Mining stocks and China's hard landing

A quick update on some comments I made about China's economy in June: China and the miners - place your bets.

It was a time when the argument over China's faltering economy was finely balanced: would growth rates dip and quickly recover (soft landing) or could China be on the cusp of something more serious?  I suggested that buying mining shares rather than China funds - like Glencore and Anglo Pacific - was a good way to go if you were feeling bullish.

Events since, including lower than expected industrial output, export and inward investment numbers, have pushed the debate decisively in the direction of the China bears.

So have mining stocks declined?  Not really.  Glencore and BHP are up 20% and 15% respectively since my article at the end of June.  Anglo American is down but there are special factors including a disputed copper mine in Chile. Anglo Pacific is up 8%.  Iron ore, coal, oil and copper prices are all up sharply.

So in the short term it looks like the correlation between poor Chinese economic data and mining assets doesn't hold.  However stock markets are forward looking and much of the China bad news had been factored in by the time of my article.

The latest rises represent bounces from previous setbacks not renewed optimism.  The bounce has been attributed to a belief that the Chinese government will ease policy to keep growth rates up and especially sanction another slew of infrastructure projects which are resource intensive.  Another factor is a growing belief that the ECB is prepared to act decisively to head-off the crisis in the Eurozone probably by buying Spanish and Italian sovereign debt.

Where now?  In the medium term it's hard to be wildly optimistic about the Euro situation whatever the ECB does.  As for the bigger question of how long can China keep growing at 8% plus it seems that the authorities will pull all the levers necessary even if that means maintaining the economy's hideous imbalances in particular the bias towards wasteful investment (nearly 50% of GDP) in property and infrastructure.

Meanwhile the big miners are scaling back on some of their expansion plans to reduce the threat of oversupply.  Share price meltdown averted?  For now maybe although it doesn't feel like the right time to pile into resource stocks particularly after recent gains.

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China and the miners: place your bets

“A crisis is an opportunity riding the dangerous wind” goes a Chinese proverb.

For investors who want to make money out of one of the century's biggest and most profitable themes - the commodities boom led by China - now is a time of great opportunity and risk.

There is an apparent opportunity because the mining shares that have done so well are relatively cheap after several months drifting lower.  And risk because the cause of the share price weakness, the slowdown in China, could yet end in a crash.

The China-boom-or-bubble debate has been a hardy internet staple on business/investment chat sites for several years.  Perhaps only the inflation-deflation argument has generated more heated argument.

On the one side you have the China bulls who believe the country's thirty year 10% annual growth record is good for another decade or more yet.  They call the current slowdown a blip and claim normal service will be resumed later in the year as government stimulus measures kick in. These include the first interest rate cut for three years and a car subsidy program.

The China bears fret that the incredible China boom is literally that - too good to be true - and that Chinese growth is unsustainable  Just like Ireland, Spain and Japan, a boom underpinned by cheap money and property speculation will give way to bust.

"Dubai times a thousand" was how a renowned bear (Jim Chanos) put it but he said that 2 years ago and, although property prices have come down in some top tier cities, the general crash he predicted has yet to materialise.

I lean towards the side of the bears but it is an oft-observed fact that the economic phenomena that seem unsustainable can persist for much longer than you think.  People have been calling the demise of the US (and Japanese and UK) sovereign debt markets for years.  They may be proved right eventually but you can lose a lot of money shorting something prematurely.

As for the bull case, I have a lot of time for Dr Stephen Loeb and he is in the "blip" corner.  His article "Silver, Copper, Gold and China" states the case for continuing China growth and a recovery in commodities (and miners) very well.

If you are persuaded by his argument and think the commodities boom has a lot further to run, then now would be a good time to back your judgement and buy ETFs which hold physical commodities like gold and copper which have suffered recently.  Loeb is very keen on silver which has a key industrial role in for example solar panel production.

Another option is the shares of mining companies.  Obvious choices are highly diversified giants quoted in London such as BHP and Anglo-American.  In the past I have had profitable dealings in mining royalty holder, Anglo Pacific (AFP), which has recently been marked down due to some specific problems at a coal mine which it will recover from (see here).

Finally I am intrigued by Glencore which always seems to be in the headlines, most recently because of its on-off merger with Xstrata.  It's shares have slid by almost a third in just a couple of months.  The markets have been a bit dubious of this company I think partly because it's profits derive from trading commodities as much as producing them and the trading bit is somewhat opaque.  However there is no doubt that the people who have built up Glencore, including multi-billionaire Ivan Glasenberg, are extremely smart and ambitious.

Buying Glencore would be a triple play on a China recovery, a successful conclusion to Xstrata merger and on the company's management.  Too rich for my blood but the share price, at under £3, makes it tempting.

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Could a China hard landing end gold's bull run?

Gold has been one of the best performing asset classes for a decade now but recent price declines (it's about 15% down from last year's high) have led some to call the top of the market.

Are they right?  Is there any value left in buying into gold at this stage?  Are the many owners of gold and gold investments like ETFs headed for a fall?

