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In This Week’s Investment Insights:
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The copper market is buzzing.
China, the world’s largest consumer of the metal, made yet another bold attempt to steer their economic ship back in the right direction.
At the same time, fanning the flames further is yet another bad quarter of production from Chilean state producer CODELCO and a potential labour strike at Escondida, the world’s largest copper mine.
These massive shifts, happening in real-time, are going to impact both the supply and demand sides of the global copper equation.
China: Economic Outlook
The Chinese Third Plenum is a twice-a-decade conclave of Communist Party officials held just last week. And the outcome indicates that there’s serious work to do if China wants to regain its economic footing.
The challenge is that the Plenum is a long-term economic planning event, rather than one catering to short-run issues like what China’s facing today. However, you could argue that these current issues could become long-term structural problems if not rectified.
Key outcomes from the Plenum include:
- China’s ruling Communist Party pledged to accelerate a new housing model that emphasizes renting and ramps up affordable homes, following a record property slump.
- President Xi Jinping unveiled sweeping plans to bolster the finances of China’s indebted local governments. The primary mechanism will increase municipal government’s share of consumption taxes while reducing the central government’s take. This represents a major benefit to municipal governments, who ran a 14.93 trillion-yuan deficit in 2023.
This is particularly noteworthy because in total, Chinese municipal government deficit is 66 trillion yuan ($9.1 trillion). The chart below shows cumulative deficit at the municipal level since 2008.
This type of continuous deficit is not healthy at the municipal level.
In addition, The People’s Bank of China cut a key short-term policy rate for the first time in almost a year. This steps up support for the economy after growth disappointed and steering a shift toward a new policy benchmark.
China Economic Health Checkup
There are a couple of ways to gauge China’s economic health.
The most reliable way is to look at the consumption of input materials like copper and iron ore.
Boom times are associated with higher periods of strong demand for these industrial metals, which makes sense as there’s a lot of building going on.
- One of the major clues that China isn’t operating at full health is a look at copper exports.
Typically, China imports substantial quantities of refined and unwrought (not in finished form) copper, while exporting very little.
On average, over the past decade, China has only exported 25,000 tonnes of refined copper per month.
However, recently exports of refined copper have soared…
May 2024 exports were 74,000 tonnes, 196% higher than the average, while June was over 150,000 tonnes, 500% higher than the 10-year export average.
The chart below shows Chinese refined copper exports at all-time highs:
This massive spike in exports shows that smelters aren’t slowing down domestic production of refined copper, and instead are choosing to sell the surplus on the open market.
Now the trillion-dollar question is whether this is a single monthly blip, or if a new monthly export trend of 100,000+ tonnes is emerging.
The Chinese state policies aimed at spurring economic investment in infrastructure and real estate should boost demand, but it may take some time for the trickle down to take effect.
The Copper Price is Making Noise
Over the past few weeks, copper prices have tumbled…
Down 14% on skepticism of Chinese economic conditions.
However, over the past 5 years prices have still performed very strongly, up 58%. This incentivizes producers to transact and develop new assets.
Prices aren’t the only thing that’s falling…
State-owned Chilean copper miner CODELCO continues to overpromise and underdeliver. The company just announced this past week that production figures would be dropping again.
First half of 2024 copper production was 579,785 tonnes which is 8.4% lower than the same period last year. The full-year projection now calls for roughly 1.3 million tonnes of copper production, which would be 8.7% lower than 2023.
Current production levels represent a nearly 500,000 tonne (1.1 billion pounds of copper) decline relative to company production a decade ago. At the same time, production costs have also skyrocketed, with cash costs up over 50% in just the past two years alone.
- This poses a serious issue for the market and a potential opportunity for higher prices if CODELCO production continues to lag expectations.
The Copper Market is Beginning to Rumble
BHP Group after being thwarted by Anglo American in a recent takeover attempt is going after Filo Corp.
BHP and Lundin Mining will each acquire a 50% stake in Filo Corp, valuing the company at over CAD$4.5 billion, working out to CAD$33/share for Filo.
Filo Corp was a company that was a buy-out candidate and recommendation in my premium service – Katusa Resource Opportunities. It’s a terrific win for all that jumped on board.
I, Marin Katusa directly own a substantial position in Filo (in the $millions) and believe the deal will close as scheduled.
I am not selling Filo shares into the market at the current price which is below the buy out price.
- For open disclosure, I have also added to my position after the news of the buy out as I believe the arbitrage opportunity ($33 take out vs. where the shares are trading) for such a short close and strong counterparties in BHP and Lundin Mining is too tempting for this alligator.
I know the Lundin family, and I know Lukas and his father Adolf are looking down at Jack and Adam with a proud smile—well done boys!
Why did BHP go after Anglo and then Filo Corp?
Other than the fact that Filo has the best copper deposit discovered in the last 20 years, BHP has a very dirty secret many people don’t know about, which the deal with Lundin Mining for Filo solves, and I have written extensively about this in the KRO (here’s a link to learn more and subscribe).
BHP’s dirty secret is that it too, like CODELCO, is facing declining ore grades.
- It’s forecast that BHP may lose up to 300,000 tonnes (661 million pounds) of copper production by 2027.
To put it into perspective, this type of production loss is equal to the output of a top 15 global copper mine.
Escondida is the world’s largest copper mine. It’s been in production for decades; it’s 2.4 miles long by 1.6 miles wide and 2,100 feet deep (645 meters). It’s a joint venture between BHP (57.5%), Rio Tinto (30%), Mitsubishi (9.5%), and JX Advanced Metals (3%).
Escondida was discovered by the late David J. Lowell.
My Trip with the Legendary David J Lowell
Here is a picture of me with David Lowell on a small plane during a site visit we coinvested on together in 2016.
One of the greatest honors of my career was after spending a week with David in the field, on the flight back, by complete serendipity in 2016, we were seated beside one another on a commercial flight back to Vancouver.
Midway through the flight, I was incredibly honored when David told me I reminded him of his partner (who passed away from a heart attack—if you get the irony here you’ve been with me for a while), and said I was a ‘ball of fire’, have incredible energy and integrity. Then he said to me “Let’s do a deal together.”
Long story short and four mergers later, the end result was Equinox Gold. RIP JDL.
It’s been in operation since 1990, but over the past decade, it’s seen its copper reserve grades decline by nearly a third.
- 1 tonne of copper-bearing ore today has a lot less copper in it than was mined a decade ago.
- Furthermore, as the mining goes deeper, impurity levels of deleterious elements go up. Higher impurity levels lead to higher treatment and refining costs.
As you can see in the chart below, Chilean copper assets in general have seen grades decline over time.
In order to fight its ore grade declines, BHP needed to go after elephant-sized, high-grade copper assets.
Anglo’s Collahuasi asset is a world-class mine that made a lot of sense to go after, but when BHP’s takeover attempt got rebuffed, Filo Corp’s high-grade copper porphyry in Argentina became BHP’s ideal target. I believe Filo will ultimately produce more copper than Escondida, and I have a feeling BHP also believes this.
Congratulations to the Lundins and all their long-term supporters, all my subscribers and investors that have been investors in Filo Corp. Knowing Lukas and the boys, I have no doubt Lukas is looking down at his boys with a giant smile. Well done Adam and Jack!
For all my research and other investment ideas, sign up here.
Regards,
Marin
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