It is always tempting to catch a falling knife but sometimes you simply have to stand clear and see where it lands. That is what I suggest investors do with the natural resources sector right now.
Commodity stocks have been plunging for longer than most people think. FTSE 100 listed giants BHP Billiton and Rio Tinto have tumbled 27% and 20% respectively over the last year. Over five years, they are down 45% and 39%. Anglo American, Antofagasta and Glencore have hit the rocks even faster, while Evraz, Kazakhmys and Lonmin have crashed out of the FTSE 100 altogether.
Commodity stocks are notoriously cyclical and as these figures show, the cycle has been firmly moving against them for years. Falling cyclical stocks are tempting because at some point, investors assume the upswing will surely come. There are fortunes to be made if you leap in at the right time. The sector certainly looks attractive to income seekers right now, with BHP Billiton and Rio Tinto yielding 7.19% and 5.34% respectively, and Anglo American’s yield nudging 10%. Some analysts are now calling the bottom of the cycle, and urging investors to fill their boots at today’s dirt-cheap valuations. Personally, I suspect that the commodity rout isn’t over, and share prices still have further to fall.
Latest Chinese growth figures show the country’s GDP rising at an annualised 6.9% in the third quarter, which some took as a promising sign. But this was largely due to the fast-growing consumer sector: industrials are still in the mire. In any case, most people believe the fair and accurate growth figure is closer to 3% or 4%. The figures were bad not quite bad enough to persuade the Chinese authorities to launch another long-awaited bout of easing. It will take more than stimulus to revive the commodity sector, given that most of the extra money will go towards helping Chinese companies service their existing debts, rather than invest for future growth.
The unacceptable truth is that the much-hyped commodity supercycle is over and won’t return. China has had its urbanisation and infrastructure blitz. It has built its ghost cities. Yet companies in the metals and mining sector are still acting as if this is only a temporary slowdown. BHP Billiton and Rio Tinto have kept revenues flowing by ramping up production, even in the teeth of falling demand. This has led to a glut in copper, iron ore and other key metals, and with US growth slowing and European Central Bank QE yet to gain traction, there isn’t enough demand to mop it up.
As Guy Stephenson at Rowan Dartington points out: “The industry has geared itself up for a pricing environment which was unsustainable.” The Chinese growth surge was a once-in-a-lifetime event, or possibly once-in-a-thousand-lifetimes. Investors who are hanging on in the hope that we will see its like again could be in for a lengthy wait.