Dr. Copper Is Still Sick

The long-time relationship between copper and the stock market ended in 2011. Commodity prices peaked that year and have fallen sharply since. Meanwhile, stocks have continued higher, unfazed by Dr. Copper’s bearish implications.

The use of copper prices as a forecasting tool for the stock market has always relied, tenuously, on a casual correlation between global economic growth and copper demand.

Bear in mind, it’s entirely possible for global economic growth to strengthen, even while the copper markets appear to be as sick as a dog.

Large increases in copper production, thanks to technology and newfound reserves, can send copper prices spiraling downward. And global growth that occurs outside the construction and manufacturing sectors will benefit the stock market, but not copper.

As such, it no longer pays to assume these markets move in tandem.

Here’s a chart showing the relative performance of copper to the S&P 500.

See larger image

As you can see, both copper (JJC), the commodity, and Southernrn Copper Corp. (SCCO), a major copper miner, have underperformed the S&P 500, since 2011.

Yet recently, shares of Southernrn Copper Corp. jumped higher, following a quarterly earnrnings release that, I suspect, is duping investors into a bad bet.

On the surface, Southernrn Copper’s February 7 earnrnings statement appeared positive, showing quarter-over-quarter improvements in several metrics. But year-over-year comparisons show that Southernrn’s business is still bleeding.

See for yourself…

Money in:

  • Sales: -7%
  • Operating Income: -24.2%
  • Net Income: -23.6%

Money out:

  • Cost of Sales: +8.1%
  • Exploration Costs: +20.6%
  • Capital Expenditures: +32.8%

Seeing these numbers, I think the jump in Southernrn’s share price will be short-lived.

One way to bet against it, while remaining hedged, is with a pair trade. Here’s what to do:

  • Sell short Southernrn Copper Corp. (NYSE: SCCO), and
  • Buy an equal dollar amount of the SPDR S&P 500 ETF (NYSE: SPY).

Given Southernrn’s awful fundamentals, we can expect its stock price to gain less than the S&P 500 in bull markets, and to fall further than the S&P 500 in bear markets. Either way, this pair trade should benefit from a still-sick copper market.

Adam O’Dell

Using his perfect blend of technical and fundamental analysis, Adam uncovers investment opportunities that return the maximum profit with minimum risk.