Financial Mail - Investors Monthly
THE COMMODITY OUTLOOK
The long overdue return of resources doesn’t appear to be any closer, writes Ron Derby. And the upturn is proving impossible to predict
f you believe growth has reached saturation point, then believing that there is no longer an investment case for resources has to be your next conclusion.
But to believe that you’d be ignoring the potential from Asia, Latin America and Sub-Saharan Africa, economies that are still decades away from reaching the status of Europe and the US.
The downturn in the resources space, whose impact has been accentuated by the emergence of the digital economy and giants such as Google and Apple, has seen investors become rather jittery about the prospects for the sector.
Just when is the upturn coming? That’s a very difficult question to answer.
A senior executive at one of the major platinum miners once said that the metal, like some other industrial commodities, moved in six-year cycles. What he was talking about at the time was an imminent recovery given that the year was 2013, six years after the metal’s March 2007 peak.
Now it is 2015 and that about-turn is already overdue — shareholders are fast losing patience or have done so already.
Oversupply still weighs on metal fundamentals. It has provided ammunition for those investors and fund managers who remain negative on resources and especially the miners responsible for dredging up the metals from the bowels of SA’s earth.
Earlier this year, ratings agency Moody’s changed its outlook for the global base metals industry to negative from stable because of “weakening” macro-economic growth. Slowing growth in China’s GDP, continued weakness in Europe and falling copper prices contributed to the revision.
China, which consumes 40% of base metal output, slowed to 7,3% in the fourth quarter, near a six-year low for the world’s second-biggest economy. According to the Economist, analysts at the World Bank, the International Monetary Fund and US banking giant Goldman Sachs, have suggested that within the next two years India’s economy could be growing faster than its Asian neighbour.
Affected by that Chinese slowdown, copper has fallen close to 10% since the start of the year. The fall is seen as a harbinger of falling global demand. Liberum has downgraded copper and iron ore forecasts by 19% and 9%, respectively.
“Although the US economy is strong and consumption of base metals remains robust, it’s not enough to counter weakening global trends,” the agency said in its report.
While consumption may be robust, miners are dealing with the sins of former executives for over-estimated demand for their products. Of the top ten listed stocks on the JSE, only three CEOs remain from pre-2008.
However, by looking to reduce production and in some cases even selling some of their assets — Anglo American Platinum comes to mind here — there will come a point when the mining industry will have shrunk enough to stimulate prices.
In the context of SA, there’s no more important a metal than platinum. Physically, miners are running out of mineable gold reserves, while platinum is the opposite and is just waiting for prices to come back in order to boost production.
If there’s no disruptive technology, “…miners (platinum) will have a future”, an analyst, who wished to remain anonymous said. “The industry has to contract and then when
Oversupply still weighs on metal fundamentals and has provided ammunition for those negative on resources
prices go up, it will expand… it’s a natural cycle.”
In its quarterly metals report released last month, HSBC has a long-term price target for platinum of $1,725 an ounce, 48% more than its February 20 price, based on “robust” market fundamentals.
The British bank sees improving auto demand and tightening of European emissions legislation leading to strong autocatalytic growth in this year and next.
“Jewellery demand remains robust with strong growth from India and continued uptake from the mega-market in China.”
Some 70% of the platinum every year ends up either in jewellery or in catalytic converters that control emissions from cars. According to Johnson Matthey, a British supplier of catalysts, Europe accounts for 25% of all platinum use from its vehicle makers, which are the biggest source of demand behind Chinese jewellers.
Since the price of platinum peaked in March 2007, the metal has lost about 48% in its value as there’s still a lot of the metal sitting above ground. The JSE platinum index over the same time has fallen 73%. It should come as no surprise, given its labour issues in recent years, that the fall is led by Lonmin.
What has derailed a recovery story since the globe’s finances came under pressure has been the world economy’s rather uneven recovery since. And Europe, the world’s most important and premium consumer, has remained at the centre of the sluggishness. A sustainable and broad-based economic recovery in the old continent is central to any recovery not only in platinum but in the overall commodities markets.
To take the platinum executive’s six-year theory further, Investors Monthly looked at the performance of platinum and its miners in the six years leading up to their respective highs. For gold miners, we stretched it back to the start of gold’s more than decade-long bull market that began at the turn of the century. The growth achieved over the period still far outweighs the losses experienced since, and by a significant margin.
