Sometimes I feel like the last living investor who made a profit from the mining sector, through my short-lived dalliance with BHP Billiton (LSE: BLT). It seemed a pretty straightforward decision to sell it a couple of years ago. China had been slowing for several years and this seemed a clear sign that the commodity super-cycle would puncture at some point. And when super-cycles puncture you can’t patch them up with a quick repair job.
Cycle killer
So I dumped BHP Billiton and have been feeling pretty smug about it ever since, with the stock crashing 62% since then. It isn’t every day that you spot the end of the super-cycle and I only wish I did it more often. But forget past glories, the question now is when will the cycle swing upwards for BHP Billiton and other miners such as fellow FTSE 100 giant Rio Tinto (LSE: RIO)?
Let’s make one thing clear: I don’t think the super-cycle will return in the foreseeable future, and maybe never. The China growth story was a one-off historical event that happened before our very eyes, one that lifted 400m people out of poverty and turned the communist basket case into a world economic superpower. That story isn’t over. China isn’t returning to a world of blue Mao suits and rural poverty. Instead it’s becoming more like us, a nation of consumers rather than industrialists, producers and exporters. That means its mania for metals and minerals will be tempered. In fact, it’s government policy. Hard or soft landing, nothing will change that.
Mining misery
That doesn’t mean that commodities will fall forever. At some point, prices will bottom-out. That will take some time as there is still just too much supply. Start-up costs are the big hurdle when drilling a new mine, once the hole is there you might as well keep emptying it. This has kept production high and the subsequent metals glut has forced commodity prices even lower.
BHP Billiton and Rio Tinto have contributed to the stockpiles in the hope, Saudi style, of driving out smaller-scale, higher-cost rivals. Their economies of scale should eventually outmuscle the seven-stone weaklings but in the meantime the pain will continue for investors. Prices for iron ore, copper and aluminium are forecast to fall further. S&P has just downgraded BHP Billiton’s credit rating and is said to be considering the same fate for Rio Tinto. BHP Billiton’s 13.6% yield, covered just once, must bow to the inevitable. Rio Tinto’s may have more staying power, yielding 9.2% covered 2.3 times, but this can’t go on forever. At least BLT’s total net debt of $24.4bn and Rio’s $13.68bn aren’t immediate market concerns, even if they look like big numbers to me.
Pain Before Gain
I wouldn’t buy either of these stocks today on the assumption that demand is going to pick up, as I can’t see that happening. BHP Billiton and Rio Tinto won’t start growing until supply has slumped and the glut has cleared, and I foresee plenty more pain before we hit that point.