LONDON (Reuters) - Traders are bracing for a replay of the April squeeze that made copper expensive to obtain quickly, saying major trader Glencore controls almost half the inventories of the commodity held in London Metal Exchange-registered warehouses worldwide.
A potential rebound of demand in China, the world's top copper consumer, combined with strongly-held LME stocks, could constrict the market in coming months in an even more severe version of what happened this spring.
A squeeze gripped the market in April, as one entity took control of up to 90 percent of cash contracts and inventories on the LME, facing off against Chinese market participants who were caught with short positions.
Glencore (GLEN.L), which traders also named as holding the huge position in April, declined to comment.
The tightness faded in May and the dominant position evaporated as Chinese copper producers shifted metal into LME Asian warehouses and copper prices were swept lower along with other risk assets on renewed fears about the euro zone.
Demand in China was disappointing in the second quarter, usually a peak period for buying, as an economic slowdown hit, but analysts expect a moderate revival in the second half.
"It's not a market that's particularly well supplied with metal at a time when demand globally has been pretty weak in the last six months," said analyst Wiktor Bielski at VTB Capital Markets in London.
"If you ignore the short-term noise, any sort of recovery in the second half would suggest that you should get a decent second half rally in copper."
A combination of lacklustre demand and the European debt crisis has weighed on benchmark three-month copper futures prices, but nearby spreads are telling a different story.
While three-month copper shed 9 percent in the second quarter, over the past week the nearby market has moved into backwardation, in which cash prices are higher than three month futures, indicating tightness.
On Monday, the premium of cash copper over the three month price was $8 a tonne, compared to a peak of $155 per tonne in April at the height of the squeeze, the highest in 3-1/2 years.
The backwardation has coincided with the reappearance of a large position in copper after having disappeared for many weeks.
LME data showed that 40-50 percent of inventory warrants are controlled by one party. Warrants are ownership documents for LME stocks.
The LME begins reporting positions when one party moves above 30 percent and when the combined inventory and cash position rises above 50 percent, it is regarded as dominant.
At that point, the exchange applies a mechanism to avoid disorderly markets and limit the exposure of short position holders.
Under these LME "lending guidance" rules a dominant position holder must supply metal at little or no premium to parties with expiring positions.
The LME does not identify holders of large positions, but traders said Glencore had built up the position in copper.
Large holdings of LME stocks and futures can occur unintentionally and are not unusual for big companies with many divisions and with clients that participate in metals markets.
"Glencore may be positioning themselves in a period like this now where there's fairly weak demand outside of China and so picking up warrants in the U.S. and Europe is probably not all that difficult," said a market source who declined to be named.
"So I don't think we've seen the end of squeezes by any stretch of the imagination."
A trader said the tight situation was mainly due to players holding onto supplies rather than underlying global supply fundamentals.
"We're seeing once again some players who have bought material and are holding positions and not lending. We saw the same situation a few months ago," the trader said.
"They could be doing this in anticipation of a deficit and a rebound in prices but I do not see that in the short-term."
While Chinese physical copper demand may remain lacklustre over the next few months, it may pick up later in the second half as government stimulus measures feed through, analysts and market sources say.
"In an environment of a gradual slowdown in Chinese economic growth, our base case is that the second half could be stronger than the first half. It's not going to be super-strong, but better," said Michael Widmer, metals analyst at Bank of America/Merrill Lynch in London.
"Buyers in the U.S. and Europe have by and large held back buying due to all the uncertainties... so there's a bit of pent-up demand, but that has to be released as well."
Globally, the copper market is already in deficit as mines struggle with operational and labour problems. The refined copper market sunk to a deficit of 273,000 tonnes in the first quarter, the International Copper Study Group said.
Other fundamental factors could support a tightened situation, including LME copper inventories, which have slid by nearly a third so far this year.
Stocks on the Shanghai exchange have tumbled by nearly 40 percent since mid-April, although bonded copper stocks in Shanghai are still relatively high, even after dipping to 550,000-600,000 tonnes versus 580,000-600,000 tonnes two weeks earlier, traders said.
Another potential driver of prices is a big short position speculators have built up in U.S. futures, the largest net short holding since March 2009.
"How fast prices rise really depends on how quickly you get short-covering by the funds and whether you start to get long buying again, which in this environment is the big question," Bielski said.
Additional reporting by Harpreet Bhal in London, Polly Yam in Hong Kong and Carrie Ho in Shanghai; Editing by Veronica Brown and xxx.