Commodity prices remain robust yet share prices languish

The Goldman Sachs Commodity Index shown above is comprised of the principal physical commodities that are the subject of active, liquid futures markets including metals, energy and food.

The GSCI is an excellent proxy for global demand and sentiment on the commodity front and looking at the last 4 months, the index has been remarkably bullish. After a sell off in June, sparked partly by fears of a Chinese slow down, the launch of QE3 by the Federal Reserve and a weakening of the dollar have moved the index almost 20% higher in the last 4 months.

Certainly, the price of many big cap miners has not reflected the bullish picture of the overall index as iron ore and platinum prices have suffered badly in 2012 although they have rebounded in recent weeks and all depends on further stimulus by the Chinese government to reignite battered sentiment. For example, Lonmin is down 55% in the last 12 months with issues at its South African platinum mines as well as the platinum price decline weighing.

Credit Suisse issued an earnings downgrade for several companies in the metals and mining sector this week citing, “the sector faces major head-winds through structurally slowing demand growth, falling margins and returns and weak cash flows. We continue to prefer companies that offer defensive margins and valuations, volume growth and lower execution risks. Our focus on valuations, FCF and dividend yields continues to favour the higher quality majors…”

With the commodity super cycle seemingly still intact, many investors are asking themselves whether current weakness in certain stocks signals a strong buying opportunity for the future whilst the lingering doubts about China continuing to subdue sentiment in the sector. The mega bargains of the pre-QE3 era have largely disappeared, but several of the big cap mining names have had a hard sell off in the last month e.g. Rio Tinto down 6.7%, BHP Billiton down 4.9%. ENRC is also down nearly 10% from its QE 3 high, being dragged lower as corporate governance fears from the Bumi debacle has overshadowed it too.

A sector to certainly watch for any further weakness.

Contrarian Investor UK