China helps to dig the miners out of a hole
With balance sheets in better shape, investors want the return of dividends, reports
AFTER years of misery, the mining industry is closing 2016 in a far happier state than anyone imagined 12 months ago.
A rally in commodity prices – particularly coal and iron ore, used in steel making – has transformed a sector that seemed at death’s door in 2015, with companies falling over themselves to slash dividends, cut spending, and sell off assets to raise cash.
The FTSE 350 Mining Index has climbed 95pc this year – its first year of gains since 2010 – with Anglo American and Glencore staging remarkable turnarounds. Having propped up the bottom of the FTSE 100 last year, they have recorded share price jumps of 300pc and 200pc respectively. “We should have all bought Anglo in January,” one industry watcher remarks.
The mood at the mining giants is more “relief ” than champagne-popping delight, a senior executive says. While the major diversified miners have taken drastic action in the last 18 months to put their finances in order and pay down the massive debt they took on during the boom times, they know that “self-help” is only partly responsible for their recovery.
China still consumes roughly 50pc of the world’s raw materials, and action by the government there had a profound impact this year.
A multi-billion-dollar spending programme by the Chinese government at the start of the year helped to prop up the construction industry and drag the price of iron ore off its knees; a shortfall in global production helped.
At the same time, the price of coal was lifted by China’s decision to reform its fragmented coal-mining industry. This handed a gift to miners such as Anglo and Glencore, who suddenly found their coal operations were much more profitable.
With experts having been wrong-footed by 2016’s turnaround, opinion is divided on whether commodity prices will continue to rise. Liberum’s Ben Davis warns that China’s economy risks following Japan’s at the start of the 1990s, with debt rising faster than GDP, ultimately slowing demand.
Rick Rule, fund manager at Sprott Global, strips the question back to its fundamentals. “Commodities are essential to life and they’ve reached a price now where either the price goes up, or our way of life changes dramatically for the worse,” he says.
“Late-stage commodities” are the talk of the town – particularly copper, which is used in both construction and consumer gadgets, ensuring it will remain in demand. Getting their hands on more copper is a priority for big miners, in particular BHP Billiton and Rio Tinto – but assets are hard to find. Zinc, nickel, aluminium and lithium have also been tipped for a strong 2017.
In a year of surprises, the biggest laggard in the final stretch has been gold. Typically a safe haven in times of upheaval, the precious metal initially jumped following Donald Trump’s election victory. But it has waned since, with markets apparently betting his presidency will be less of a disaster than foretold.
The US Federal Reserve’s decision to raise interest rates earlier this month was a further blow. Rate hikes typically strengthen the US dollar and weaken gold, which becomes less attractive as a place to store wealth as it has no yield.
While gold is currently about $1,133 an ounce, “the possibility of a three-digit gold price has also come back into some conversations”, says Joni Teves, of UBS. Gold miners, such as Randgold and Fresnillo, which soared in the wake of the Brexit vote in June, have given up most of their gains.
With balance sheets across the sector in healthier shape, longsuffering investors are now looking hungrily for the return of dividends. Glencore has said payouts will resume next year, after declaring it was “job done” on its turnaround. But those hoping to catch another stellar lift in mining equities may be disappointed – even if Trump kick-starts an infrastructure boom in the US. “We do not expect a repeat performance in 2017,” say analysts at RBC.
A theme of the year has been how hard the miners can squeeze their assets, from running trucks for longer to changing shift patterns. Crisis over, they may be tempted to fall back into old habits, Deutsche Bank warns. “We expect cash to be returned to shareholders, but are concerned ‘house-keeping’ capex could start to creep up,” the bank’s analysts say.
Mining bosses insist their new-found miserliness will continue; Rio chief JeanSébastien Jacques, for example, wants to free up $5bn (£4.1bn) over five years through more cost savings. Others are looking to take a leaf out of Glencore’s book and develop trading teams to help market their products.
As for mergers and acquisitions, the refrain from top bosses has been: “We always look, but there’s nothing to buy.” It was a line used by Glencore chief Ivan Glasenberg repeatedly, yet he stunned the market earlier this month with a deal to grab a slice of Russian gas producer Rosneft for €10.2bn, in conjunction with the Qataris and a group of banks.
Glencore’s swoop on Rosneft aside, most miners have sworn off major deals, burnt by their experience at the top of the commodities cycle when they paid vast sums for projects that were later written off.
Deutsche Bank doubts that “major M&A” will make a comeback in 2017, but it is surely only a matter of time before someone is emboldened to table a deal.
If 2016 has taught us anything, it’s to expect the unexpected.