Mr. Market

Given the U.S. financial markets volatility and somewhat slow regression the last couple of months, I found it appropriate to briefly and simplistically analyze speculative trading and its effects on the investment of commodities in the last year or so. To start, I remember a time when Goldman Sachs analysts predicted that oil could reach $200 and while wrong, the prediction highlighted the amount of fear in the market when the logistics never warranted it. The only explanation for the behavior of investors was trade speculation into oil, hedging against a supply shock that never occurred. Hard commodities like oil, have been subject to rampant fluctuations in market price, often resulting in extreme devaluation and economic instability. Some background. In case you’ve been in a hole the last one and a half years and haven’t received the news, the worlds financial markets experienced tremendous highs and devastating lows. While the S&P 500 has dropped roughly 50% Russia’s RTSI has dropped 80% since its highs in the middle of 2008. An explanation: roughly 8o% of Russia’s exports (U.S.- 30% commodities) are natural resources (oil, natural gas, timber) and the RTSI’s businesses are reflective of this. Interpreted in dollars, we are talking about losses in trillions of dollars worldwide.

The topic of the effects of trade speculation was brought to my attention by the recent article in the Financial Times “Chinese copper entrepreneurs flee.” China’s government has spearheaded an effort to support private investments in Africa to secure natural resources. A result of the growth seen from China and other emerging markets gave credence to the belief that the hard commodities needed for the rapid expansion of infrastructure and essentially modernization would equate to greater demand in these goods. Well, the consensus now is that slow global growth outweighs the demand. The article brought in light the abandonment of Chinese smelters in the Katanga region of the Congo. With the cost of copper soaring to $9000 a ton the cost provided enough incentive for Chinese miners to move into the Katanga province and mine at a lucrative $5500 dollar profit. But as the cliché goes, good things never last and investors sold off their positions in commodities, marking the end of the commodity boom. As a result forty Chinese smelters left Katanga and as the author states “luxury house building projects and freshly imported Jeeps vanished and replaced with crime and unemployment.” The reason? Copper plummeted to nearly $3200 a ton and the incentive to mine in Katanga was not lucrative enough given the operating costs. We can deduce that speculation in copper created an unstable and inefficient market. In the case of Katanga, the investment brought in from the Chinese provided an economic expansion and influx of wealth. Speculation in copper (increasing prices) over the years created enough of a catalyst for the expansion of supply and investment but after the deflated price it left it no better than before. With a conditioned reluctance for foreign institutions the future is uncertain for Katanga. Adding the cherry to the top of the “screw you” sundae the Chinese owners failed to pay taxes and compensate workers. Moise Katumbi, was asked if copper price were to rebound would he allow the Chinese to come back, saying “No. no no. Not as long as I am governor.”

An argument for the recession attributing to the price of copper is valid and obvious, while some state that the value of copper is pragmatic, since its wide use in homes, pennies, etc. and consequently not subject to speculation. In my mind it ceases to explain the 320% increase in copper from March 2004 to February of 2006, and its subsequent drop to 2004 March price levels in December 2008, in a matter of months. I am in no way denouncing speculation in the commodity market, I realize that in order for markets to work, individuals willing to risk their capital for a high reward is a cornerstone of any market, but some (politicians) wish to control speculation on the basis of possible collusion, my humble opinion is that Mr. Market is just being Mr. Market.