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05 March 2014

Russia, Ukraine and Unforeseen Events



I recently had quite a long discussion with an analyst friend about the potential effect of ‘unknowns’ on the direction of prices. We agreed that, while we both had a slightly flat view of metal prices – not looking for major falls or rises, but expecting a slow sideways drift around current levels in most metals, we also accept that in general terms, unforeseen events are more likely to be bullish than bearish. Why should that be?

Rational Markets

Well, rational market theorists will assure us that the price at any given moment represents a distillation of all known information; I don’t necessarily go along with all of the rational markets theory, but that bit is pretty uncontroversial and difficult not to accept. Unforeseen events will – obviously – take the market by surprise, and there is a greater chance that they will impact supply rather than demand. That’s not an absolute, of course; if somebody were to announce tomorrow that they had a method of transmitting electricity, for example, which was economic and dispensed totally with the need for copper, then the price would probably drop. But that’s unlikely, and research normally becomes known incrementally, dampening its effect on prices. On the supply side, though, it’s different. An earthquake, a landslip, a sinking ship – these are the kind of events that have an immediate impact.

Events from the financial world are perhaps more difficult; if the US tapers its bond purchase programme, copper tends to go down. In a way, that is illogical, because tapering will (probably, at least on the surface) be a sign of a strengthening economy. Strengthening economies are mostly good for the price of industrial commodities; in this case, though, the decline in the supply of free money is perceived to outweigh the increase in industrial demand.

War...

But the one I really wanted to look at today is war, or the sabre-rattling to suggest the threat of it. The world is faced with the arrival of Russian troops in parts of Ukraine, and the Ukrainian government (current version) describing that as an act of war. So, do industrial metals go up or down? It’s an interesting one. I can recall during the 1980s, when the seemingly interminable Iran/Iraq war was grinding on its brutal way, a colleague who ran the hedge book for a major copper producer claimed he had found a correlation between the number of casualties and the copper price. It was a callous approach, but the worse the casualty figures, he maintained, the stronger the price. I suppose it was a reflection that the worse the war went, the more materiel the protagonists would need – including copper. That approach was unsavoury at the time, as it is now. It is a sad logic of the world.

Now, though, what we have on the eastern edges of Europe is not a war. It’s a game of posturing and bullying and the influences that will determine its further course are economic – sanctions, sequestrations, frozen accounts and things like that. So if the economic squeeze is put on, what will be the effect? Well, first off, the rouble and the Russian stock market have been heavily dumped; not too surprising – any international money that’s there would be withdrawn pretty quickly, and Russian investors are smart enough to understand that and get out as well. Gold, on the back of a recent recovery from its lows, has also been bought – classic safe haven action. Russia is a major oil (and indeed gas) exporter, so predictably oil has rallied. Possible threats to gas supply – Russian, piped through Ukraine – have hit the Dax hardest amongst western stock markets.

So, what has copper done? Rallied with gold, as a protective asset? Or dropped with equities because it’s a risky one? Behaved like an industrial commodity or like a financial product? So far, it’s dropped, which, going back to my opening, shows that sometimes – contrary to expectation – unknowns may be bearish.

Unpredictable?

The bulk of this was written on Monday; on Tuesday, with the Russians seemingly reducing the pressure a little, those market movements have reversed, a little. By Wednesday, when this is published, who knows? However much good, accurate, solid information we do have about markets, it’s the ‘unknowns’ out there that cause the real shocks. A couple of days ago, it was a realistic prospect that the FTSE was on course to challenge that all-time high from the end of the last century; now, with international relations showing just how fragile they can be, I’m not sure that would be such a good bet to take in the near term.

It’s against that background of uncertainty that mining companies have to make their long-term investment decisions. We have a piece discussing the impact of volatile commodity prices on some of those decisions in preparation.

Who'd be a broker?

 Finally, I just like the following which was sent to me by a very senior and well-respected member of the LME community, with the comment that the speaker could be a broker, advancing diametrically opposed points of view in succeeding paragraphs – in other words, ‘could go up, could go down…………….’

 Whiskey: A Texan's Candid Viewpoint And Mine As Well

In 1952, Armon M. Sweat, Jr., a member of the Texas House of Representatives, was asked about his position on whiskey. What follows is his exact answer (taken
from the Political Archives of Texas):

"If you mean whiskey, the devil's brew, the poison scourge, the bloody monster that defiles innocence, dethrones reason, destroys the home, creates misery and poverty, yea, literally takes the bread from the mouths of little children; if you mean that evil drink that topples Christian men and women from the pinnacles of righteous and gracious living into the bottomless pit of degradation, shame, despair, helplessness, and hopelessness, then, my friend, I am opposed  to it with every fibre of my being.

"However, if by whiskey you mean the lubricant of conversation, the philosophic juice, the elixir of life, the liquid that is consumed when good fellows get together,that puts a song in their hearts and the warm glow of contentment in their eyes; if you mean Christmas cheer, the stimulating sip that puts a little spring in the step of an elderly gentleman on a frosty morning; if you mean that drink that enables man to magnify his joy, and to forget life's great tragedies and heartbreaks andsorrow; if you mean that drink the sale of which pours into Texas treasuries untold millions of dollars each year, which provides tender care for our little crippled children, our blind, our deaf, our dumb, our pitifully aged and infirm, to build the finest highways, hospitals, universities, and community colleges in this nation, then my friend, I am absolutely, unequivocally in favour of it.


This is my position, and as always, I refuse to compromise on matters of
principle."

 

 

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