How might the rate cut affect copper and aluminum? Via Investing.com

Investing.com — With the Federal Reserve likely to initiate interest rate cuts at its next meeting on September 17-18, investors are increasingly focused on the potential impact of US monetary easing on industrial metals, particularly and .

Analysts at HSBC have constructed two possible scenarios, providing insights into how copper and aluminum prices may behave during different economic outcomes.

In a soft landing scenario, where the US economy avoids a recession and the Federal Reserve cuts interest rates incrementally – three 25bps cuts in 2024 and an additional 75bps cut in 2025, according to HSBC’s view – the industrial metals market is expected to follow a similar pattern to 2019.

That year, rate cuts were introduced as part of a mid-cycle adjustment to head off an economic slowdown. Copper and aluminum prices remained largely capped as the market had already priced in the economic slowdown ahead of cuts.

In this scenario, we could see a repeat of the trend from 2019. Demand had weakened before the cuts, and it took about two months after the first rate cut for copper and aluminum prices to form a W-shaped bottom.

Then prices gradually recovered. The modest market reaction resulted from interest rate cuts aimed at maintaining economic momentum rather than responding to a crisis, which limited both the downside and upside potential of these metals.

Similarly, in the next rate cycle, a quick recovery is possible, but prices are likely to remain range-bound unless there is a significant increase in demand.

If the US economy enters a recession, the Federal Reserve is expected to respond with more aggressive rate cuts.

“We believe metal prices are likely to follow the path seen in the dot-com bubble in 2000-2003,” the analysts said.

During that time, both copper and aluminum saw significant declines – copper down 34% and aluminum down 28% – in an extended recession as global demand weakened.

If a recession materializes, industrial metal prices could experience a sharp decline, possibly down 20% over the next year.

This scenario signals the vulnerability of industrial metals to prolonged economic weakness. A recession would deepen the demand shock, extending the period of falling prices.

In the past, such declines only sent metals prices lower after aggressive interest rate cuts had fully fed into the economy and growth had begun to stabilize.

Despite the potential challenges, HSBC favors aluminum in its Asia Metals & Mining coverage. Analysts say aluminum may show more resistance compared to copper during this rate cycle, due to a combination of supply constraints and robust demand from the ongoing energy transition.

Tight supply across the aluminum value chain, supported by high alumina prices, is expected to provide a strong margin buffer.

This resilience could shield aluminum prices from the brunt of the economic slowdown, especially as governments could step up investment in energy transition projects to boost growth.

In addition, the aluminum market has structural factors that support its price. Chinese authorities have capped new capacity expansion, and global output growth remains limited.

This inelasticity of supply, combined with solid demand drivers such as the energy transition, positions aluminum as a more favorable investment during this period. Key players in the sector such as China Hongqiao and Chalco are expected to benefit from resilient margins and increased production. HSBC projects strong earnings growth for these companies in 2024, supported by full capacity utilization and strong margins.

When looking at past rate cut cycles, several parallels emerge that can help guide expectations for the current one.

For example, in 1995-1996, copper and aluminum prices experienced moderate declines, but rebounded as macroeconomic indicators improved.

However, during deeper economic crises, such as the dot-com bubble of 2000-2003 and the global financial crisis of 2007-2009, metal prices experienced sharper and longer declines followed by slower recoveries.

In the more recent 2019-2020 cycle, the Fed’s rate cuts were initially part of a mid-cycle adjustment.

Copper and aluminum prices fell about 15% and 12%, respectively, but started to recover before the COVID-19 pandemic hit.

The subsequent recovery in prices was driven by renewed manufacturing activity and a weaker US dollar, which are factors that could once again play a role in the current cycle.

While historical rate-cutting cycles provide valuable insights, HSBC analysts caution that the relationship between industrial metal prices and monetary easing explains only part of the picture.

The sentiment-driven impact of rate cuts on metals prices does not fully capture the complexities of supply and demand.

Tightening copper and aluminum supply chains – exacerbated by underinvestment in new copper projects and capacity constraints in aluminum production – provide a strong layer of support for prices.

Meanwhile, energy transition demand, a growing force in both the copper and aluminum markets, tends to be less sensitive to macroeconomic cycles. Government spending on energy transition initiatives such as the US Inflation Relief Act is likely to persist, providing a buffer against weaker industrial demand.