the china boom will continue

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Fat Prophets Market Comment 25 Aug 08
Resource boom weathering current market turmoil
As we highlighted in last week’s commentary, the resource sector has clearly been unable to evade the ongoing bear market, which has now spread to all areas of the stock market. We don’t believe the commodity downturn is sustainable however, as the Chinese and Indian juggernauts will continue their relentless advance. Our views were supported by comments from BHP CEO Marius Kloppers, who injected a whole load of commonsense into the resource sector debate by pointing to the strong underlying fundamentals of the advance by the emerging economies, led by China.
Investors should take a good long look at some of the graphics supplied in BHP CEO Marius Kloppers’ presentation that accompanied the company’s record full-year results released last week. They make interesting viewing and put the recent setbacks related to commodities and mining companies into their proper context. They essentially support our view that the China-led mining boom will last for at least another decade, most likely more.
You can also hear some of our analysts’ comments with respect to the BHP result on the Members’ section of our web-site.


Market Comment 25 Aug 08
Resource boom weathering current market turmoil
As we highlighted in last week’s commentary, the resource sector has clearly been unable to evade the ongoing bear market, which has now spread to all areas of the stock market. We don’t believe the commodity downturn is sustainable however, as the Chinese and Indian juggernauts will continue their relentless advance. Our views were supported by comments from BHP CEO Marius Kloppers, who injected a whole load of commonsense into the resource sector debate by pointing to the strong underlying fundamentals of the advance by the emerging economies, led by China.
Investors should take a good long look at some of the graphics supplied in BHP CEO Marius Kloppers’ presentation that accompanied the company’s record full-year results released last week. They make interesting viewing and put the recent setbacks related to commodities and mining companies into their proper context. They essentially support our view that the China-led mining boom will last for at least another decade, most likely more.
You can also hear some of our analysts’ comments with respect to the BHP result on the Members’ section of our web-site.


One of the most interesting and astounding statistics that Marius Kloppers’ outlined with respect to China was the country’s huge appetite for iron ore that is set continue for decades. He pointed out that by BHP’s estimates, China will add around 40 billion square metres of new floor space over the next two decades. In order to do this, China will consume over the next 20 years as much iron ore as has been produced by the world over the past century.
Just think about that – one country alone consuming as much iron ore as the world has produced over the previous hundred years in just one major application, construction. And this does not take into account India’s amazing economic expansion!

Which is why in last week’s sector comments we argued that in the face of the current share market turmoil, with all of its volatility and angst, we believe it is essential to remain focused. We do not believe that the bull market in commodities and resource equities is over; far from it. Whilst we do acknowledge that there is the possibility of further downside in the mid and large-cap resource companies, this is likely to be less severe given the already-significant declines.
We also anticipate some bargain-hunting from astute buyers, as investors appreciate a true buying opportunity when they see it.

Right now, precious metals, energy and commodities are experiencing a sharp and nasty correction. While this could continue for a few more months, as happened during the second half of 2006, we maintain that we’re in a correction, not a long-term bear market.
To put what is currently taking place into perspective, it is worthwhile to re-cap on exactly what is going on. Investors, faced with the prospect of slowing economic growth in the US mainly, began a wholesale sell-off of commodities and mining stocks in early July, with small and mid-cap companies by far the worst hit.
This sell-off has coincided with the seasonal drop in commodity demand and prices, which typically takes place during the lower-demand period coinciding with the Northern Hemisphere summer holiday period. As we have pointed out in previous commentary, exacerbating the situation this year is the Beijing Olympics, with China in self-imposed industrial slumber.
This inevitably meant that commodity markets were particularly vulnerable to the sort of massive selling pressure that we have witnessed over the past six weeks. As a result, oil, gold and base metals have fallen by more than 20% over this period. But how reflective is this of underlying, long-term demand. The answer is quite simple: in no way do the recent commodity price corrections reflect ongoing demand strength and supply-side tightness.

In our view many commodity stocks are now at oversold levels, as is clearly demonstrated in the oscillator charts for the US S&P 500 Energy Index (above) and gold (below), which shows a rolling 60-day rate of change going back ten years.

In addition, many resource stocks are trading on price-earnings multiples of under ten times, which should be supportive from a valuation perspective.
As we have emphasised on many occasions, the inverse relationship between gold and the US dollar is widely known. This relationship is especially important at what are known as ‘inflection points.’ We have noted recent commentary from what we regard as highly respected market-watchers, US Global Investors, which cites that we are currently at one of these inflection points.
They argue, based on the following chart that the extreme inverse movements of the gold price and the US dollar is reminiscent of 2006, when gold was extended on the upside and the dollar had suffered a sharp decline.

Returning to the near-term outlook for commodity prices, we believe that we could well begin to see a steady recovery during the final quarter of 2008, based on increased buying (re-stocking) from the Northern Hemisphere. China could well play a large part in this, particularly as it re-awakens from its Olympics slumber. Crude oil could well rally on the back of buying ahead of the Northern Hemisphere winter, which is one of the year’s peak demand periods.
And the conditions are right for acceleration in Chinese demand: commodity prices are trading at recent lows, which should encourage buying, whilst the latest statistics on Chinese inflation show that the country’s inflation rate cooled during July to its lowest level in ten months. This gives the Chinese government the room it needs to boost consumption. And domestic demand in China is still strong, with retail sales during July growing at their fastest rate since 1999.
We therefore remain optimistic about the longer-term picture for commodities, however the short-term will be characterised by volatility related to ongoing uncertainty with respect to financial markets and credit worries emanating from the US. Longer-term, commodity supplies remain very tight and as global demand inexorably increases in line with population growth, prices for both commodities and resource companies will reflect this.