Commodity Super-Cycle, Mining Sector Rotation, China Economics, Copper Insight
Commodities / Metals & Mining Nov 12, 2008 - 11:36 AM GMT
Commodity Super-Cycle - Recent commodity weakness could be explained merely as a huge sell-off within a longer-term bull market in basic materials, which has years to run. And while inflationary conditions are generally the most favourable for commodities, scholars note that this asset class did perform fairly well during the extreme deflationary era of the 1930s ( analysis of that era found here ). The Reuters CRB Futures Index is a bellwether physical commodities indicator, the 10 year weekly chart (seen to the left) shows the long uptrend from 2002 - 2008 and ferocious break down within the last few months.
Due to the inordinate amount of monetary inflation experienced in the last eight years it is unlikely that the current downturn will retrace all, or even most, of the preceding gains.
Mining Sector Rotation
November 2008 Sector Rotation Chart Demonstrates Opportunity That Exists Now
Commodities and material stocks over the last several weeks have experienced one of the steepest sell-offs ever seen as talk of China growth worries and the reality of global economic recession spreads. Markets are about dynamic equilibrium, and are in a constant state of flux as they attempt to maintain it. Sector Rotation is always happening, both between and within sectors. There are many forces at play - both micro & macro. A well balanced portfolio will have exposure to all sectors - the key is the weighting and timing. The stock market is a discounting mechanism; industry groups are priced now according to investor's perception of future company earnings and fortunes within the various groups. Capital flows in and out of the markets according to anticipated fortunes and momentum.
The flight from commodity based stocks has been breathtaking as fund manager liquidated positions and appears to have created opportunity. Sometimes things just get overdone; don't misinterpret commodity stocks downward movement to be proportional with lack of demand for the commodity -- now would be the time to dive in as the foundation for the next boom in commodity prices is being sown and the related commodity stocks will react in time. You need to be invested in the sector in order to participate and a patient investor can now buy stocks and/or options at attractive prices. The relative ranking of the mining sector has steadily fallen from week to week and now sits at a low relative to almost every sector tracked (as illustrated in the Sector Rotation Performance Spreadsheet excerpt located at http://www.madisonaveresearch.com/miningsectorrotation08.htm ).
The sector performance chart was presented in cooperation with SectorRotation.com which maintains a sector scorecard. The Sector Rotation Score Card is a computer derived summary of relative safety, relative value, and relative timing. Currently the mining sector scores an “F” in forward looking indicators so a sense of urgency is not warranted however now is the time to work on your watch list and scale in as appealing valuations are definitely there.
Demand Side – China and the World. The demand for key elements will remain high for years to come. Contacts of this writer that are currently in China, post-Beijing Olympics, are able to confirm a dynamic and growing working class that have just started to get a taste of the good life and the trappings it entails. Obviously China is not immune economically; China's economic growth slowed to 9% in Q3 from 11.3% a year ago and export growth that topped 20% year over year is expected to slow to zero. However just this week (Nov. 10, 2008) China too joined a host of countries to unveil a stimulus plan ($586 billion) to fight effects of global meltdown.
It seems China realizes it can't afford to be complacent, it needs to create jobs for millions of new workers who enter the economy every year and to satisfy a public that has come to expect steadily rising incomes. China's statement said the Cabinet, at a meeting chaired by Premier Wen Jiabao, had "decided to adopt active fiscal policy and moderately easy monetary policies." The statement said the spending would focus on ten areas, including picking up the pace of spending on low-cost housing (an urgent need in many parts of the country, as well as increased spending on rural infrastructure). Money will also be funnelled into new roads, railways and airports.
Spending on health and education will be increased, as well as on technology and environmental protection. Already committed spending on rebuilding disaster areas, such as Sichuan province where 70,000 people were killed and millions left homeless by a massive earthquake in May, will also be accelerated. The statement also said rural and urban incomes would be increased, credit limits for commercial banks will also be removed to channel more lending to priority projects and rural development, and reform of the value-added tax system will cut taxes by $17.5 billion for enterprises.
On November 12, 2008, finance officials from the G-20 group of major wealthy and developing nations convene in Washington to discuss a strategy for strengthening the global economy. Chinese President Hu Jintao is expected to attend. With the growth of China and the potential elsewhere, even here in the USA - to quote Obama “First, I will make strategic, long-term investments into American infrastructure”, the planet is going to need natural resources.
Break-even for miners – mines closing
Numerous miners have reacted to lower prices by closing and curtailing supply. Prices could still edge lower, but basic supply side economics dictate that fundamentals will stabilize in the face of reduced supply. The road to recovery of metals prices and related stocks starts here. A review of generally accepted industry approximated break-even prices for miners show zinc ($0.90/lb break-even, current Price $0.49) and nickel ($5/lb break-even, current price $4.90) producers are loosing money and are better off closed in abeyance of more favourable prices. Others like palladium and platinum are under break-even too. Bright notes are gold and copper. Gold is driven more so by investor demand rather than industrial demand. Copper has roughly $1.30/lb break-even for many producers, current $1.69).
Copper Insight.
Relative to where copper was a few years ago, copper at $1.70/lb is still in an uptrend. As a key element in our consumer driven society the demand for copper is not going to go away – it may not continue on the fervorent pace that it had over its recent history but it is going to be consistent. The economies of scale for a few select larger copper producers are such that they are still able to reap (with cash costs as low as $0.40 - $0.70/lb break-even, much better than the norm) large margins from production at current commodity price levels. However, industry specialists Brook Hunt , a firm that provides industry cost studies, suggests that only 10% of the industry is making money with copper at $1.70/lb -- This 10% figure is where copper firmed up during previous global recessions, so it stands to reason copper will find roots here.
Additionally, there will be a change in the supply cycle to copper in the next few years as a number of copper mines will be closing in the next few years; a number of copper deposits had extended their life because of the run in copper -- at $3 copper they eked out additional life to stay open but over the next few years these will be closed.
By James O'Rourke,
Financial Editor, Madison Avenue Research Group, MadisonAveResearch.com
A full sector rotation chart accompanies the original of this article and should be viewed at http://madisonaveresearch.com/topgold.htm
© 2008 Copyright James O'Rourkei - All Rights Reserved
This article may contain forward-looking statements regarding future events that involve risk and uncertainties. Readers are cautioned that these forward-looking statements are only predictions and may differ materially from actual events or results. Reports herein are for information purposes and are not solicitations to buy or sell and of the securities mentioned. Full terms of use http://madisonaveresearch.com/topgold.htm online.
Madison Avenue Research Archive |
© 2005-2022 http://www.MarketOracle.co.uk - The Market Oracle is a FREE Daily Financial Markets Analysis & Forecasting online publication.
