Mining stocks will justify an upgrade versus the broad market should commodity prices retain their recent strength and management teams return excess cash to shareholders rather than blowing it on ambitious new projects or deals, according to one of the world’s most influential mining investors.
Evy Hambro, BlackRock’s chief equity investment officer for natural resources, says the outlook for the sector “is once again promising” with supply constrained and the global economy set to grow 3.7 per cent.
That could help trigger further gains for the sector but only if top executives remain disciplined and use excess capital to bump up dividends or fund share buybacks, said Mr Hambro.
“The outlook above should leave . . . shareholders at the mercy of management teams in terms of them either remaining disciplined and not over-investing capital back into the business or reverting to the bad old ways of value destruction,” said Mr Hambro in annual results statement for the BlackRock World Mining Trust, which he co-manages with Olivia Markham.
“Should the former play out again as it did in 2017, it leaves the companies in a strong position to return surplus cash to investors and hopefully trigger a share price re-rating as investors rotate their portfolios back towards the sector,” he added.
In spite of the sector’s strong performance over the past two years — the FTSE 350 mining index has risen 170 per cent — it has yet to re-rate and is currently cheaper than it has ever been compared to the wider market.
According to Glencore, the Swiss miner and commodity trader, the enterprise value of the FTSE 350 mining index is 5.8 times prospective earnings before interest, tax, depreciation and amortisation. The FTSE 100 by contrast trades on 7.6.
While London’s four big miners — Anglo American, BHP Billiton, Rio Tinto and Glencore — have just announced bumper dividend payments and slashed spending on new projects, many investors remain wary of the sector because of its record and the inherently volatile nature of commodity markets.
During the commodities boom of the 2000s, the mining industry invested more than $900bn of shareholder money on new projects and deals to feed China’s seemingly insatiable appetite for raw materials.
Much of this new supply hit the market just as growth in China started to slow, sending prices — and with them the profits of the biggest miners — into a tailspin during 2015 and 2016.
To drive a re-rating, analysts say the industry needs to show that it has learnt the lessons of the past and can be responsible stewards of capital.
A survey of 40 senior executives published by lawyers White & Case on Tuesday showed that dividends and share buybacks remain the top priority for the industry in 2018.
Commodity prices have risen sharply over the past two years, supported by a lack of investment in new capacity and supply-side reforms in China that have reduced excess capacity.
While they are likely to remain at levels that will allow miners to generate strong margins, Mr Hambro said costs were also likely to rise “as inflation in some areas of the operating base looks set to increase”. However, these increases were manageable, he said.
“Our expectation is that the impact on margins can be minimised by further productivity gains,” Mr Hambro said.
The share price of BlackRock World Mining Trust rose 24.2 per cent in the year to December, outperforming its benchmark, the Euromoney Global Mining Index, which climbed 20.8 per cent.
Source: FT.com
