PORTFOLIO POINT: Resources companies tended to be undervalued in...

PORTFOLIO POINT: Resources companies tended to be undervalued in a buoyant trading environment, which is likely to lead to intense merger activity.


Despite residual concerns about base metal prices, intense merger activity is set to underpin strong share prices for global mining stocks in the year ahead. That's the insider’s view from two of the world's most important mining stock conferences – the Merrill Lynch meeting in Dublin and MEMS conference in Colorado – both held in recent weeks.

On Monday Merrill Lynch resource specialist Vicky Binns concluded her conference report with: "Most Q&A sessions were dominated by discussions of M&A; ie, the bid, the failed bid and the didn't bid!"








Binns is not as bullish on the prospects for base metals prices as some of her colleagues elsewhere. This might explain her second observation, that nearly all executives presenting at the conference predicted that supply would continue to struggle to keep up with growing demand.

She added, however: "Most [executives] appeared quite confident of their own ability to deliver."

A few weeks before the Merrill Lynch Dublin conference, another high-profile gathering of industry experts took place in the US, in Golden, Colorado. The annual Mineral Economics and Management Society (MEMS) Conference tends to attract many well-respected academics, thoroughly seasoned mining professionals and highly regarded industry consultants.

I've received a detailed report from the closed-session conference from one of the participants, who wishes to remain anonymous.

What stands out from the MEMS report is that Binns' observations in Dublin equally apply to Colorado: the industry shares a general feeling that share prices, and thus resource companies, are undervalued amid an overall buoyant trading environment. As a result of this, the M&A trend within the industry is expected to intensify and ultimately revalue assets to more appropriate price levels.

Those at the MEMS conference would not deny the basic principle that supply and demand will ultimately reach a balance and that this will push down product prices from today's highly elevated levels. They simply think achieving this balance is likely to require more time than securities analysts are willing to put into their models.

Interestingly, the overall view at the Colorado conference was that the same is true for the oil and gas industry.

As things turned out since late April, the MEMS participants have been spot on as far as M&A fever and revaluation of resources companies are concerned. In between both conferences Alcoa launched a hostile bid for Alcan and the board at Rio Tinto (RIO) has reportedly hired Morgan Stanley to fend off possible suitors after a spectacular rumour swept the market that BHP was preparing a $110-plus bid.

Having said that, base metal prices could still face a short-term correction, especially nickel.

Nickel has been the standout performer among base metals since May last year. The spot price has risen 50% since January this year, taking the metal's price beyond $US50,000 a ton – a figure deemed impossible as recently as only a few months ago.

While the number of market experts who have turned in favour of a much-stronger-for-much-longer scenario for nickel has gradually grown this year, even the most bullish among them have recently started to concede the current price level does not seem sustainable, making a price correction the most logical outcome.

Given the pivotal role of nickel in the base metals industry this year, it is likely that a serious retreat in the spot nickel price will have an impact on the likes of copper, zinc and aluminium as well. While this tends to lead to weaker share prices for explorers and producers, the bulls in the market remain convinced that product prices will recover from any pull backs.

If this view is correct, the looming correction in base metals, which may already have begun this week, should provide investors with plenty of buying opportunities.

On Monday, respected resources analysts at UBS increased their long-term nickel price forecast from $US4.50 a pound to $US7 a pound based on growing marginal capacity and significant cost inflation in the industry. The analysts believe the latter to be largely secular in nature, supporting a higher price forecast.

Similar to other experts, UBS sees "near-term risks to spot nickel prices". The analysts also note "long-term prospects appear well supported".