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The Commodity Investor Q&A
Featuring Matt Badiali
Q: Why aren't copper prices in the tank? I read a lot of analysts forecasting lower copper prices due to the weak U.S. economy. – A.H.
A: The reason why copper prices aren't falling? China.
Sure, a weaker U.S. economy saps copper demand... but China is starting to consume more and more of the world's copper supply for use inside China. The country currently exports about 36% of the copper it imports (as finished metal or goods). Those export figures are down considerably from 2006, when it exported between 60% and 80% of its copper imports.
China's total copper exports fell as much as 25% in response to the U.S. housing crash, but have bounced back since. Now exports are down only 11% from their April 2006 peak. At the same time, U.S. copper imports are down 41%. That tells us the U.S. isn't the sole consumer of China's copper products... And with China itself still growing at a 10% clip, copper demand is still high enough to support strong prices.
However, weak price forecasts and the general downturn in stocks drove down share prices in companies that produce base metals, with some fantastic companies falling as much as 40% in just a few months.
I believe base metal prices will remain relatively high, so I think the selloff offers opportunity to contrarian investors. My favorite giant copper producer is Southern Copper (PCU). Its share price is down about 30% from its October 2007 peak... and it pays a 6% dividend.
Q: I've heard that the technology for the conversion of coal to oil is already in use profitably in other countries... and that the U.S. has a near-limitless supply of coal. Why do we not focus on this source of energy? – D.E.
A: The Germans pioneered the Fischer-Tropsch process (to convert coal to diesel fuel) during World War II. The country had abundant coal reserves, but little oil. Sasol – a $30 billion South African company – has used the process to produce fuel for years.
The process is not difficult. However, oil was so cheap for so long that there was no need to convert coal to liquids. Now that oil prices are in the stratosphere, Fischer-Tropsch might get some extra attention.
Modern chemical engineers have succeeded in adapting it to produce clean fuels – not just diesel. The Air Force test flew B-52 Bombers and a C-17 Globemaster on a blended synthetic fuel of liquid coal and natural gas last year. And scientists at my alma mater, Penn State University, tested a helicopter using a blended fuel that was 50% liquid coal in March 2006.
I think liquid coal is probably a better fit for our current infrastructure than ethanol (see below). That's because it's essentially "plug and play" technology. We can make it using existing refining infrastructure – with some retrofitting. And we don't need a lot of new construction to use it.
The big question is: Will we be driving on it in the near future? It doesn't look that way right now... None of the big oil refiners – Chevron, ExxonMobil, Sunoco, or Valero – has plans to retrofit their refineries.
However, the military sees strategic merit in having and using a domestic fuel supply, so I expect it to make an appearance on military bases within the next couple of years.
Q: How does ethanol refining offset the need for crude oil refining? – N.R.
A: It doesn't. In 2006, we used 17% of the U.S. corn crop to make just 2% of the fuel supply.
In fact, we can't produce enough ethanol to meet the goal of 35 billion gallons set by Bush. We can produce about 15 billion gallons of ethanol per year using current technology – we produce about 20 billion gallons of gasoline per year.
However, gasoline is only 50% of what refineries produce. Ethanol can't replace jet fuel or diesel fuel or fuel oil.
The other problem with ethanol is getting it from the refineries to your car. Ethanol is highly corrosive, so pipes and tanks must be made of stainless steel. That's expensive. Ethanol's also hydrophilic (it loves water), so it requires special handling to keep it from absorbing water.
There is a great article debunking some of the "green" myths about ethanol in the February 2008 issue of Technology Review. Here are some highlights:
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54% of the energy in ethanol is offset by the fossil fuel used to process it. |
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Another 24% is offset by the energy used to grow the corn. |
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Ethanol's actual greenhouse gas emissions are only 15% to 20% less than gasoline. |
Once cellulosic ethanol can be brought to commercial production, we'll see significant (82% to 85%) reduction in greenhouse gas emissions. However, it's not commercially viable yet. As I mentioned last week, the only real impact the U.S. can immediately have on crude oil usage is to cut gasoline usage by driving less, and driving smaller cars with much higher fuel economy.
However, we like our hulking vehicles too much for this to happen.
Good investing,
Matt 
