Is the Mining Boom over?

The hype escalated a couple of weeks ago after the Minister for Resources and Energy, Martin Ferguson, declared the end of the mining boom, following the shelving of BHP Billiton’s Olympic Dam expansion in South Australia. This prompted Prime Minister, Julia Gillard to respond that the boom is not over, with the issue being whether we can make it last.

China’s Gross Domestic Product (GDP) numbers have showed signs of slowing over the past 6 – 12 months. This has led to a fall in commodity prices. The iron ore spot price has plunged over the past few weeks falling from $120 to below $90. In early 2011 the iron ore spot price was up around $180.

However people seem to forget that China is still growing at extraordinary levels. China’s GDP for the year ending June 2012 was reported at 7.5%. Compare this to Australia’s 3.7% or 2.3% for the US. It is much worse in Europe with many countries recording negative GDP numbers.

Perhaps a controlled slowdown of the Chinese economy is what the policy makers want, as they tighten the reigns as a safeguard to ensure the economy doesn’t overheat. In fact many experts view the slowdown in China’s growth as a good thing given the expansionary policies implemented in 2010 and 2011.

This raises the question as to what exactly is a hard landing? For some it means China’s GDP falling below 7% and to others it means falling below zero.    

The resources sector like many other sectors moves in cycles. Commodity prices soared in the 1970’s and then stalled in the 1980’s and 1990’s which discouraged producers from investing in new projects. Things started to heat up in the early 2000’s driven by the industrialisation of China.

So where to from here?

There is no doubt that China is slowing. This will affect the Australian mining sector. Australian miners such as BHP are taking prudent action by cutting back on new projects with high entry costs and concentrating on existing projects that remain very profitable. As conditions slow, things will get tougher for the smaller miners. We are likely to see consolidation in the industry moving forward. The bigger miners with projects already in place will benefit from this consolidation.           

What impact will a slowing China have on mining stocks?

Sharemarkets are leading indicators. The S&P/ASX 200 Materials index that tracks the performance of our major miners has fallen 25% over the past year. In fact the index has fallen a staggering 47% from its high in May 2008. Our biggest miner BHP has fallen 37% from its heights in 2008.

There is no doubt that the mining boom is slowing, but this doesn’t mean that the party is over for Australian resource companies. Australia’s largest miners BHP and RIO are still extremely profitable, generating billions of dollars in cash. BHP recently announced annual profit at $17.2 billion. Although this figure was down on the previous year, they are still a very profitable company.

Smart investors buy in gloom. Our top miners are now trading significantly lower than they were a year or two ago. There are certain risks that must be considered, however diversified mining stocks are an important clog in a diversified portfolio. Short term volatility within any sector is possible. However blue chip miners such as BHP and RIO have experienced similar cycles in the past and investors who remained patient have been rewarded over the long term with excellent returns.