By Jacob Bunge, Financial Correspondent
Wednesday, January 09, 2008 3:40:50 PM ET
CHICAGO (HedgeWorld.com)—In a long-running bull market for metals, some CTAs said 2008 could bring a peak for copper, while gold will continue its climb.
"We see opportunities across the board," said Mike Dever, chief executive of West Chester, Pa.-based Brandywine Asset Management LLC, which manages approximately $100 million and trades both base and precious metals. Although 2007 was a wild year, he said, the bull market for metals ran on, sometimes to his surprise: "It appeared at times that it may be peaking, especially [in] precious metals, but at year-end it rallied back strongly."
This year, Mr. Dever said, he sees metals peaking in the first half, possibly the first quarter, as the themes driving prices higher begin to lose steam. He added that he was a bit surprised that metals demand held up as well as it did despite the onset of the housing meltdown, and there still hasn't been the impact that he expected. But in the coming year, that may change as investor interest in commodities begins to level off.
"I feel like we've had over the last few years this rush of commodity funds, especially with long biases," Mr. Dever said. "I do think they provided some support and some impetus for up-moves in some of these markets … but I see that pressure abating this year."
Copper and China
There is disagreement among metals traders as to whether upward pressure on copper will abate as well in the new year. Mr. Dever said he expects copper to crest in the next few months, and is positioning for a possible trend change in that market.
That change may be driven in part by China, which has been a major consumer of metals in recent years. A report from the International Copper Group found that in 2008, China is set to become a net exporter of the metal, while its demand is forecast to rise 5% to 7%, compared with 12% in 2007. Meanwhile, copper demand was expected to slow in the United States and Europe, as well.
Mr. Dever said he's looking for China's demand for metals in general to shift in the first few months of 2008, and investors eventually will realize that growth will not continue to be as exponential as it has been. "I think this year people will come off that high, this sort of psychological high of unlimited strong growth out of China," Mr. Dever said. "They're not going to sustain the prices where they are." Meanwhile, he said he didn't anticipate demand from other economies would pick up.
Michael J. Clarke, president of Hinsdale, Ill.-based Clarke Capital Management Inc., said that copper has done quite well by his programs, which also trade gold and silver. "Early on we were on the long side, and then on the short side we did even a little bit better," he said. "We were short going into December … we're basically flat now."
As to the possibility of dwindling demand from China, Mr. Clarke was doubtful. "China sends out dubious information … they're notorious for manipulating the media," he said. "When they're that big a player, it's to their advantage to try and spook people, and accumulate more." This sort of thing contributes to the choppiness of the metals market, he added, which makes it more difficult for his programs to make money.
Although Mr. Clarke said his firm's trading programs had a difficult year in 2006, 2007 was much better. The Millennium flagship program was up 14.8%; the Jupiter program, which he identified as a "developing flagship," was up 28.5%, and the Worldwide program was up 43.8%. All of these programs trade metals, and Mr. Clarke said that they benefited from more cautious positioning that kept them from over-participating in trends in the past year.
Gold Continues to Shine
The gold market, according to Mr. Clarke, has been choppier with some severe corrections, which he attributed to mixed macroeconomic signals coming from the United States. "There's been some indecision about fundamentals in the States—indecision about how bad the subprime mess is, how bad housing is, and the pessimists are winning out," he said. "But it's coming from a long period of bullishness in housing and ‘anything goes' in lending. It's got a long way to unwind."
With the U.S. Federal Reserve "between a rock and a hard place," Mr. Clarke said, he is anticipating an explosion in inflation that will be reflected in the rising prices of physical hedges like gold, and he is positioning his programs to take advantage of this.
Another gold trader expecting a runup in the yellow metal is Mark Mahaffey, director and co-founder of the $10 million Hinde Gold Fund, which is based in London and launched in October 2007 Previous HedgeWorld Story. He said that he perceives gold as being "completely wrongly priced," and that there will be a massive re-rating of the metal higher in the coming year.
According to Mr. Mahaffey, people will begin moving back toward a "1980s scenario," where more personal wealth will be allocated into commodities as opposed to property, bonds or equities. "Gold is relatively cheap against all of those asset classes, and ridiculously cheap against a lot of worldwide property," he said.
With negative real rates in the United States even on an official basis, Mr. Mahaffey said, bonds offer no return at all after inflation, and equities are "obviously struggling" in most sectors as the credit crunch plays out. "But relative to all of those, gold remains relatively cheap," he said, and the proliferation of ETFs offer investors an easier way to own gold in their portfolios.
From a macro viewpoint, Mr. Mahaffey said new buyers of potential gold reserves could become the new central banks. "The sovereign wealth funds, China, the Middle East … they are all worried about having huge reserves in dollars, they're worried about [currency] debasement," he said.
On the sell side, Mr. Mahaffey identified declining production as another factor contributing to gold's rise. South Africa, he noted, saw gold production down approximately 7.5% in 2007, approaching its lowest level since the 1920s. A total of about 2,480 tons of gold were extracted from the earth last year, he said, which added to the above-ground supply by only about 1.5%.
Moreover, Mr. Mahaffey said, the cost of mining is going up—energy, labor, permits, even rubber tires are becoming more expensive. In some countries the cost of opening and operating a mine has risen around 25% over the last few years, and it can be a struggle to produce gold at less than $500 per ounce. "In 1980, gold spiked to around 10 times the production cost," he said, and noted that at 10 times current production costs, gold would approach $5,000 per ounce; the lowest fair value estimate for gold is the inflation-adjusted price, which is closer to $2,000 per ounce.
While Mr. Mahaffey said that he didn't expect the uptrend in gold to be without regular pullbacks typical in commodity bull markets, especially considering the market's small size compared to bonds and equities, he said the biggest risk to the price of gold was the prospect of a new U.S. Federal Reserve chairman in the mold of Paul Volcker turning up and confronting the issue of inflation, as Mr. Volcker did in 1980.
"It would seem quite clear that we would get $1,000 per ounce sometime in 2008," said Mr. Mahaffey. "People find it hard to understand why it's gone up so much in the last five years… in reality, it's that production costs have gone up the same amount," and the macro backdrop of currency debasement and inflation have made gold as cheap now as it was in 2000–2001, despite a 350% increase in price.
Mr. Clarke said it was "almost a lead-pipe cinch" that gold would hit $1,000 per ounce this year, and predicted a continued up-move for the yellow metal. "There will be wiggles here and there, but it's a great long-term play."
JBunge@HedgeWorld.com
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