What clever copper investors should do now

Copper investors will know that the market has been anything but shiny in recent months. Find out which one important development you should be watching - and whether it's time to turn bearish.

If you've tracked copper prices over the past few months, you'll know that the market has been anything but shiny. As the chart below shows, having topped out in May 2006, the price has endured a steady decline since, and is down about 30% from those lofty levels, even sinking below its 200-day and 50-day moving averages.

Copper market: bullish or bearish?

If you're a copper bull, that's not exactly a pretty picture. But undeterred, the bulls have recently jumped back into the game and are slugging it out with the bears on Wall Street over supply issues.

The Bull Case: Because of continued expansion in countries like China, bulls contend that the copper market is set for a rebound in 2007. They point to the fact that after copper prices became overheated in late 2005 and 2006, Chinese manufacturers dipped into the State Reserve Bureau's copper stockpile to try to relieve the price pressure. And China's surging economic growth means the country will have to begin buying copper on the world market once again.

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The Bear Case: On the other hand, the copper bears point to China's relentless determination to become a more self-sufficient country. And with regard to the copper industry, it received a huge boost in 2005, when it found a copper deposit of almost 27 million tons. This find '... is likely to greatly ease the country's longstanding heavy dependence on imported copper,' according to the China International Mining Group.

They're both persuasive arguments. But there's one wildcard that tilts the odds in the bears' favor...

What US housing slowdown means for copper

If the recent New Residential Construction report is indicative of what's to come, the U.S. real estate market is set to endure some troubling times. The report revealed that housing starts plunged by a hefty 14.3% in January, to the lowest level since 1997.

So what does this mean for copper?

Simply put, copper is a major material in home construction. In fact, homebuilders use almost half of all copper in the U.S. And if there are less houses going up, demand for copper will wane as a result.

So if you're invested in copper, or copper stocks, you should expect some choppy, rangebound trading in 2007.

A savvy approach to an uneasy market

And this is the time when the savviest investors begin to use non-directional trading strategies to hedge against any uncertainty. That approach applies, no matter whether you invest in the equity market or futures market.

If the copper market does continue to lag, you could see some consolidation in the form of increased merger and acquisition activity (M&A). If so, copper shareholders would reap the benefits because it could result in stocks rising throughout the industry, as companies pay premiums for buyout targets.

However, you shouldn't play a guessing game with merger activity - otherwise you might as well slap your money down on the roulette wheel.

The copper industry faces an uncertain future, considering the weakness in the U.S. housing market, unknown open market demand from China, and the prospect of industry consolidation.

Overall though, a rebound in U.S. housing, or news that China is buying on the world market could both trigger an upside push. Add in the aforementioned potential M&A consolidation, and the bulls certainly have a case. However, these events are currently wildcards and there's no guarantee that it will play out that way. So until more developments surface, expect choppy trading to ensue.

If you own copper, or are thinking about investing in the market, the best strategy for now is to trade small until the picture becomes clearer, and simply make sure you have distinct stop-loss points set for your trades.

By Mark Whistler, Small Cap Specialist, Mt.Vernon Research for the Smart Options Report, www.smartoptionsreport.com