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Posts Tagged ‘bubble’

Oliver Wyman: Commodities bubble

February 15, 2011 Comments off

2015: Based on favorable demographic trends and continued liberalization, the growth story for emerging markets was accepted by almost everyone. However, much of the economic activity in these markets was buoyed by cheap money being pumped into the system by Western central banks. Commodities prices had acted as a sponge to soak up the excess global money supply, and commodities-rich emerging economies such as Brazil and Russia were the main beneficiaries. High commodities prices created strong incentives for these emerging economies to launch expensive development projects to dig more commodities out of the ground, creating a massive oversupply of commodities relative to the demand coming from the real economy. In the same way that over-valued property prices in the US had allowed people to go on debt-fueled spending sprees, the governments of commodities-rich economies started spending beyond their means. They fell into the familiar trap of borrowing from foreign investors to finance huge development projects justified by unrealistic valuations.

Once the Chinese economy began to slow, investors quickly realized that the demand for commodities was unsustainable. Combined with the massive oversupply that had built up during the boom, this led to a collapse of commodities prices. Having borrowed to finance expensive development projects, the commodities-rich countries in Latin America and Africa and some of the world’s leading mining companies were suddenly the focus of a new debt crisis. In the same way that the sub-prime crisis led to a plethora of half-completed real estate development projects in the US, Ireland and Spain, the commodities crisis of 2013 left many expensive commodity exploration projects unfinished.”

Source: Oliver Wyman: The Financial Crisis of 2015, February 2011

Observations:

  • Oliver Wyman, the international consulting firm, recently published a report in which it describes ‘the avoidable history’ of the next financial crisis. It foresees a bubble of commodity prices, caused by cheap money supply to developing countries in reaction to increased regulation in the developed world.
  • Wyman lists a number of prevention measures that should help to prevent the scenario sketched above from happening, removal of subsidies and scenario planning for development decisions being the most applicable to the mining sector.

Implications:

  • The factors Wyman does not include in its analysis are the long development lag of natural resources projects, causing supply to trail demand changes by several years, and competitive dynamics in the industry. Both factors might eventually strenghten the effects described, but a burst 2015 might be a too aggressive timeline.
  • Careful analysis of the sustainability of demand growth in Asia, in particular in China, is crucial for the investment decisions for long term projects in all mining firms, not only the companies that have Chinese customers. Once Chinese demand slows down the global fulfillment dynamics will change, making the low cost suppliers (totalling production and transportation costs) survive.

©2011 | Wilfred Visser | thebusinessofmining.com

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Steel Prices Under Pressure

June 1, 2010 Comments off

“The world’s steel mills are ramping up production so quickly that prices in some markets are expected to fall 5% or more in June, and inventories are growing.

Mills in China, the biggest driver of global steel prices, and Eastern Europe are churning out record amounts of steel. The surging output comes amid signs that the world’s economies may not be on a strong upswing, prompting worries that supply will outpace demand and restrain prices just as they were beginning to rise.

‘The possibility of overproduction in the market is a concern,’ said Lakshmi Mittal, chief executive of ArcelorMittal, the world’s largest steelmaker.

Annualized global steel output, based on a record April, is expected to climb to 1.5 billion metric tons from about 1.25 billion metric tons in 2009. At the forecast 2010 rate, output will exceed consumption of 1.3 billion metric tons, according to the World Steel Association.”

Source: Wall Street Journal, June 1 2010


Observations:

  • According to the world steel association, capacity utilization of steel mills is up to 80%. The increased supply of steel is preceeding an increase in demand.
  • Economists warn for an iron ore price bubble (FT, May 31). Prices are rising much faster than mining costs in the past months.

Implications:

  • For mining companies, the accelerated ramp-up of steel production is a positive development. Miners can ramp up production profitably quicker, and will thus be prepared for a potential new demand surge from China and India.
  • Oversupply might reduce steel prices in the short term and will dampen price increase in the medium term, but will quickly be forgotten if demand picks up as expected.

©2010 – thebusinessofmining.com