DETROIT () -- There are two categories of factors that determine the price of a metal. The first of these is the fundamental(s) category of supply and demand; the second is the category of speculative factors that is called, ironically, the "technical" portion of the price.
Resource Investor readers are not beginners, and they understand supply and demand fundamentals, but technical factors can be, and usually are, mysterious to most of us who are not specifically educated or trained in the mathematics applied to the study of market economics.
We therefore leave it to the investment advisors we trust to "quantify" the technical factors and tell us whether they indicate that prices will rise or fall. Unsurprisingly the quants, who used to be called technicians, usually give the detailed reasons for their investment choices only to their own managers or brokers, so that we just get investment advice as a buy, sell, or hold recommendation.
With a little simple mathematical work and a lot of reading - I suggest for example, reading Resource Investor daily - the average investor can ferret out for himself some points that are clearly missed by the technician/quants who are so buried in numbers that the numbers take on a life of their own for them, and they forget that data is just a record of the past and that predicting the future from pure data is not possible. You must first determine an equation that generates future results in the form of the curve you are looking at exactly and repeatably.
This requires that market economics follow simple rules. They don't, and you cannot accurately predict the future price of even the simplest commodity, but this has never inhibited the wizards who tell us they can see the future. Future metal prices follow trends that are predictable if you know all of the factors that determine them.
Why then has the sales CEO, Steve Higgins, of America's largest mining concern, Phelps Dodge [NYSE:PD], failed to discern, or, at least, identify a key factor in the supply of one of his company's hottest products, molybdenum? I don't know how or why he missed it, but it has been mentioned on Resource Investor, by me, so he is perhaps not yet a reader.
Higgins was quoted in an article on October 25th stating that although molybdenum's supply has slipped by 2% this year and demand is up by 6% he predicts that the price of molybdenum will remain stable throughout the balance of this year. He further predicted that the molybdenum supply could even go into a slight surplus in 2007 if the Chinese choose to reopen a mine.
This mysterious statement is not in of itself enough, and certainly was not intended, to drive the "technical" speculative factor based on the emotional fear of deficits in supply continuing even though it comes from an authority figure in the industry whose company's share prices may well decline on such news. I believe that the analysts within his company may not understand all of the fundamental factors affecting molybdenum supply.
In the last year there has come into existence a new one they may not be taking into account. The scrap mine. Have a look at the following chart:
I want you to concentrate first on the second curve (that's what mathematicians call the line formed by connecting points on a graph). These curves have been generated by putting a symbol at the point where a line drawn at a right angle from the horizontal at a point representing the first day of a calendar quarter, intersects with a line representing the price of the ferroalloy being studied on that day as reported in the American Metal Market.
Next week, I promise that I will discuss all of the curves on this graph and their interrelationships or lack of them as signifying events and trends in the markets for all of the ferroalloys and their constituent strategic metals whose prices are being compared.
For now just look at the ferromolybdenum curve, which I hope you are seeing as blue colored dots connected by straight lines.
The curve peaks, it reaches its highest price, just about the beginning of the summer, the end of June, 2005. Then it drops back down to where it was about 3 months earlier and stays there for a quarter. In the next three months, the last quarter of 2005, the price declines rapidly from around $35/lb to around $25/lb and there it has stayed during practically all of 2006-and, according Phelps Dodge, where it will stay during the remainder of 2006.
In the last year then molybdenum, measured here as ferromolybdenum, has dropped by nearly 1/3 in price. This drop, $10/lb, is, by itself, twice the price of ferromolybdenum just three years ago when it was selling for less than $5/lb. So, in three years ferromolybdenum has gone up by as much as 700% and has now "dropped" back to where it is selling for only 500% more than its summer, 2003, price.
With such massive volatility and the growth in usage by the formerly sleeping, and now fully awake Asian giants, why is the mining sales CEO predicting further price stability even though he admits supply is down and demand is up?
Simply put, supply is not down. It is up. Only this supply doesn't come from new mines, which take the 3 years since the price explosion that began in 2003 just to get permitted even in mining friendly American or Canadian states, provinces, or territories. It also doesn't come from reopened mines that take just as long to get permitted and, even if permitting is easier as in China, just as with the new mines, may take another 3 years to get into production.
Clearly from the graph we can see that either demand dried up or supply increased beginning in June 2005. Phelps Dodge tells us that in the period since summer, 2005, supply from mining has actually decreased a bit while demand has gone up substantially.
What actually seems to have happened in the market seen as a whole is that some steel mills and foundries discovered that by a small process change they could take advantage of the strategic metal values in the scrap from tool steel alloys. Constrained only by maximum allowable percentages of unnecessary, or inimical to the process, component metals the pioneering mills and foundries were able to get essentially all the molybdenum they needed for new production from scrap feed. They began to reduce their buy of ferromolybdenum immediately and in some cases dramatically.
Competitive advantage kept this new approach quiet and most of the market reporters missed it completely noting it, if at all, as a molybdenum or ferromolybdenum demand decrease.
Recovering strategic metal values for reuse from the great American scrap mine is now breaking out all over. Scrap merchants, steel mills, and foundries are combining to extract new value out of the scrap mine as is evidenced by the strange performance of ferromolybdenum prices in the face of declining new mine supply and increased demand.
The portable x-ray fluorescence analyzer that will enable a scrap dealer to determine on the spot the percentages of metals such as molybdenum in scrap dies sells for $30,000.00. A lucky or determined scrap dealer who knows where the piles of rusting dies are stored (up until now usually abandoned because the cost of transportation to a die breaker is more than the value of the broken die scrap) from forging or piercing processes can recover the cost of the analyzer in one transaction. One manufacturer is now asking a rental fee of $6,000.00 per month for the device with a $5,000 deposit. No shortage of demand there! Something is going on in scrap mining for strategic metals.
Ferromolybdenum pricing and some other ferroalloy pricing since mid 2005 has been falling. and is now stable. Some others are remaining stable. There are many clues about future prices and market trends in the simple graph above.
Ferrocobalt has come down in price, and tungsten as ammonium pertungsate has gone up in price, and both stabilized in price, and have remained at around $15/lb, at about the same time as ferromolybdenum began its great fall. These price changes are not unrelated to ferromolybdenum's volatility, but there is a unique factor dominating the price of each of these other strategic metals. For Next time look forward to an explanation of the curves on the graph that may have been overlooked by the rest of the resource investment press.