China is booming, as the copper bulls never tire of mentioning. But the American and European housing markets, which also use a lot of the red metal in construction, are falling off a cliff. And I suspect that demand in China will soften further once the Beijing Olympics end and the government tries to cool its overheating economy.
So what’s surprising to a fundamentalist like myself is that the copper price is still not far off its all-time highs, firmly wedged above the $8,000 per ton mark, compared with less than $3,000 only four years ago. Normal supply-demand influences seem about as relevant to the metal’s price as the Wimbledon tennis championships are to my daughters’ guinea-pigs. To me, the price is being kept afloat by the torrents of speculative money flooding into the sector from cash-rich commodity funds, rather than by demand from builders or Chinese industrialists.
Kazakhmys (LSE:KAZ), tipped as a BUY by Evolution Securities
That means copper looks vulnerable to a sudden and painful correction. Of course, before this sell-off occurs, stocks such as Kazakhmys will continue to reap the rewards. So far its shares have jumped from 540p in October 2005 to more than £16. It is the largest copper producer in Kazakhstan and the eighth-biggest worldwide, with 20 open-pit and underground mines across the country, selling around 40% of its output to China. As a by-product, the firm also produces significant quantities of other metals, including zinc, silver and gold, and has recently spent $1.5bn buying local power stations to secure its electricity supply.
But I think that as the global economy sinks into an abyss, now is the time for investors to go digging in less-cyclical sectors, and here’s why.
Firstly, on top of its exposure to the unsustainable commodity bubble, most of the group’s assets are located in Kazakhstan, a notoriously unstable region. Next, its share price is being propped up by rumours of corporate activity after its compatriot Eurasian Natural Resources walked away from takeover talks in April having bid £15.50 a share. In fact, with the Kazakh government owning significant stakes in both businesses, there is a chance that they will bang heads together to create a national champion – perhaps even under their quasi-control. The risk is that if government officials start to meddle, the enlarged group may become less focused on shareholder value and more interested in achieving political mandates. In a severe downturn, this might even lead to panicked decision-making – to the detriment of minorities.
Lastly, Kazakhmys’ shares just do not look cheap, given that they trade on a “top of the cycle” multiple of 10 times earnings, particularly given that the firm is hugely exposed to one commodity and one country. Production figures for the second quarter are out on 30 July.
Recommendation: TAKE PROFITS at £15.66
• Paul Hill also writes a weekly share-tipping newsletter, Precision Guided Investments