the region of $3,200 per tonne. The second phase of expansion is now complete, increasing capacity to 195,000 tonnes per annum (roughly 1% of global supply).
In Zambia, where copper accounts for 60-70% of export earnings, the kwacha has fallen over 10% against the dollar. Increased interest rates, to support the currency, have put pressure on growth which is expected to fall to 4.5% this year. India’s Vedanta Resources, operator of Konkola Copper Mines (KCM), announced at the end of January a 28% fall in copper revenues from Zambia, due largely to energy shortages. The proposed loss of 1,500 jobs has been condemned by the Mineworker’s Union of Zambia.
Short of a major stall in global growth, fundamental copper demand will likely prove resilient. A Barclays report said that “recent sell-off seems overdone, in our view, since micro trends have likely bottomed.” This seems reasonable, as does the latest Thomson Reuters GFMS Copper Survey that sees prices averaging $6-7,000 per tonne over 2014. Africa’s many cost-competitive mines should weather the storm and be set for excellent returns as the market tightens from 2015/6.