By Rosalyn Retkwa
A group of copper fabricators and a copper merchant have launched a fierce lobbying effort to keep the Securities and Exchange Commission (SEC) from approving two proposed ETFs (exchange-traded funds) that intend to buy physical copper as an investment.
There are copper ETFs that invest via futures. These two ETFs – one from J.P. Morgan, and the other, from Blackrock’s iShares – would be the first in the U.S. to buy physical copper and store it in warehouses.
With copper in a deficit, the group fears the two ETFs would take significant amounts of copper off the market, which would “artificially inflate prices for an industrial commodity already in short supply,” according to one of the SEC comment letters filed by their attorney, Robert Bernstein of the New York City law firm of Vandenberg & Feliu.
Most of the copper that’s mined is sold to industrial users under long-term contracts. At issue is the copper that’s available for immediate delivery via the warehouses operated by the London Metal Exchange (LME) and Comex, and that’s quite limited, with a total of just 240,000 metric tons of copper available from both sources combined as of July 18, Bernstein said in a comment letter. Meanwhile, he calculates that initially, going by their prospectuses, the two ETFs could draw down as much as 183,000 metric tons.
But it’s not just the sheer amount of copper that will be needed by the ETFs to back up their shares, he says. What also has this group alarmed is the possibility that the ETFs could instigate a shortage simply by taking copper that’s currently being stored in LME warehouses “off warrant.” So long as the copper that’s stored in LME warehouses is “on warrant,” under the LME’s rules, should a shortage arise, that copper has to be made available for lending at prices set by the LME to prevent gouging, he says. Bernstein notes that copper can be taken “off warrant” very easily, and it doesn’t even have to be moved out of the LME’s warehouses. And that’s exactly what his group thinks the two ETFs intend to do, to the benefit of their investors and to the detriment of industrial users.
If the JPM ETF takes its 61,800 metric tons of copper “off warrant,” that alone will result in “the withdrawal of more than 30% of the copper available for immediate delivery worldwide,” Bernstein said in a comment letter. “Like all commodity squeezes and corners, this activity …will have the effect of enticing investors seeking quick profits to participate in an artificially inflated market because the more that is invested in physical copper backed ETFs, the more such copper will be removed from the market –literally taken ‘off-warrant’ and not available for sale – thus forcing prices even higher,” he said, in the same comment letter. (The group is not objecting to another proposed physical copper ETF, from ETF Securities of London, which is also in registration with the SEC, because its documents indicate that it plans on keeping its copper “on warrant,” Bernstein says.)
Bernstein says he got involved as the lobbyist for this group because of a long relationship with the principals at RK Capital LLC, an international copper merchant with offices in New York and London. The group backing this effort also includes four fabricators: Southwire of Carrollton, Georgia; Encore Wire of McKinney, Texas; London-based Luvata, which has plants in eight U.S. states; and Amrod, based in Port Newark, New Jersey. Taken together, the four companies represent “about 50 percent of the copper fabricating capacity of the United States,” Bernstein noted in a comment letter.
So far, the group has won one round, with the SEC deferring action on the first ETF in the queue: J.P. Morgan’s JPM XF Physical Copper Trust. The SEC has instead asked for more comments on some of the points raised by the group, with the new comment period ending August 24, and with rebuttal comments due by September 10.
Bernstein says his group has been alarmed about the proposed ETFs since the fall of 2010, when J.P. Morgan and Blackrock first filed with the SEC. But their protest took on a new urgency this spring, when the New York Stock Exchange filed to list and trade the ETFs on its NYSE Arca platform.
NYSE Arca has filed its own comment letter in response to Bernstein’s claims, stating that his arguments are “either based on incorrect information or insufficiently substantiated,” and that it “understands that it is unlikely that the [JPM] Trust or its authorized participants would take LME-warranted copper ‘off warrant’ in connection with the Trust’s operations.” Rather, NYSE Arca maintains that “the [JPM] Trust will only be permitted to hold copper that is not LME-warranted.”
Bernstein, in turn, responded that “the Exchange can point to no substantial sources of such copper available for immediate delivery to the [JPM] Trust other than warranted copper in LME warehouses because, as we shall show, there are none.”
The SEC, in its order asking for more comments, cited some of Bernstein’s claims, and also cited a comment letter it received from Senator Carl Levin of Michigan, the Chairman of the Senate’s Permanent Subcommittee on Investigations, who’s joined the battle on the behalf of the copper end users.
The SEC noted that the Senator had claimed the JPM and Blackrock ETFs “would hold approximately 34% of the copper stocks available for immediate delivery and would remove from the U.S. market over 55% of the available copper.” The SEC then quoted Bernstein on the consequences, which he said would be “far-reaching and potentially devastating to the U.S. and world economies,” including “shortages of copper, higher prices for consumers, and increased volatility.” The SEC asked if commenters would agree or disagree with those statements, and if so, why or why not.
That was one of a dozen questions raised by the SEC in its order, which can be found on the SEC website. To file comments, fill out this online form.
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Rosalyn Retkwa is freelance writer based in New York City who specializes in business and finance.
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