Almost certainly not is the answer but there is a very apparent danger in the short term from a hard landing in China.

To understand why gold will remain in a bull market, consider what has driven gold this far.  Some people crudely characterise gold as an inflation hedge but it's more a form of insurance against monetary collapse and chaos which often leads to inflation.

When governments abuse their currencies and lose fiscal discipline like they did in the 70s it is very difficult to find safe places to put your money. With falling bond and share prices and negative real interest rates at the bank, gold offers a last chance at preserving wealth.

Before the 2008 crash investors bought gold because they saw Central Banks stoking a monetary  bubble which portended some 70s style chaos.  Since the crash worsening government finances and extreme monetary policy have exacerbated these fears and so we have had 10 years of gold price rises without much of the inflation that it is supposed to protect against.

Crucially, on top of gold's appeal to investors as insurance, we have had very low interest rates, often negative in real terms. This negates one of the drawbacks of owning gold - it doesn't earn anything.

Indeed if you want to know when gold is going to peak then the measure to watch is real, inflation-adjusted interest rates particularly dollar interest rates.  If there were any hint that the Fed were going to normalise interest rates at a level a percent or so above CPI then gold would fall a long way in a short time.

But this is not going to happen for a while and the Fed have publicly stated that rates will stay low until 2014.  That will put a floor under the gold price, probably not much lower than where it is now.

The Eurozone crisis makes more money printing likely and is just the sort of thing that gold as an insurance policy is made for, even if in the short term the Euro's weakness is a negative for the US$ gold price (the dollar has been at its highest level for years versus the sickly Euro).

The one cuckoo in the nest could be China. Private sector Chinese demand for gold, like its demand for just about everything else in the last decade, has been relentless and is still growing rapidly.  But a lot of the Chinese economic growth since 2008 has been artificially stimulated by its government, is ill-balanced and unsustainable.

The slowdown this year has been marked and I am sceptical of the soft landing claims.  The papers have been carrying stories like this one about Chinese buyers refusing to take delivery of iron ore and honour commodities contracts - Chinese steel mills defer iron ore shipments.

It is easy to see Chinese demand turning from a positive to a negative for the gold price.  Indian demand, usually a mainstay, has already fallen sharply this year as the economy slows.  But with the financial crisis dragging on with no (happy) ending in sight the overall case for gold is as good as ever.

Electric cars: pie in the sky or investors' heaven?

Electric cars have been the stuff of fiction and speculation for as long as I can remember but, in practice, have posed little threat to the standard gas guzzlers. There are over 600 million combustion engine cars in the world but only a tiny number of electric cars, a fact which is unlikely to change dramatically despite an apparent surge in interest from governments and carmakers.

There are issues of consumer resistance, battery technology, recharging infrastructure, price (including uncertainty over government subsidy) and economies of scale. But there are plenty of interesting initiatives out there : Denmark and Israel are building a network of charging points and "switching stations" where you swap your flat battery for a charged one in less time than it takes to fill a tank. The 2011 Car of the Year was the electric Nissan Leaf which the UK government is trying to get manufactured in the UK. Spain is aiming for 1 million electric or hybrid cars by 2015 though there are doubts about electric car sales in Spain taking off to this extent. One of the main issues in scaling up electric car fleets in Europe is the lack of a common standard for plug sockets.

But despite all the doubts, there is a future for electric cars simply because the alternative of burning through the planet's oil is not going to be viable for much longer. Exhibit 1 - oil price back over 100$ despite a weak economic recovery in most countries. Exhibit 2 - China. Already the world's biggest car market and growing at 50% (and it has a long way to go - only 2% of Chinese own cars). Exhibit 3 - other emerging markets. As India and the rest follow China's path their middle classes will want cars just like everyone else.

Yes, there are bio fuels, hydrogen cells, liquified gas and other alternatives but I suspect that electric will be the biggest part of the solution. In 2010 the Chinese government threw its weight behind the electric car and aims to be the world's biggest producer by 2012. This will be decisive. Which of course means a massive increase in the need for electric power generating capacity which in turn suggests some investment themes:

- forget the prospect of windturbines and solar powering all the new cars; the world will have to turn to the fuels it has in abundance to achieve the necessary scale. That means coal and gas whatever the carbon consequences might be.

- the electric grids themselves will need expanding and upgrading and will be even more important to the economies they serve. This will mean governments have to allow these monopolies to charge inflation-beating prices for decades. Great if you think like me that stagflation is the main threat and need to find good dividend payers (see what do with your savings in 2011)

- presumably controversial nuclear power will have a role. Uranium miners should benefit though their share prices have already surged in recent times.

- battery makers and battery technology companies but you need to do your research. Warren Buffet, the greatest investor of all time, is a fan - see http://www.rationalwalk.com/?p=11079

This is just a thought to tuck away for the long term (and a fairly obvious one at that) not specific investment advice - a lot of related shares in this area have shot up recently any way. One FTSE share that I would be quite keen on for a variety of reasons as a long term play is National Grid.

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