Mines a large one

By Richard Hunter 10:46 13- Aug -2007

They may not be household names but, just as the sign of the times around the Millennium was a swathe of dot.com companies reaching the FTSE100, so there has been a quiet invasion over recent years – the mining stocks.

Together they now account for nearly 10% of the FTSE100 by value and their very nature as investments is beginning to be seen differently, as the inexorable demand from the likes of India and China shows no sign of slowing for many years to come.

Demand for raw products and especially steel in construction has actually led to demand outstripping supply in many commodities, pushing their prices – and therefore the companies which mine them – to all time highs.

At present, there are eight mining stocks to be found within the premier index – Anglo American, Antofagasta, BHP Billiton, Kazakhmys, Lonmin, Rio Tinto, Vedanta and Xstrata.

The most recent theme emerging from this sector is that the major players have become cash generating giants. There have been a number of actions resulting from this cash glut, such as a number of major corporate share buyback schemes – themselves lending further support to the share prices – and the return of capital in the form of special dividends.

There has also, inevitably, been a great deal of Merger & Acquisition activity, as companies look for economies of scale and expertise in specialist areas which they do not currently possess. By definition, the mining sector is a global one with natural resources being strewn around the planet and, as such, the pace of consolidation has very much had a global element.

Already this year, CVRD of Brazil acquired Inco of Canada in a deal worth £8.7 billion, whilst London listed Xstrata bought another Canadian company, Falconbridge, for around £10.4 billion. In July Rio Tinto made an offer to acquire Canadian aluminium company Alcan for £19 billion, and rumours persist that BHP Billiton and Alcoa of the US, along with the likes of Zinifex of Australia may yet become embroiled in this global consolidation.

There are some concerns that the price Rio is bidding for Alcan is at the top end of the range, but the company has already stated that, in its view, “This transaction will enable Rio Tinto’s shareholders to benefit from the favourable demand fundamentals of the aluminium sector and the synergies and enhanced development opportunities which the combination of our businesses will deliver.”

As such, it has even been suggested that the private equity companies who have made their presence felt on world markets may be contemplating a move on the mining sector – notwithstanding the current concerns around a potential credit crunch. Previously mining shares were dependent upon economic cycles but the new world order and the onset of demand have given them traits of a defensive stock. This has been helped along by some reasonable yields – as well, of course, by the fact that apparently size is no barrier to them becoming potential bid targets.

The outcome of this situation is that none of the mining experts are expecting the wave of bid speculation and activity to go away in the foreseeable future and, even for those companies which choose not to acquire, or be acquired, the future seems almost underwritten by the current glut of interest in the sector.

For the record, in the UK the general market view of the eight FTSE100 mining companies are as follows – Antofagasta (weak hold), Anglo American, Lonmin and Rio Tinto(hold), Xstrata (strong hold), Kazakhmys, BHP Billiton and Vedanta (buy).

“There’s gold in them thar hills”?

From an ongoing investment perspective, up until now this has very much been the case, and plenty more besides.

Richard J Hunter
Head of UK Equities