Post Red Kite, hedge fund trepidation legitimate: StanChart

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Metal stocks have stabilised after getting pummeled yesterday. But that's globally because of the base metals sell-off following the problems of Red Kite.

Amit Juneja of Standard Chartered says there is a legitimate apprehension in the market regarding hedge funds because they have been very active in the base metals market. Red Kite was exposed to copper and zinc. He further says that more hedge funds may see the same reaction as Red Kite.

Regarding metals, he says copper may stabilise and even climb by February-end on China demand. Further, he sees copper at USD 5,900 per tonne by Q1CY07-end.

Excerpts from CNBC-TV18's exclusive interview with Amit Juneja:

Q: The market was quite apprehensive yesterday that maybe Red Kite was just not an isolated incident; there could be other commodity hedge funds that might get into trouble. Is that a legitimate apprehension or just a knee jerk reaction?

A: That is a legitimate apprehension because hedge funds have been very active in the base metals market. They have traditionally been long right through this bull run. So there is a possibility that other hedge funds may see similar reactions.

Q: Do you think that the commodities market is large enough to absorb some of this distress selling which might come in from the beleaguered hedge funds, or do you think it might lead to some sharp corrections in base metals like we saw over the weekend?

A: No, I think the impact of hedge funds movements, the impact of the financial markets can be pretty brutal on commodity markets. You got to understand the physical market is much smaller in comparison to the financial side of the picture.

Q: Any anecdotal evidence incase of metals, in which there are more over leveraged positions than the rest?

A: If you take the example of gold, classic story in India, India is the largest physical importer of gold, it imports about 600-700 tonnes. That quantity is traded in three days in the financial market worldwide.

Q: What is the trading call or what might be your near term trading call for copper and aluminium?

A: We think copper might stabilise because the price action has been related to the reaction to Red Kite. Also, the Chinese market is slowing down just before the Lunar New Year, once the Lunar New Year is out of the way, which is probably end of February, we would see copper begin to climb back up. That's because Chinese stocks are at historically low levels. Our forecast for quarter one for copper continues to be at 5,900.

Q: Is the grapevine telling you that there could be more incidents like Red Kite?

A: It's hard to predict that, hedge funds typically; you just don't know what their positions are, that's the story behind hedge funds. But we are seeing more and more of these stories, we had Amaron, we had another smaller hedge fund blow up last year. And now we have problems of Red Kite.

We still don't know the full extent of problems at Red Kite, but we have seen the reaction in zinc as well as copper. Zinc and copper have lost respectively about 16% and 27% since the start of this year.

Q: Are people in the market talking about where Red Kite was most extended in terms of the particular commodities?

A: Rumoured to be mainly in copper, zinc and to some extent in aluminium, the reaction we are seeing in aluminium is in the backwardation that has suddenly increased. That's the gap between cash and the three months.

Q: Just put it in relation - the kind of assets hedge funds like Red Kite was running in relation to the market size for markets like copper and aluminium that you just alluded to?

A: Typically, hedge funds would have built up extremely large positions whether it's hedge funds, mutual funds, any type of fund that is taking positions. Some of these positions are leveraged positions, so as a proportion of the market, they would be fairly large.

Q: How much more downside would you expect to see if the market does not stabilise over the next few days on these particular commodities?

A: Our expectation is that both copper and zinc have probably seen the brutal effect. We don't expect it to collapse much further.