Fueled by the insatiable appetite of the Chinese Government to build, build, build; ASX iron ore miners led Australia on an unprecedented mining boom, with the price of iron ore eclipsing US$180 per tonne in early 2011. The price softened in 2012, leading to some opining the boom was about to end, with others in the investment world disagreeing.
By 2014 the “death of the mining boom” was a more frequent topic in the financial news, with the price dropping to a low just north of US$40 per tonne in early 2015.
By February Australian Prime Minister at the time, Julia Gillard, contradicted a statement earlier in the year from Resources Minister Martin Ferguson who flatly stated, ‘the resources boom is over.’
Speaking at a mining conference in Perth, Gillard also flatly stated ‘reports of the mining boom’s death have been exaggerated.’
Gillard’s view was that the resources boom had three phases, the first of which – the price boom – was indeed fading. However, she expressed the view this phase would be followed by a production boom and the continuation of urbanization in China and India.
Other government officials predicted declines in mining investments, which did in fact happen. However, it now appears Gillard was right about the production boom as the initial response of the iron ore sector was to cut costs and shed assets. Then to the surprise of many in the investing community, the miners ramped up production despite lower prices and a supply glut.
Amid the confusion, many retail investors bailed out on once prized holdings in ASX iron ore stocks.
There are a myriad of experts commenting on the difficulties faced by the retail investing community when entering the stock market. Financial websites portray some gloomy numbers on minimal gains experienced by retailers.
Much of this can be attributed to investing behavior. Far too few retail investors take the advice of experts to develop a well-researched investment thesis, outlining their reasons for investing in a given stock. The more typical behavior is to follow the herd, in the often-mistaken belief the herd can’t be wrong.
The obsessive fear of losing money in an investment drives some retail investors to wait until a stock has gone red-hot, as evidence the market believes the company can do no wrong. This virtually guarantees paying a high price for the stock, which often leads to panicked selling when the price declines.
More disciplined investors are less afraid of “missing out,” opting instead to research the stock and the industry in which it operates.
The herd moves both ways and joining in a downward stampede eliminates the potential to let the great healer of many things in life take effect – time.
While the junior miners got crushed, the major players – BHP Group (BHP), Rio Tinto (RIO), and Fortescue Metals (FMG), were able to cut production costs enough to remain profitable, even at the lower prices. A five-year price chart from yahoofinance.com.au shows the resurrection of these three mining companies.
All three have seen double digit share price gains since the dark days commencing in 2014. While BHP remains broadly diversified with exposure to the falling price of oil, Rio Tinto chose to concentrate on core assets, and it appears the strategy paid off. Pure play iron ore producer Fortescue – once the hottest stock during the boom years – has rebounded as well.
BHP has shed its loss-generating shale oil and gas assets in the US, and lags behind rivals Rio and Fortescue in most measures. Any investment thesis for the big three miners would include dividend payments, which have sustained returns for investors who bought in during the boom and held on. The total shareholder return in the table is an average annual rate, which serves to smooth out the peaks and valleys of share price appreciation alone. The following table lists some price information and relevant historical performance measures.
Risk tolerance is another component of a well-thought out investment thesis. If total return is of primary importance to the investor, pure play commodity producers offer more reward along with more risk should the chosen commodity underperform. The price of iron ore is rallying, with a big boost recently from the collapse of a dam in the Brazilian operation of one of the world’s largest iron ore producer, Vale. Investors with lower risk tolerance would seek safety in diversified companies like BHP and RIO.
Another factor in an investment thesis that could cause wary investors to hold on is an understanding of the market in which the business operates. Australia has the largest iron ore reserves in the world, and despite the cyclical nature of commodity pricing and demand, the panic selling in the sector suggests some investors were of the belief China and the rest of the world were on the cusp of ceasing the use of steel. Further, the price of the commodity is only half of the profit equation. The other half is the cost of production, which the big iron ore miners attacked aggressively.
The price of iron ore was on an upward trend prior to the Vale disaster, with investors betting on Fortescue as the iron ore producer of choice. First, the price of iron ore, year over year.
Year to date, the share price of FMG has significantly outperformed its rivals, as seen in another price chart from yahoofinance.com.au.
Fortescue has multiple operating mines in the Pilbara region of Western Australia, along with the company’s wholly owned infrastructure of rails and port facilities. The recently released Half Year 2019 results showed slight declines in revenue, down 4%, and net profit, down 5%. The company mined and processed more ore and declared a special dividend, implying high confidence in the future. The company’s C1 costs – costs occurring at each stage of mining, processing, and delivery – were up 8% to USD$13.11 – with management confident increased production in the remainder of 2019 will drive down the cost.
The price quotes for iron ore typically reflect the higher grade 62% Fe, with Fortescue historically producing lower grades. Fortescue has a new iron ore mine in development along with an exploration project for a copper/gold mine. Perhaps its most significant future project is the Joint Venture partnership in Iron Bridge Magnetite Project. Magnetite iron ore has consistently higher ore grades than the more commonly mined hematite.
At first glance Rio Tinto drops off the list for many, considering the steep forecasted decline in dividends. However, taken in context, the decline is based on the unusually high payments this year, up 9/8%. The company has an outstanding dividend track record, with a 10-year average dividend growth rate of +35.6% surpassing its five-year average.
The company’s Full Year 2018 Results were outstanding, with an 11% revenue increase along with a 42% profit increase. Rio has continued divesting non-core assets, generating $8.6 billion in FY 2018.
Rio mining operations include aluminium, copper, gold, energy & industrial minerals along with iron ore. The company’s mining operations are spread around the world, in Australia and 16 different countries. Rio is at the forefront of mining technology, launching its first driverless iron ore carrying train this year and working with Alcoa on Elysis, a joint venture to eliminate greenhouse gas emissions from aluminum smelting operations. The company divested its last remaining coal assets in FY 2018.
Rio derived 45% of its revenue from China with US operations a distant second at 15%, followed by Asia, excluding China and Japan, at 12%. Rio may be diversified, but iron ore is by far its principal source of revenue, generating underlying EBITDA (earnings before interest, taxes, depreciation and amortisation) of $11.3 billion, with Aluminum second at 3 billion. The company’s 16 operating mines in Western Australia are supported by a 1,700km automated rail network and four port facilities.
BHP Group, like Rio, is diversified but still generates the most of its revenue from its iron ore operations in Western Australia, with five operational mines and four processing centres. The company also mines coal in Queensland and nickel in Western Australia. The Olympic Dam operation near Adelaide mines copper along with uranium, gold, and silver.
The Minerals Australia operating division is complemented by the Minerals America division with multiple mining operations in South American countries, with copper mines in Chile and Peru, an iron ore mine in Brazil, and a 33% Joint Venture arrangement in a Colombian coal mine.
BHP investors have lived through some disappointing growth attempts by the company, including the disastrous purchase of US shale oil and gas assets, later sold to BP at half the cost. In Canada the company heralded its purchase of the mineral rights in the Jansen Potash Project, still in the exploration stage.
Finally, the company’s Petroleum division includes wholly owned oil and gas fields here in Australia along with joint venture in two other projects as well as two oil fields in the US Gulf of Mexico off the coast of the state of Louisiana.
BHP derives 41% of its revenue from iron ore, with 22% coming from petroleum and 19% from coal. The company’s Half Year 2019 results saw an 8% profit drop, attributable to operational problems including “unplanned outages.”
The company has a six-point plan to “grow shareholder value and improve returns,” with cost efficiencies at the top of the list, along with technology enhancements and two major projects under development in copper and petroleum.
