Issue link: http://resourceworld.uberflip.com/i/107613
The uncertainty disconnect in mining – a long-term view by Sandy Chim, CEO, Century Iron Mines Inc. As the global economy has been buffeted by unexpected and unprecedented events – the international financial crisis and the European debt crisis – it has become a truism to say that the only certainty in the global economy is uncertainty. However, in the mining sector, this sentiment of uncertainty is misleading. PwC reports that the top 40 mining companies posted record profits of $133 billion in 2011, up 21% over the previous year. And yet, these companies, a good proxy for the sector worldwide, faced a 25% drop in market capitalization while achieving record profits. Why this disconnect between economic performance in such an uncertain global economy and investor confidence? In the past, the mining sector has tracked global economic trends, with commodity markets and prices falling when the global economy was down. However, over the last few years, governments of major countries have injected hundreds of billions of dollars into stimulus programs. This has uncoupled the mining sector's performance from the current economic volatility. After the great recession of 2008, these massive government programs caused a relatively sharp rebound in the price of base metals such as iron, copper, lead and zinc. In fact, iron and copper prices actually peaked after the international financial crisis. These base metals are the commodities that China buys, largely from global markets. The spot price of iron ore, for example, is heavily influenced by China's growing dependence on imported seaborne iron; its giant economy is currently absorbing 70% of the entire global seaborne supply, as China produces 46% of total global steel. To be sure, given the crucial role 18 www.resourceworld.com of steel in the creation of infrastructure, the impact of China's stimulus programs on iron is much greater than on other metals. Furthermore, China's current Five-Year Plan targets 50% of imports to come from Chinese-owned mines elsewhere in the world. It is quite clear that China is the primary factor that sustained and advanced the mineral commodity market over these crisis years. PwC analyzed the revenue and EBIT mix of the top five diversified mining companies comparing the pre-crisis year, 2007, with 2011. The firm found that the outstanding performance of the base metals commodity market, to date, explains the record profits of the top 40 mining companies. Iron and copper alone contributed more than 80% of EBIT and close to 60% of revenue. China's contribution to these profits is substantial and ongoing. Do we want to put a number on this? At the outset of the international financial crisis, China introduced a $600-billion stimulus program of massive infrastructure building. The program not only rekindled the growth momentum of the Chinese economy, it sustained the global mining sector and created new demand, driving the spot price of commodities, such as iron ore through the roof. But, as its stimulus program was ending and the mega-infrastructure projects were being completed, China inevitably lost speed and momentum. Without support from an export market recovery, Chinese growth slowed. Now, here we are, back to volatility in the financial and commodity markets, on a crisis scale. This has triggered fear in markets across the board, driving trends in real time and breeding more uncertainty—a self-fulfilling prophecy. Whether or not institutions see the real cause of the uncertainty, they are captive to this dynamic. If they resist, the market will punish them. When the market wants to see buybacks or dividends, institutions have to respond, or face a flood of redemptions and selling that could take them down. This is why the total market capitalization of the same top 40 mining companies actually came down by 25%, despite their record profits. And the gap between profit and market capitalization is widening, reflecting market sentiment and fear. Tom Albanese, CEO of Rio Tinto, recently captured this imperfection of the global financial system: "Each of you in this room wants more money back. You want february 2013