Copper queues get bigger

While the top-down macro picture for copper is shaky and the metal has been pummelled, the physical picture is still one where availability of metal remains tight thanks to traders building huge queues for metal.

As of the 19th of June, LME stocks were a little higher than at the end of May, but the composition continues to tilt towards three warehouses.  In particular, Glencore's warehouse in Johor, Malaysia has continued to soak up more metal.

The big change, however, has been in cancelled warrants, which are owners trying to take metal out of the warehouse.  This has surged to over 45% of all metal on warrant in LME warehouses, with cancelled warrants in Johor particularly large.

Traders are able to hoard metal for 4 reasons.  First, financing and warehouse costs are low.  Second, the copper curve is in contango, so they can hedge a forward sale and make a risk free return given the low cost of carry.  Third, premiums for physical delivery are high and contribute to trader profit.  Finally, low load-out rates at warehouses means it takes a long time to get metal out.

It also helps that stocks in China are falling and the arbitrage into SHFE prices is open.  But this is necessary for financing to work.

While this is not a new phenomenon in base metals, it is new to copper.  What is interesting is that unlike aluminium or zinc, the copper forward curve is in contango even though prices are relatively high.  Usually contango markets occur when markets are weak, but longer dated copper prices have drifted higher and higher over the last few years.

The ability to finance copper and keep it in an LME warehouse helps limits the downside risk to spot prices, as the steeper the contango, the more profitable it is to finance inventory.  But once the cost of finance rises, or if the ease of getting the metal out of the warehouse changes, the current warehouse games will end and inventory will depress prices.