Miners unearth profit bonanza with rally set to last into 2017

Melbourne - Miners had been digging in one of Australia’s oldest collieries for almost a century until operations wound down a year ago, the victim of plunging global commodity prices.

Now owner Glencore is resuming output at the Queensland site, the latest sign of a profit bonanza bringing the world’s top metals and energy producers back from the brink.

Everything from coal to iron ore to zinc soared in 2016, rebounding from multiyear lows as output cuts and stronger demand trimmed surpluses. The rallies erased losses that sent the industry reeling from 2015.

The biggest companies - BHP Billiton, Rio Tinto Group, Vale and Glencore - may earn a combined $26bn in the six months through December, a two-year high and 40% more than the first half, forecasts compiled by Bloomberg show.

The windfall won’t end there. Analysts predict more income gains in 2017, which would bolster balance sheets and allow mining companies to pursue acquisitions, raise dividends and cut debt.

If construction remains strong in China, the top metals consumer, the pickup in demand may endure, according to Macquarie Group.

Banks including Morgan Stanley have boosted their forecasts for metals prices and earnings by producers.

"There’s an underlying demand that’s driving the pickup, and that’s probably sustainable," said Edward Smith, Melbourne-based chief investment officer at LegalSuper, which manages A$3bn ($2.3bn) and holds BHP shares.

"It is a recovery from those historic lows."

As recently as January, commodity prices had sunk to the lowest in a quarter century, forcing companies to shut operations, sell assets and cut dividends to reduce debt as their shares tumbled. Since then, markets have tightened and metals have been boosted by China’s credit-backed expansion of infrastructure spending.

Prospects also improved with speculation that the election of Donald Trump as US president will revive growth in the world’s biggest economy.

Metals advance

The London Metal Exchange Index of six industrial commodities, including copper and aluminium, is headed for its first annual advance in four years and the largest since 2010.

According to the average of analyst forecasts compiled by Bloomberg, many prices will move higher next year.
Goldman Sachs Group Inc. expects the gains to continue as global economic growth improves.

"We are in this sweet spot for free cash flow," Colin Hamilton, a London-based commodities analyst at Macquarie, said by telephone December 15, adding that the profit-fuelling conditions for the mining industry will persist into the first half.

"Free cash flow will remain pretty strong, and they will be giving money back to shareholders."

Earnings outlook

In February, Melbourne-based BHP, the world’s biggest mining company, will report earnings before interest, taxes, depreciation and amortization of $8.5bn for the six months to December 31, about 35% more than the previous half, according to the average of three analysts’ estimates compiled by Bloomberg.

Profit at Baar, Switzerland-based Glencore will advance about 24% to $4.9bn, while London’s Rio Tinto will report earnings up 20% to $6.4bn, the forecasts show.

The gains probably will continue. The top four mining companies will report another $27bn of combined earnings in the first six months of 2017, according to the forecasts.

BHP rose 3.3% in Sydney Wednesday, while Rio gained 2.4%.

Morgan Stanley says base metals are a better bet next year than coal or iron ore. The bank forecasts copper will rise to $5 346 a metric ton from $4 854 this year, and aluminium will advance to $1 786 a ton from $1 603.

Zinc will reach $2 728 a ton next year from $2 085 in 2016, it said.

Citigroup says most raw materials will perform strongly next year. Goldman Sachs urged investors last month to bet on higher prices as global manufacturing picks up, the first time the bank has recommended an overweight position for the asset class in more than four years.

Restarting mine

Glencore, the world’s biggest exporter of coal, said in October that it was hiring people for its Collinsville mine in northeast Australia. The site, which began production in 1919, is preparing to restart early in the New Year, buoyed by rising demand from South-East Asia.

There’s no consensus on the duration of the rebound. Demand growth for commodities is likely to slow in 2017, while materials including copper, coal and iron ore are trading well above their marginal costs of production, according to Morningstar, which forecasts weaker iron-ore prices next year and in 2018.

While mines are generating more cash, "the question is looking further out," according to Michelle Lopez, a Sydney-based investment manager at Aberdeen Asset Management, which globally manages $403bn, includes BHP and Rio shares.

She questioned whether the price gains are sustainable given that China may reverse its policy on using less coal and because new iron-ore mines are expanding capacity.

But with more cash rolling in now, mergers and acquisitions have rebounded and dividends are back. The number of mining deals in 2016 is the highest in six years, according to data compiled by Bloomberg.

BHP and Rio altered policies to tie dividend pay outs directly to profit, while Glencore and Rio de Janeiro-based Vale said they will resume payments that were halted amid the price collapse.

"The Chinese economy still has a long way to go before it’s built out," Nev Power, the chief executive officer at Fortescue Metals Group, the world’s fourth-biggest exporter of iron ore, said in a December 16 telephone interview.

The Asian country will need more raw materials as it expands cities and transport networks to accommodate its growing population, he said.

"We should expect to see that continue for perhaps a few decades to come."