If you were a buyer of Anglo American for its platinum business in June 2002, you’d have seen your investment triple in the six years to its record high reached in June 2008, with the share staging a 212% rally. Until its May 2008 peak, its subsidiary — Anglo American Platinum — gained just under 200%.
In the period since those highs, Anglo has declined 61% to its current valuation, while its platinum unit has given up 73%.
Investec Securities has Anglo as one of its picks for the year, but not for its platinum exposure, but rather diamonds through its ownership of De Beers.
As a sign of a world set for a period of low oil prices, the bank’s least favourite miner is BHP Billiton, which has been by far the best performing miner over the past six years. The miner only peaked last July, but has since fallen about 25% on falling Brent crude prices.
Oil has dropped 56% since end of June to its low this year. It has staged a lukewarm recovery, breaking through $60, if not only for a moment. In his column for Bloomberg View, A Gary Shilling, author of “The Age of Deleveraging: Investment Strategies for a Decade of Slow Growth and Deflation”, sees oil falling to $10 because of growth concerns.
Impala Platinum, the world’s second-biggest miner, appreciated more than fivefold in the six-year period to its March 2008 peak, and has lost 79% since that high to its current valuation. Lonmin, the third-biggest platinum extractor, gained over 260% in the years leading up to its July 2007 peak, losing over 90% since.
So those investors who have been brave enough to stick it out since 2002 in platinum and not move out into retail shares (which have been major beneficiaries from the shift out of resources), have been kept in the money by the sector. And up until 2008, dividends flowed in handsome fashion from this sector.
The only question to consider is whether those heady days will ever return, or at least something closer to what was the greatest period of wealth accumulation that the world has ever seen.
Second to that is what the effect will be of technology developments in the electric car space. More in the short-term, what will the increased fuel
A sustainable and broad-based economic recovery in Europe is central to any recovery not only in platinum but in the overall commodities markets
efficiency of petrol cars do to future demand for platinum?
Gold sits in a rather different position to platinum.
It doesn’t subscribe to the supply-demand fundamentals of industrial metals, but rather to sentiment in the global economy, the US dollar, inflation or deflation and geopolitical concerns.
Last year was a tame one for the precious metal, trading between the $1 140,5 and $1 383,05 band, a break from the volatility of 2013.
Continued monetary easing in Europe, Japan and China should support the dollar in the medium term and negatively affect gold, according to the Thomson Reuters GFMS annual Gold Survey.
But over the long-term, the agency sees “bullish” fundamentals.
“…As well as the knock-on benefits of lower oil prices there are inflationary forces on the long-term horizon (energy only contributes 8% to US CPI) as a result of the massive liquidity in the system. This year will see the nadir of the gold price.”
Gold is used an inflation hedge, providing protection against the decrease in the value of a currency.
SP Angel forecasts the gold price at $1 300/ounce this year and $1 350 in the longer term.
Following gold stocks for more the past decade has not been for the faint-hearted, but much like platinum miners the years since they reached their peak haven’t wiped out the appreciation experienced leading up to it.
Since the start of the new millennium, which marked gold’s decade-long bull market, to its February 2009 peak, Harmony Gold more than tripled in value. It has since lost just under 80%.
Gold’s decade-long bull market peaked in September 2011, with bullion gaining six-fold to just over $1 900 an ounce.
Gold Fields was just short of a six-fold appreciation, gaining over 484%, to its July 2006 high. The company has since lost 66%.
AngloGold gained over 160% from the turn of the century to its December 2011 peak, losing 64% since.
Gold miners, like their platinum peers, are faced with high debt levels that many took on to fund their expansion efforts. The unsupportive prices have caught them out as they simply can’t meaningfully curtail output as it would jeopardise debt obligations.
Restructuring which may involve asset sales, especially for AngloGold and Harmony, is of prime focus for each company over the next year.
Last year, shareholders jettisoned AngloGold’s plans that would have seen the company split into a South African and an international operation, squealing at the $2bn price tag which was to be funded from the sale of new shares to existing shareholders.
Justifying one’s belief that resources and, in particular, platinum and gold, will improve, is going to be a rather difficult for anyone. While gold raises particular concerns, platinum has its supply-demand dynamics that at some point will intervene to support a stronger price.
Apart from the expected asset sales in the coming months from the world’s biggest platinum producer in Anglo American Platinum, the company has managed to take significant production out of the market over the past few years.
At some point it has to reflect in the numbers.
Continued monetary easing in Europe, Japan and China should support the dollar in the medium term and negatively affect gold