Higher Commodity Prices Bring Lower Commodity Prices

Higher Commodity Prices Bring Lower Commodity Prices

Commodities supply and demand dynamics

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Copper had been on a spectacular run. The base metal they call "Dr. Copper" due to it's supposed ability to predict economic cycles, had rallied 14% in December of 2017 reaching a high of 3.322 on December 28th. Copper had a higher close 5 times in the last 7 months of 2017. Jiangxi Copper Co., China's largest copper smelting operation, had just halted all output in the province after the local government ordered the stoppage to reduce winter pollution, and tax cuts in the US had passed raising speculation that an infrastructure bill would be next and base metals would be in demand. Reduced supply and potential increased demand = higher prices. Then something happened in January. Prices started falling. Copper had only 4 positive days in the first 15 trading days of 2018 and was down 6% from the December high. Supply had been shrinking, so had demand started to fall off along with it? Yesterday we found out what really happened and it made complete sense. 

China released data on copper smelting and in December, the production facilities that remained open had increased their run-rates trying to take advantage of the higher prices. December copper production out of China was a robust 865,000 tons bringing their total for 2017 to 8.9 million tons, a new record. So higher prices did what they always do with commodities; incentivized producers to produce at a higher rate. We are seeing it with crude oil as well, as WTI flirts with $65 a barrel, up almost 40% from June 2017. U.S. shale production keeps climbing to new records, pushing overall oil production in the United States to its highest level ever. the EIA sees production averaging 10.3 million barrels per day in 2018 after averaging 9.5 million in 2017. 

The other variable, demand, can turn as well but doesn't seem to move as quickly, so if demand is rising it tends to continue rising. Conversely, if it's falling, it tends to continue falling. What makes it fall? When prices get too high for buyers or supply is so plentiful that it outstrips demand. Again, we saw that with crude oil from the middle of 2014 to the end of 2015 when the price fell from over $110 per barrel to just above $26. The beauty of commodities is they move on simple supply and demand. No earnings reports, CEO scandals or central banks to worry about. Unless its gold, but that's a conspiracy theory for another day.    

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