Copper is an asset that should benefit from a strong, cyclical reflationary rebound in the near-term and the secular revolution in green energy over a longer time horizon.
Jonathan Linden, U.S. Equity Strategist, J.P. Morgan Private Bank
Samuel Zief, Global Head of FX Strategy, J.P. Morgan Private Bank
- Since bottoming last year alongside equities, copper prices have more than doubled as global economic activity has rebounded – outpacing the return of the S&P 500 and even the NASDAQ 100.
- There is a debate in the market regarding copper’s fortunes from here. On the one hand, there is a view in the market that as we are past “peak liquidity” in China, copper prices are set to trend lower. We are not convinced.
- Inline with another, less-prevalent market narrative, we see an acceleration in demand for the metal from new, alternative sources given copper’s key role in the green technology revolution that can keep prices supported for longer.
The notion that commodities are a good hedge against inflation is not lost on us – our Investment Bank reminds us that when core inflation has been above 3%, oil and base metals were top performers.1
We certainly have been in a reflationary environment, but it’s not clear how much of the recent upward pressure on commodities is due to COVID-related supply disruptions, which will wane, versus lasting demand that will continue to drive commodity prices exponentially higher over a multi-year window. We are skeptical that the latter will unfold and thus believe that simply painting commodity exposure with a broad brush misses how (and specifically which) commodities might dominate the economy of the future.
Copper is a metal used in a wide variety of applications, including electrical wiring and equipment, construction and industrial machinery. Often referred to as Dr. Copper for its supposed ability to serve as a barometer of health for the world economy, it is perhaps not surprising that over the past 20 years changes in copper prices have had a roughly 65% correlation with the global manufacturing PMI, a key gauge of global growth. Since bottoming on March 23 last year, copper prices have more than doubled as global activity has rebounded – outpacing the return of the S&P 500 and even the NASDAQ 100.
Looking forward, there is considerable debate in the market regarding copper’s fortunes from here. For folks that focus on the historical drivers of copper prices – chief among them incremental stimulus out of Asia – they see China’s credit impulse already rolling over and expect copper’s fortunes to ultimately follow.
In the other corner, a growing chorus that believes the global transition to a greener economy will provide new, incremental sources of demand for the metal that will support prices over the medium-term, even as Chinese stimulus is dialed back. We find ourselves drawn to the latter camp.
In our view, copper is an asset that should benefit from a strong, cyclical reflationary rebound in the near-term and the secular revolution in green energy over a longer time horizon.
We believe this will support not only copper prices, but assets under the care of Dr. Copper as well. We look at copper prices from here from three dimensions of the supply-demand curve:
1) Demand from China is important…
While copper is used across the globe, China is the world’s largest consumer of the metal, accounting for half of all global consumption. That means any attempt to gauge the attractiveness of copper exposure has to start there.
Historically, the flow of credit through China's economy has helped explain the price of copper with a one year lag, as it takes time for Chinese stimulus to work its way through the system. Therefore, past stimulus efforts can help us understand what copper might do in the future.
A simple model based in large part on China's credit impulse suggests that while there is still some room for copper prices to rally given the stimulus introduced through the end of 2020, this supportive impulse should fade.
2) … but “green demand” is the future
However, there is another view in the market that we find ourselves drawn to that foresees a more supportive environment for copper going forward. This view holds that even as the demand outlook from China looks less supportive (albeit hardly outright bearish), the burgeoning global focus on renewable energy and a revitalization of aging infrastructure will lead to an acceleration in demand for the metal from new, alternative sources.
We find this view compelling, leaving us favoring long exposure to copper as the economy continues to recover and the green economic trends of the future take hold.
We see two major sources of renewable demand.
- Electric vehicles and charging infrastructure. Copper has long been an essential ingredient in traditional automobile manufacturing. Currently, a gas-powered internal combustion engine (ICE) uses around 50 pounds of copper. But for the electric vehicles of the future, copper is even more essential. Hybrid and battery-powered electric vehicles use two to four times as much copper as ICE cars, on average. With electric vehicles potentially comprising 16% of global light vehicle sales by 2025 and nearly 30% by 2030, the EV sector will likely be the largest source of incremental green copper demand.2
- Renewable energy sources. From wind to hydro to solar, copper is at the heart of renewable energy efficiency. Replacing fossil fuels such as coal and oil with decarbonized forms of energy generation is key to reaching net zero emissions of greenhouse gases by the middle of this century. Various forms of sustainable energy generation can require anywhere from 50% more to five times as much copper, compared to traditional fossil fuels.3,4
J.P. Morgan Investment Bank estimates that overall green transition applications of copper will increase demand threefold by the end of the decade, ultimately accounting for roughly 15% of total copper demand by that time.
To put in context how potentially impactful these new sources of demand could be to the overall outlook, Goldman Sachs estimates that by mid-decade, growth in green demand alone will match, and then surpass, the incremental demand China generated during the 2000s, a time that saw copper prices quadruple over the course of a decade.
3) The supply outlook doesn’t look likely to derail the story
While there may not be a copper shortage anytime soon, there also doesn’t look to be a coming ramp up in mine supply and refining output that will send the market into a surplus.
Increased demand from decarbonization over coming years looks set to coincide with only tepid increases in mine supply, and only in the near-term, based on most estimates.
According to recent reports from Glencore using estimates from WoodMackenzie, the global copper mine project pipeline is near its lowest level in 20 years.5 This is important because supply is not easy to ramp up. It typically takes three to four years to add capacity at existing mines and six to ten years to build a completely new one.
Meanwhile, it’s not like there is ample supply at the moment either; global copper stocks remain well below the average level since 2010.
Thus, companies must now mine twice as much ore to extract the same amount of copper. Given our global macro outlook, unappreciated incremental demand from decarbonization efforts globally, and tight supply outlook, we believe copper likely remains higher for longer and provides support to an array of investment opportunities.
Investors could get exposure to copper via options or structured products on the underlying commodity, as well as equity and fixed income solutions that are correlated to copper prices. Contact your J.P. Morgan team for implementation options that best suit your financial goals.
1 The J.P. Morgan View: The role of alternative assets if the U.S. economy overheats. April 9, 2021.
2 J.P. Morgan Research, Metals Weekly: Copper Outlook – From goods to services, from China to the US, April 8, 2021.
3 J.P. Morgan Research, Metals Weekly: Copper Outlook – From goods to services, from China to the US, April 8, 2021.
4 Goldman Sachs, Copper is the New Oil, April 13, 2021.
5 Glencore FY 2020 Results Presentation. Copper mine project pipeline comprises the maximum annual production volume of projects categorized as highly probable and probable by WoodMackenzie’s copper long-term outlooks from 2001 to 2019, indexed change from 2001.
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