Fresh concerns over the copper market’s supply/demand balance, this time due to changing Chinese credit restrictions, has put the earnings outlook of diversified miners including Rio Tinto (LSE: RIO) (NYSE: RIO.US) and BHP Billiton (LSE: BLT) (NYSE: BBL.US) under heavy scrutiny once again.
Copper three-month futures have clattered almost 10% lower in less than a week, falling below $6,380 per tonne in the process to the cheapest level since the summer of 2010.
Chinese credit changes threaten to flood market
Copper’s recent nosedive was prompted by Beijing’s allowance of Chaori Solar to default on a bond payment, the first occasion that the government has refused to bail out a domestic company. Concerns now abound that China is tightening credit rules for manufacturers, as well as the use of materials such as copper for collateral by financiers. Â
John Hardy, metals analyst at Saxo Bank, notes that copper’s critical role as collateral for a multitude of lending and credit activities in China could lead to vast quantities of copper now swamping the market, as financial reforms in the country remove the need for large quantities of stored metal.
“I suspect copper can fall much lower still as it remains so far above its historic trading ranges,“the analyst notes. “The hundreds of thousands — even millions — of tonnes of copper that have been warehoused in China and elsewhere represent a significant chunk of standard, industrial demand for several months or longer.”
So how do copper’s troubles affect the big two miners?
Both Rio Tinto and BHP Billiton have stepped up project expansions and brought new facilities onstream to benefit from a perceived rise in copper demand in the years ahead. Rio Tinto saw production jump 15% last year to 631,500 tonnes last year, while BHP Billiton witnessed a 6% advance to 843,200 tonnes during July-December.
However, a backdrop of worsening fundamentals for the copper market is weighing heavily on these companies and putting these best-laid — and not to mention capex heavy — plans to the sword.
Rio Tinto saw copper revenues, an area responsible for more than a tenth of group turnover, collapse 11% last year to $5.9m due to collapsing red metal prices. Meanwhile BHP Billiton witnessed copper sales slip 3.5% to $7.1m during the final six months of 2013 — the company derives more than 20% of total revenues from the copper market.
As one would expect, shares in Rio Tinto and BHP Billiton have rattled lower in recent weeks as the state of the global economy has come under the spotlight, having shed 11% and 9% respectively during the period.
And with collapsing copper prices leading to fears that other commodity classes could be in danger of price contagion, I expect that the revenues outlook across the mining sector could come under intensifying pressure in the coming days and weeks.