“WANTED! Gold and Silver!”
That was the headline of a leaflet that dropped through my letter-box at the end of last week: “Silverware Urgently Wanted! Diamond Jewellery Bought For Cash! Gold is at an almost record breaking price, so don’t delay. No article too small.”
When the housewives of north Oxford are being urged to raid their jewellery boxes and scurry down to the scrap dealer, it sounds like the bell that rings at the top of the market.
Stock market investors seem to have drawn the same conclusion. Share prices across the natural resources sector have been tumbling. The greed and excited anticipation that was so evident at the start of the year has turned to fear. Private investors have been running for their lives.
But there is an alternative argument here – one that suggests that this could present a decent buying opportunity…
China and India are still very hungry for metals
To get an insider’s view of the problem I headed down to London to meet Andrew Bell. This chairman and chief executive of Regency Mines (RGM) and Red Rock Resources (RRR) knows the sector better than most.
I started by suggesting to him that the recent pullback in mining stocks was nothing more than a knee jerk reaction to a perceived slowing of the Chinese economy. He agreed, pointing to the still high price of iron ore. This is the commodity most fundamental to China’s needs and its price is a good measure of how the economy is faring.
Demand for iron ore is not just a factor of the country’s growth rate, Bell explained. “Under Chairman Mao”, he said, “the Chinese had to live in their place of birth. Mainly that meant in the countryside. But now the process of urbanisation is under way. Every year over twenty million Chinese are quitting the countryside and heading for the city”.
In any case, he continued, India is ready to take up any slack. India’s ‘Hindu growth rate’ was traditionally about 3% per year, strangled by bureaucracy.
“You could not do anything without a permit”, said Andrew. But last year growth of the Indian economy surpassed that of China for the first time.
And here’s a figure for you: 45% of Indians still do not receive electricity. Since nobody has found a way of sending electricity wirelessly, this ensures a continuing demand for copper.
With 40% of the global population living in either China or India, the growth and urbanisation of these two countries will be the overriding factor for commodities for years to come.
A massive gold appetite meets a supply squeeze
Bell sees this growing demand as the key to the price of industrial metals. But for gold, other factors are at work.
On the supply side, South Africa produced over 900 tonnes of gold in the late 1970s. Today its production is below 300 tonnes per year. With world production of 2,450 tonnes last year, that leaves a huge gap.
Meanwhile, two other factors are driving demand. For the last two decades, central banks have been selling their gold reserves. Now though, the tide is turning. Mexico recently bought 100 tonnes of gold, and other countries may choose to diversify their reserves away from the dollar and follow suit.
To this we can add the appetite for gold from the nouveau riche. Demand for gold has always peaked during the Indian wedding season. This year, though, this demand was exceeded by Chinese gift-giving during Chinese New Year.
Commodities will keep rising in the long term
The long view is still surely positive for commodities. Supply simply cannot be cranked up fast enough to meet demand.
In the case of many commodities, oil for example, the obvious resources have already been exploited. A chart I spotted last week projected that output of the world’s operating zinc mines will fall from 12m tonnes to 8m tonnes by 2020, while demand is expected to soar from 12m tonnes to 16m tonnes. Even aggressive mine expansion is unlikely to close this gap.
To me, the current setback in mining stocks looks like a trader’s reaction to three factors. A slight slowing of Chinese growth; a generalised retreat from perceived risk consequent upon the travails of the Eurozone; and some heightening of political tensions between miners and host governments.
But as the chief executive of Zincox (ZOX) explained to me this week, if product prices stay anywhere close to today’s levels, most mining ventures are set to be very profitable indeed.
I agree with Andrew Bell. “If you take a short term view”, he says, “you are competing with everyone else. But if you take a long term view you are competing with far fewer people – and have a better chance of being right”. The long-term view surely favours the bulls.