Risk managing turbulent markets


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Markets are increasingly becoming volatile not due to demand fluctuation but excess liquidity. A single copper trader spiked copper prices at LME last month by cornering 90% of stocks. What will be the future trends?

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Risk managing turbulent markets

  1. 1. RISK Managing VOLATILE MarketsWHAT DRIVES PRICES? Business Risk Management Series BA-42: Metals<br />
  2. 2. What Drives Prices?Liquidity or Demand<br />
  3. 3. Big Banks enter metal warehousingIn March 2010, Financial Times reported that the Wall Street Banks JP Morgan Chase and Goldman Sachs bought Metro International a London based LME approved warehouse operator of metals for a whopping $550 million <br />
  4. 4. JP Morgan files for ETFAs per a Business Week report in October JP Morgan Chase & Co filed an application with SEC for an ETF where investors can trade in copper like stocks without taking physical deliveries of the same. ETF Securities Ltd is another player whose fund has 6 metals for trading at LME<br />
  5. 5. Fed Infuses Artificial Liquidity On November 3 the US Federal Reserve announced a $600 bn. Quantitative Easing package, that would pump $75 billion per month to boost liquidity and lift commodity and stock markets in view of low U.S. demand. Markets have boomed thereafter due to excess liquidity.<br />
  6. 6. Goldman delay forecasts Copper spurt. On 13th of December after Copper rose for 6 months at spot markets Goldman Sachs forecast that Copper Prices would outperform others as per Reuters. The reason was attributed to an old bogey….. high demand from China.<br />
  7. 7. Single <br />Trader<br /> spikes <br />copper<br />During post Christmas trading a single trader at the London Metal Exchange cornered around 90% of the LME Copper stocks at its warehouses worth $3 billion which was nearly 50% of the total registered Global Stocks as per the Wall Street Journal. <br />
  8. 8. Global Copper Consumption was up by only 4%, but prices shot up by 30%<br />
  9. 9. Other Non ferrous metals followed the copper upsurge <br />It was not only Copper stocks at LME that were cornered by single traders in absence of restrictions at London’s deregulated markets. <br />Financed by Banks flush with liquidity from QE2 Aluminum, Nickel, Zinc and Tin were too spiked with single buyers cornering over 50% LME stocks at London and sending prices sky high<br />
  10. 10. But what off the demand?So Liquidity helped corner the metal stocks at LMEInvestors were roped in as markets boomed.Hence prices shot up at Christmas time when physical deliveries are traditionally the lowest. What were stock levels?<br />
  11. 11. High Stocks At LME Warehouses<br /> If there is a real demand of metals worldwide why was inventories at LME at an all time high as per Citigroup? <br />
  12. 12. High Production Low Off Take of Copper  Global Copper production capacity of 23 million tones is much higher than Global consumption, dropping each year since 2004<br />
  13. 13. Growing copper mining<br />
  14. 14. Big buyer China has stockpiledChina which traditionally consumed 1.5 million tones per annum stockpiled heavily in 2009 importing 3.18 million tones of refined metal when copper prices had dropped to $3000/ tone. Bloomberg reported that off take has halved since but Shanghai has higher inventories than LME<br />
  15. 15. Understanding copper’s manufacturing cycle The “pit to user” cycle of copper is 3-5 year period unlike oil which is much shorter at 6 -12 months. So investors pumping money into copper without knowing the manufacturing cycle may be in for a long haul.<br />
  16. 16. The Copper production cycle<br />
  17. 17. The Copper CycleIs Complex And Long  The cycle time of copper procurement is long and gives room to delay for purchases. High prices even helps the alloying and recycling market to grow and cut back on fresh copper consumption and reduce costs.<br />
  18. 18. China moved early, built strategic reserves China, the largest consumer would buy copper long term, for infrastructure and energy projects. Hence China build its copper reserves in 2009, and may choose to avoid global buying at high peaks now. <br />
  19. 19. China May Have The Last Laugh  Investors searching quick profits may really be on the back foot and China who stockpiled early have the last laugh. Chile, Peru, Congo are witnessing Chinese companies entering the mining segment through unique barter deals despite resistance of the IMF and the Paris Club. They are creating a greater installed capacity and much larger “ore to China” inventories than forecast data.<br />
  20. 20. Investors have panicked before In the month of July to Sept 2010 investors panicked and fled from oil investmentsas China and US stockpiles of crude at Cushing rose. The arbitrage had justvanished from 3 month future longs and cost of storage made even Morgan Stanley disinvest. As a result hedge funds turned bearish on oil futures for the first time in four years reports Bloomberg.<br />
  21. 21. Investors could flee again It is quite possible that metals will also see such bear markets soon, especially as retail and consumer sales is just not present in metals as in oil, making stocks only a long term asset . Copper demand in China has been relatively weak during 2010 as expected and there is no other economy which can sustain the demand.<br />
  22. 22. Goldman may soon write a Copper CDS!<br /> To hedge against losses in Copperand Metal Trade Goldman managers could soon be writing a hedging option, a derivative, within a month of recommending copper so stronglyat the Reuters Press Conference<br />
