Chinese Inflation Drives Copper to New Highs

Fundamentals

Copper futures have made a new push higher, driven by higher Chinese inflation. The industrial giant reported consumer prices rising by 4.4 percent, which is the highest level for the indicator in over 2 years. Out of control inflation driven by poor economic policy is considered a negative, but in China's case, inflation can be seen as a sign that the economy is strengthening. Industrial production rose 13.1%, and consumer spending rose 18.6% year over year. The boost in industrial production signals that there will likely continue to be healthy growth in Copper demand. The rise in consumer spending is a sign that the population continues to benefit from the transition from rural to urban life and could drive real estate demand, despite the government's efforts to curb speculation in housing. Supplies of the metal may continue to tighten due to the fact that China is producing 1.2% less Copper domestically over the past year. This means that there will be pressure on international supplies. Other emerging market countries are also experiencing economic growth as well, further pressuring supplies. What could derail the Copper market, however, would be government intervention. If policymakers become concerned that inflation is beginning to spiral out of control, the central bank could raise rates to curb inflation. Also, the international community will likely pressure the Chinese government to strengthen the Yuan.

Trading Ideas

The Copper market's fundamentals remain the strongest of the base metals due to tight supplies and China's insatiable appetite. Commodities as a whole continue to benefit from a weaker US Dollar, which may see its exchange rate weaker due to poor economic policy. The chart shows a new breakout above the $4 mark, but many traders would probably like to see prices hold these levels for several sessions to offer confirmation. Due to its volatile nature, only traders with a relatively high risk tolerance may likely wish to test the waters in the Copper market. These traders may want to explore the possibility of buying the December Copper futures contract at 4.05, with a protective stop at 3.90 and an upside objective of 4.25. The trade risks roughly $3,750 for a potential profit of $5,000.

Technicals

Turning to the chart, we see the December contract breaking out to new highs. Prices have now eclipsed the 4.00 level, which had previously been a major stumbling block for the metal. The last two times the level was tested in 2006 and 2008 the market failed to hold, and eventually sold off sharply. If the market is able to build a base above 4.00, Copper prices will now begin trading in uncharted territory. Failure to hold 4.00 could result in prices drifting down to the 3.75 level.

Rob Kurzatkowski, Senior Commodity Analyst