Collapse of copper price wreaks havoc on LME

The price of copper, already battered over the past month, plunged on the London Metal Exchange (LME) following revelations of a trading scandal at the giant metal trading company Sumitomo. The Japanese company dismissed its chief copper trader after regulatory officials from Britain and the U.S.

approached it with enquiries about alleged illegal trading in the copper market. It is now estimated that Sumitomo’s loss, initially announced as US$1.8 billion, may be as high as US$3 billion.

The other base metals were hit by selling but, for the most part, held on to much of their value.

Yasuo Hamanaka, the Japanese conglomerate’s trader, was reported to have bought between half a million and a million tonnes of copper at prices above the market in a bid to prop the price up. His unauthorized trades had a volume of US$20 billion per year. Sumitomo said it discovered the irregular trades when an offshore bank alerted it to trading vouchers that did not agree with Sumitomo’s own books. The trail led to Hamanaka, who confessed to the trading on June 5 — the day before copper fell with a heavy thump on the LME.

Once the price fell to the US90 cents-$1.05 range, action to hedge long positions and cover shorts caused the spot prices to swing widely. The market took a second body blow on June 14, after the company announced it had fired Hamanaka and was co-operating in an investigation by Japanese, British and U.S. regulatory authorities.

Hamanaka, through his position at Sumitomo, had been buying spot copper heavily from the middle of 1995, in an apparent bid to force prices higher.

The strategy succeeded in the early stages, with copper topping US$3,000 per tonne (US$1.36 per lb.) in August 1995. Then the price started a downtrend, which Hamanaka tried to counter by buying more copper.

Copper traders had noticed that the LME’s copper stocks were still high, even though the backward market — with spot prices higher than futures — should have brought those stocks into physical delivery. But the copper stocks in the LME warehouses included large quantities under allocation to Sumitomo, which Hamanaka said were necessary to cover possible interruptions in supply when Sumitomo needed to make physical delivery on their contracts. Other traders interpreted the large stocks as a hoard intended to boost the price.

Before the Sumitomo revelations, it was widely rumored that two large U.S.-based funds — the Quantum Group managed by George Soros, and the Tiger Fund managed by Julian Robertson — were taking up short positions in the copper market, on both the LME and the Commodity Exchange of New York.

Montreal-based scrap dealer American Iron & Metal was also thought to have assembled a large short position. Subsequent events have discounted much of the effect that large short-sellers could have had.

The dealing scandal brought calls for closer regulation of the LME, which is largely self-regulated. British commentators have lamented the weak state of the country’s Securities and Investment Board and its enforcement branch, the Securities and Futures Authority, largely on the grounds that the agencies did not have the resources to police the markets.

LME officials were still issuing denials that the market was being manipulated as late as June 12. LME Chairman Raj Bagri told a press conference: “We don’t believe manipulation has taken place, but we are looking at the issue on an ongoing basis . . . we would come down like a ton of bricks.” After it was revealed that Sumitomo was being investigated, the Exchange’s chief executive officer, David King, said that if the LME found market manipulators it would “hang them high, and publicly.” It appears the recent events are the culmination of a long series of intimations that trading irregularities were going on. In a 1991 letter to the LME, a U.S. copper trader alleged that Hamanaka had asked him to confirm a series of fake trades. The LME approached Sumitomo, which investigated and found nothing. A year later another trader approached the Securities and Futures Authority with a similar tale, and two sources in the U.S. Commodity Futures Trading Commission told the Associated Press that their agency had interviewed Hamanaka in April of this year.

It is still unclear whether the present price collapse will affect the economics of copper mines under development, or perhaps force some marginally economic producers out of the scene. Medium-term fundamentals for the metal are weak, with considerable low-cost production scheduled to come on stream.

Longer-term forecasts tend to point to increased demand and another shortfall in copper supply.