  23. 23. Will investors be sucked into storage business To profit from metal trade especially copper, investors must be ready for a minimum time cycle of 5 years. Metals could be profitable, but only if you invest at the down cycle and are in the long term storage business conducive to manufacturing. Unfortunately we are now at a 10 year peak !<br />
  24. 24. Metals ETF is not for the faint hearted If you are investing in metals plan to invest long term.And if you do plan, long term stocks may be an better option to ETF warehousing business, which could be very extended.<br />
  25. 25. Investors must learn to manage their Risks It is not the business of Banks to do the risk management of your investment. Housing was just a sample . They are only geared to sell the various investment products and at best give a trend forecast. Delayed Forecasts often trap investors as Banks liquidate positions. It is the investors who must understand and manage risk and not leave it to Fund Managers <br />
  26. 26. For it is investors who loose money<br />It is less informed investors who loose money, not Banks whomanage to cover up their losses through the Fed and taxpayer largesse creating yet another asset class for sales.<br />
  27. 27. The two dimensions of Risk<br />There are two dimensions to every risk in the modern day world<br />The technological <br />and <br />the financial<br />
  28. 28. Investors must study both components of Risk<br />The technological risk is often a manufacturing process phenomenon which most financial managers wrongly assess.<br />Banks normally forecast based on financial trends.<br />Investors must study both components of Risk themselves for safety. <br />
  29. 29. Hedges give little benefit<br />Manufacturing Companies need not hedge against copper prices. They must wait and reframe their buying schedules to the next quarter as the fresh round of QE2 liquidity re-adjusts to new investments<br />
  30. 30. Buying from mining pitheads<br />A third of the world’s produce of copper is still unregistered and available at pit heads at very attractive prices. <br />They are but available only on pay and lift basis being in politically sensitive regions and only those with piles of cash can still make hay. <br />
  31. 31.
  32. 32. Turning Copper threat<br /> into opportunity <br />Efficient Recycling is the most effective of the six methods to reduce Copper prices.<br />There are endless opportunities from professionalised scrap collection to classified segregation, testing and recycling and reprocessing. <br />Since the last 50 years scrap usage in copper has hovered around 35% when it can go up to 50% considering that over 300 million tones of old copper scrap ( non-radio active) is currently available globally.<br />
  33. 33. Efficient Recycling helps reduce consumption <br />One reason why copper<br />Consumption forecasts remain unpredictable is because of the role of recycling of scrap and continuous technology breakthroughs in the processing and recycling industry of late that is making major producers like Germany, Japan, China Belgium and Russia use less copper concentrate each year<br />
  34. 34. Big Banks won’t find metal markets as liquid <br />After the credit crisis the Big Banks did fairly well playing in the markets with TARP funds for profits. <br />However metals are high value assets which are not liquid. ETF may not make metals liquid. Volatility in copper has been historically observed coinciding with the economic cycle, showing that purchases are made during cycles of affordability and can be deferred.<br />
  35. 35. Copper Prices Have Surpassed Even The 2008 Asset Bubble Peaks<br />
  36. 36. How Long Can Liquidity prop Prices ? With US Housing showing no signs of revival, the Banks and investors are playing with limited firepower .The 2008 peak copper price has been breached but it is unlikely that it can be sustained for the next 3 months.<br />
  37. 37. Other presentations by us<br />Business Risk management Series<br />http://www.slideshare.net/SandipSen/living-dangerously-managing-risks-in-business-ba01ppt<br />Business Risk Case Studies Ba31http://www.slideshare.net/SandipSen/business-risk-case-study-ba31<br />Business Risk Case Studies Ba32<br />http://www.slideshare.net/SandipSen/business-risk-case-study-ba-32-1751378<br />
  38. 38. Business Risk Case Study – Ba 33<br />http://www.slideshare.net/SandipSen/business-risk-case-study-ba33<br />Risk Managing Oil Explorations<br />http://www.slideshare.net/SandipSen/cfakepathrisk-managing-oil-explorations-erm-03<br />.<br />Asia’s Rainy Day Economics .<br />http://www.slideshare.net/SandipSen/asias-rainy-day-economics-currency-wars-and-market-volatility<br />
  39. 39. What is Carbon – ERM-01 <br />http://bit.ly/bjDTl2<br />Countering Peak Oil – ERM-02 <br />http://www.slideshare.net/SandipSen/countering-peak-oil-erm-02<br />
  40. 40. Climate Change Positive Solutions Series CE-01<br />http://www.slideshare.net/SandipSen/cop15bullshitting-15-years-on-climate-change<br />http://tinyurl.com/luzxss<br />Climate Change Positive Solutions Series CE-02<br />http://bit.ly/4kzzIz<br />Climate Change Positive Solutions Series CE-82<br />http://bit.ly/XUrUd<br />
  41. 41. References:<br /> WSJ, Business Week, Bloomberg, Financial Times, ICSG, Metal Prices. Com , Kitco, Citigroup, Guardian, Telegraph, mongabay .com, Reuters and London Metal Exchange and Ecothrust.<br />Our Blog : Economy to Ecology: Our goal is to help promote clean, safe and better practices in economy and ecology worldwide. Balanced, efficient and a little more sustainable.<br /> Kindle Blog Ecothrust ASIN: B0029ZAUAY<br /> For non kindle users : www.ecothrust.blogspot.com<br />Follow us at twitter : www.twitter.com/ecothrust<br />Acknowledgements:<br />To Google, flickr photolibrary and other image sources.<br /> For any queries or request for download, mail to Sandip Sen<br />sen.sandip@gmail.com<br />