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Commodity prices are usually a reflection of the global economy; right now, that relationship is describing a far worse global economy than actually exists. Either worldwide economic data is about to weaken significantly, or metals prices represent a compelling entry point for investors in mining stocks.
This chart illustrates what most investors already know – the price of basic materials rises as global manufacturing activity increases demand. The surprise is that the 11.4 per cent decline in metals prices between January 2013 and now has coincided with a period where global manufacturing activity is increasing.
China's recent gross domestic product report, which fell short of expectations at 7.7 per cent, was among the important catalysts for the recent sell-off in the commodity markets (although China's economy has little to do with the ongoing catastrophe in precious metals such as gold and silver). The potential for a sustained slowdown in China – the world's largest consumer of most metals – is the biggest risk for investors in mining stocks. But, even at 7.7 per cent GDP growth, China's economic progress remains at a level where global metals supply will remain strained.
Metals markets have now priced in a depressed global economy. If future April 30 reading of the JP Morgan Global Manufacturing PMI Index is sharply lower than the current 51.2 level (where any number above 50 indicates growth), then investors will have been proven prescient.
The speed of the sell-off in metals, at a time when manufacturing activity is accelerating, does suggest panic. It seems entirely likely at this point that commodity prices now understate future global growth. Any positive surprise in global economic data should be met with a quick bounce for metals stocks.
The S&P/TSX Diversified Mining Index contains a number of mining stocks with a relative strength index indicating technically oversold conditions. As always, we caution readers to do their own homework before investing, but the most likely candidates to benefit from an economic data-led jump include Hudbay Minerals Inc., Taseko Mines Ltd. and Capstone Mining Corp.
Scott Barlow is a contributor to ROB Insight, the business commentary service available to Globe Unlimited subscribers. Click here to read more of his Insights, and follow Scott on Twitter at @SBarlow_ROB.
Scott Barlow