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Heading for a soft landing
David McKay
Posted: Sun, 20 Mar 2005
[miningmx.com] -- HIGH-flying mining stocks may avert a massive sell-off in favour of a soft landing according to analysts, who believe demand for commodities has been rebased. That’s uplifting news for Anglo American and BHP Billiton, the two highest ranked South African listed firms by market value on the JSE Securities Exchange.
The expectation is that mining equities would be unable to sustain the current bull run that’s been in progress for around three years.
Mining firms have been on a roll. At the time of writing, BHP Billiton had gained 49% on the London Stock Exchange in the past 12 months. It’s been followed in performance by Xstrata (47% higher), which mines coal and chrome in SA, and British blue chip Rio Tinto (32%).
Reflecting the dampening effects of the rand/US dollar exchange rate, Anglo and Lonmin, a British firm that mines all its platinum in SA, were 6% and
14% lower respectively, also over the past year. However, both companies have produced outstanding earnings growth of 59% and 163% respectively.
The performance of mining firms has been driven by runaway metal prices. With the exception of platinum, prices for metals such as copper, aluminium and zinc have gained between 10% and 28% in the past year. Moreover, there appears to be no immediate slowing in demand.
Iron ore contract prices between South American producers and their Asian customers have been hiked 71,5% this year.
Kumba Resources CEO Con Fauconnier says that there’s a quantum leap in the scale of consumption, largely led by China’s economic boom that can barely be kept to single-digit growth. (GDP growth is estimated to be 8,5% in the first quarter of this year.)
A similar economic awakening in India prompted The Economist to muse whether China and India mimicked German and US growth in the 19th and 20th centuries
respectively.
“I’m a believer that people in China and India are going to be looking for a better way of life – and with that comes air-conditioners and cars. And that requires raw materials and energy,” says Chip Goodyear, CEO of BHP Billiton.
The improvement in metal prices shows no signs of slacking. Since the beginning of the year, inventories of tin and nickel on the London Metal Exchange, which warehouses the materials, had more than halved, reflecting higher demand. Stocks of aluminium and lead had fallen by 18% each. Only copper, which recently recorded an all-time high of US$1,50/lb, registered increased stocks, which were 5,8% higher.
Against that background, expectations were that mining stocks were due to bust after several years of boom.
But JP Morgan said in a recent research note that the decline in the average metals’ prices in the past three cycles – estimated at 28% – was unlikely to be repeated on the same scale this time around. It said: “We
currently forecast that in this cycle, prices will fall 17%.”
John Meyer, an analyst at British stockbroker Numis Securities said: “New commodity focused funds appear to be pushing prices higher, while some large hedge funds are also reported to have recently been taking positions and pushing prices higher.
“Consensus is now emerging among the trading community that a fall in base metals’ prices, while always considered inevitable, may not be as severe as previously thought.”
Estimates by Standard Bank (UK) are that it’s more bullish on copper, aluminium, nickel and zinc than three and 12 months ago. For example, the copper price is expected to trend down to $1,21/lb by May 2007 compared to an estimate of $1,04/lb made three months ago by the bank.
Not all agree, however. John Clemmow, an analyst at Investec Bank in London, says recent merger and acquisition activity in the mining sector is ominous for valuations.
BHP Billiton recently outbid Xstrata
for control of WMC Resources, an Australian diversified mining firm. That, says Clemmow, is an uncanny echo of decision-making during one of the last major bull runs in commodities, when BHP, a forerunner of BHP Billiton paid $3,2bn in cash for US company Magma Copper. The entire cost of that acquisition was eventually written down by BHP, a development that nearly threw BHP into liquidation.
Says Clemmow: “The best cure for high commodity prices is high commodity prices, as they restrict consumption and encourage new output. Paying cash for mining assets at the top of the cycle hasn’t usually proved to be that good for shareholders – especially when the valuations used to justify the transaction require either heroic assumptions regarding metal prices, corporate synergies and ‘blue sky’ potential.”
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