How to invest in alternative metals

From shares in mining companies to exchange traded commodities, investors can access industrial metals in a range of ways. But despite an upbeat outlook, exposure brings risks.

The London Metal Exchange (LME) sells futures and options contracts for aluminium, copper, lead, nickel, tin and zinc among others, with the underlying metal stored in an LME-approved warehouse. Private investors can access the contracts through a broker, who will in turn deal with an LME-approved member.

There is no minimum investment on the private investor's side, but the LME-approved member buying contracts must buy a minimum of one lot for most metals. In copper's case, this is 25 tonnes, which at the moment carries a market value of around $191,500.

Investors can also buy shares directly in UK-listed commodity companies. The Share Centre's Admans recommends looking at UK-listed extraction companies such as Xstrata, Glencore International and Vedanta Resources. Investing directly in shares is still risky though, due to the volatile nature of metals.

A collective investment scheme such as an open-ended fund or investment trust will spread risk across the sector. Fidelity Emerging Europe, Middle East & Africa, JPMorgan Natural Resources, Baring World Mining, Investec Enhanced Natural Resources, and the closed-end BlackRock World Mining Trust invest in a range of industrial metal production and extraction companies, and will offer a diversified exposure to industrial and precious metals.

However, an exchange traded commodity (ETC) is by far the cheapest way to buy into them. ETF Securities, a leading ETC provider, offers both individual metals - aluminium, copper, lead, nickel, tin and zinc - as well as ETCs tracking a basket of metals. They are structured either as physically-backed funds, where the metal will be held in a special warehouse, or as synthetic ETCs, where the ETC provider will use a derivative-type contract to track the future price of that metal. ETF Securities offers a mix of both for all metals mentioned.

With regard to individual performance, the ETFS Zinc fund, a synthetic ETF, has fallen by 50% since its inception in 2006, but has gained 7.4% this year to the end of April. The synthetic aluminium and nickel ETCs have lost 0.9% and 4.8% respectively in the first four months of the year, while ETFS Copper, also a synthetic ETF, has gained 7.2% over the same time period.

"ETCs are a very easy way to get exposure to these metals," says Tim Cockerill, head of research at Rowan Dartington. "ETF Securities also offers an industrial metals ETC, with copper, aluminium, nickel and zinc forming the main constituents."

Geopolitical risks

Despite an optimistic outlook, there are big geopolitical tensions to be wary of when investing in alternative metals. Metal mines can be centred around regions with poor corporate governance or little political stability. Platinum mines, for example, are heavily concentrated in South Africa and Russia, while zinc mines are more widespread, with mines in China, Australia, Peru, Europe and Canada.

Another issue is that commodities are linked to the general health of the global economy, as well as being closely correlated to each other. China is the world's biggest user of zinc, according to the International Lead and Zinc Study Group, consuming 43% of total supply. Europe comes second at nearly 20%, with the US in third place consuming 6.4%.

Meanwhile, Cockerill points out that once investors buy up large amounts of a metal, or another commodity, it gains momentum and can be the subject of massive speculation, only for the bubble to burst when the price becomes unsustainable. He highlights soft commodity cotton as a good example: although the macroeconomic factors are in place (a growing Chinese population needs more cotton to make more t-shirts, for example) for firm prices - they went up around 160% in 2008, but eventually suffered a huge correction as too many investors bought in.

"Industrial metals are very volatile, vulnerable to political events, subject to speculation, but at the mercy of global demand and how much is in supply. Plus, metals don't provide an income," adds Cockerill. "They are only suitable for the sophisticated investor that understands the potential volatility."

Copper: An indicator of the health of the economy

Base metal copper has hit the headlines recently, with vast quantities of the metal being stolen. Copper might not be as iconic as a diamond ring, but people have evidently been taking advantage of the uplift in value.

The price of copper is seen as a bellwether for the state of industry, but it has fallen since it hit a peak of $10,190 (£6,570) a tonne in February. It has now declined to trade at around $7,660 a tonne, although Deutsche Bank forecasts the red metal to increase in price by 17% this year.

Copper has a wide range of uses, from conducting electricity to penny coins. It is also often used as an alloy with tin.

Once again, resource-guzzling China plays a key role in influencing the copper price, as the nation is responsible for 40% of global supplies, and

is therefore the single most important driver behind a jump in prices. Recent reports claim China has begun to stockpile the metal, suggesting demand might be faltering.

"Copper demand is generally a good indicator of the health of the general economy," says Cockerill. "Copper as an industrial metal is also subject to seasonal and cyclical demand, which investors should be aware of."

Since October 2008, the ETFS Copper fund has gained 157%, but since its inception in September 2006, it has remained fairly flat. "Copper is more traded because it is most in demand," adds Cockerill.

Looking for more about industrial and precious metals? Cathy Adams highlights the metals to watch and warns of market volatility in: Are hot metals copper-bottomed?