03 February 2020

Resources Insider Issue 1

Robin Bromby

Brace, brace, brace — but don’t panic

Time to take a very, very deep breath.

The big question on the minds of investors in mining and energy stocks must be whether it is possible to “keep calm and carry on”.

It seems a hardly propitious time for Resources Insider to launch its first edition with the world increasingly gripped by fear of the coronavirus. Then at the weekend, reports came out of China that bird ‘flu is back, too, with an outbreak in Henan province — which, believe it or not, borders Hubei, epicentre of coronavirus.

Sure, the news on Friday was bad. The Dow down 603, the S&P 500 off 1.77% — and the big news, the Baltic Dry Index off 10.5% over the week as some of the larger industrial hubs in China closed their doors due to the virus. The index, which tracks bulk commodity (coal and iron ore among them) shipping rates, reached its lowest level since early 2016.

But time to take that deep breath.

Even after a punishing two weeks, the metals showed on Friday they are not going to give up easily. All base metals traded on the London Metal Exchange actually rose — copper by 0.3%, zinc 0.2%, lead 1.2%; even beleaguered tin managed a 0.7% gain.

The one thing you will deduce each week in Resources Insider is that we can distinguish between “cycle” and “trend”

In 2013 David Jacks, an economics professor at Simon Fraser University in Vancouver and a research fellow at the Massachusetts-based National Bureau of Economic Research, put the metals world into some sort of perspective. As he pointed out, the global economy witnesses protracted and widespread commodity booms once in a generation.

He took as his base year 1900, with the index base of 100.   

From that starting point, the index rose to about 150 only once (during the First World War) and in 1974 was pretty well back at the 100 level.

But in 1980 (no doubt spurred by the oil shock of that time) the ‘in the ground’ commodity index hit 350. However, it took a few blows after the 1987 crash and by 1998-99 was back close to the 100 base of 1900.

We know what happened then. By 2007--08, the ‘in the ground’ index hit 400 as the resources boom made its impact. Then came the GFC, but within two years the resources sector was already in recovery mode.

This writer remembers the late 1990s all too well. No one wanted to know about junior mining stocks; gold explorers became plays as the only means of staying solvent. It all seemed hopeless. Yet by early 2008 we had seen a uranium frenzy, a phosphate frenzy, gold prices went giddy. In 2011 it would be rare earths’ turn to have punters beating at their doors.

Clearly we are in a down phase of the cycle now. But by 2030, if world leaders have their way, most of us will be driving electric cars — all needing batteries.

The present shock is the cycle. Electric vehicles are the trend.


Tokyo signals it will keep buying lithium, cobalt and rare earths

Japan is increasingly worried about China’s grip on the supply of metals for electric vehicles. According to the Nikkei news service, Tokyo believes Beijing is strengthening rather than weakening its control over these metals — Chinese interests now own companies producing about one-third of cobalt production in the Democratic Republic of Congo.

Japan at present maintains stockpiles of nickel, lithium, cobalt, rare earths and other metals equal to about 60 days of demand. The country’s trade ministry has decided to revise regulations for the state-owned Japan Oil, Gas and Metals National Corp. (JOGMEC) to allow it to raise stockpiles to “undisclosed levels”.

“Beijing promotes electric vehicles as a national project and Japan worries that the neighbour might control supplies of the essential materials,” the Nikkei report adds.


Battery demand — don’t forget nickel

“Amongst the more mature metal markets, nickel stands to benefit the most from rising battery demand in the electric vehicle space,” writes Vivek Dhar, the commodity chief at Commonwealth Bank, in his latest commodities update. He sees lithium-ion battery technology using nickel manganese and cobalt (NMC) chemistry emerging as the leading choice for EVs.

Not only does NMC chemistry produce a higher energy density but by increasing the ratio of nickel in such battery chemistry improves energy density even further. Nickel accounts for 48% of the weight of NCM 811 batteries.

Dhar reckons that nickel prices will average somewhere between US$13,224/tonne and US$14,326/tonne this year and in 2021 — somewhat higher than prices of late. One caveat: no one is quite sure about stainless steel demand, which has been the main price driver, or when the battery demand for the metal will gain greater price influence.

But according to the London-based commodity research firm CRU Group, nickel demand from the battery sector will see rapid growth. In 2019 batteries accounted for 5% of nickel demand but by 2040 will represent a third of total demand.

(There’s that trend-thing again.)


Tips from the experts

It took more than 200,000 metres — of 200 km— of drilling to establish the resource at each of the Karlawinda and Bombora gold projects in Western Australia to establish the size of the resource. So don’t, therefore, be dazzled at first sight by some impressive intercepts reported by gold explorers. That’s the advice in the latest weekly client note from Warwick Grigor at Far East Capital who charts more than 130 resource stocks on a daily basis.

Too often explorers highlight a few good intercepts out of any drill program even when these are not representative of the general population of results. Look deeper and wider, says Grigor. “The excitement should be saved for when you start to get a real appreciation of the size and the grade of the system.”

Meanwhile, Christopher Ecclestone, an Australian who runs commodity researcher Hallgarten & Co in London, says there are some metals that have seen little or no development of late, including some rare earth elements and tellurium — and of which we are seeing a decline in Chinese production due to over-production, exhaustion and environmental devastation.

Watch, too, he says for China to lose its whiphand with some countries. He cites Myanmar where relations with Beijing are now rancorous after China was just a little too bossy over exploiting Burmese rare earth resources. Beijing is also rumoured to be behind regime change in Bolivia after President Morales removed China’s lithium concessions.

Ecclestone sees a looming “war” over the world’s scarce specialty metals resources.

(Ecclestone earlier alerted investors to one key rare earth story. Erbium, one of the less discusses elements, is vital for 5G systems and at present China controls all erbium production. Hence Huawei’s lever into 5G projects.)


Peak Gold Again?

Gold sales in China have fallen substantially in the past week as the coronavirus assumed a greater threat.

But, at the same time, the World Gold Council reported during the week that mined output of the metal fell by 1% last year to 3,463.7 tonnes. Apart from a small fall in 2008, mined gold output has been on the increase since the 1970s. Goldcorp chairman Ian Telfer predicted three years ago that we were close to peak gold, that we have found most of the world’s mineable gold.

Interestingly, China — the world’s leading producer — saw output drop 6% last year, the third year of decline in a row. This will lend support to those who say that Chinese miners are on the road to exhausting their gold resources.

In 1998, when the gold price averaged US$294.10/oz (and the year that the British and Australian central banks chose to sell of amounts of their gold), there were 15 major gold discoveries around the world.

According to S&P Global Market Intelligence, in 2012 (when gold averaged US$1669.82/oz) only three major discoveries were made globally.

And, in addition to the caution suggested above by Warwick Grigor, remember that not every discovery results in a mine. In fact, a paper a few years ago from Richard Schodde of Melboune-based MinEx Consulting showed that of the 1,192 significant gold discoveries announced since 1950, only 1,018 of those ended up as a mining operation (a 51% success rate).

Schiffgold, a company run by legendary New York investor Peter Schiff, posted a note last week arguing that, even with gold prices rising, mining companies are having a difficult time covering the higher cost of mining the harder to reach, lower quality gold left in the earth.

Unlike with most other metals, we have never had a gold surplus. But it now looks possible that we have a gold deficit. Supply deficits usually mean higher prices.

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