31/08/2015 - 13:35

Revival in resources more puff than boom

31/08/2015 - 13:35

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Despite the pain being felt by many small investors, the Chinese-led stock market falls of the past week was a long-overdue correction.

CRASH: The Chinese stock market has taken a heavy hit. Photo: iStockphoto/G0d4ather

Despite the pain being felt by many small investors, the Chinese-led stock market falls of the past week was a long-overdue correction.

Some people will have been hurt by the latest stock-market crash, but others will emerge richer; and Australia will be given one more chance to join the real world by leaving the fool’s paradise that was the mining boom.

For the past five years, investors and a surprising number of mining company managers have been making decisions based on an assumption that the boom will return. Politicians have been making the same mistake, and spending taxpayers’ money accordingly.

What the latest crash has demonstrated is that the game has changed and that this once-in-a-lifetime event – soaring Chinese demand for raw materials – has come to an end (a fact this column has been banging on about for more than a year).

This is the start of the new normal, which older and wiser observers have been waiting for since the GFC of 2008, and it’s a chance to get Australia’s economic affairs in order.

The good news is that the country is actually a lot healthier, and will handle the adjustment more comfortably than others.

The bad news, particularly for Western Australia, is that harsh cutbacks will be required in state government spending, as royalty income from mining falls further and employment in mining and resources project construction continues to dry up.

First, some good news, starting with the fact that most big Australian companies are carrying a lot less debt than they were in 2008. One estimate is that the average gearing (the ratio of debt to equity in a business) has fallen from 55 per cent in 2008 to 40 per cent today.

In other words, corporate Australia has been getting ready for the next shock by retiring debt; it’s a shame that households do not appear to have been so prudent.

Another item of good news is that government debt in Australia is around 23 per cent of gross domestic product. The average in developed markets, or countries like Australia, is more than 100 per cent.

In other words, the government has room to move – if it wants to. To put our 23 per cent of government debt to GDP into perspective, Australia’s ratio is a little higher than Switzerland (20 per cent) and a lot less than the US (100 per cent), Britain (95 per cent), and Germany (70 per cent).

From a resources sector perspective, which is WA’s speciality, there is a sobering measure of why this crash will not be as painful. Quite simply, the resources sector has already done a lot of shrinking, making up just 14 per cent of the index that measures the top 200 ASX-listed stocks (compared with 33 per cent at the 2011 commodity price peak).

None of those good news factors will stop the panic that has gripped investors, especially newcomers to financial markets such as self-funded retirees, who have swapped their low-interest bank savings for bank shares in the pursuit of a better income stream from dividends.

Those who did that, or who went one step further and imagined that dividends from resources companies could be maintained in a commodity market correction, are facing a torrid time because banks will be less generous with dividends in the future – and some resources companies will stop paying dividends.

What comes next is what everyone wants to know. And while it’s a brave man who is prepared to tip a relatively rapid recovery, that’s what seems likely as the shock of the sell-off is absorbed and markets adjust to fresh data, including financial numbers that are more realistic than a week ago.

WA’s iron ore sector, once a place where anyone could make a profit courtesy of Chinese demand for steel, will revert to a handful of very big, very efficient miners. The remnants of the boom-time babies will be swept away as the ore price sinks towards $US40 a tonne.

Gold, often the saviour of WA mining, will enter a glory period as the price of the metal stabilises in $US terms, while the $A price continues to rise. Anyone who can’t make a profit with a local gold price above $A1,600 an ounce really ought to give the game away.

The bad news, and there will be quite a lot over the next few weeks, is that the crash will have caused deep personal pain for people relying on their retirement funds to survive, because their capital has been sharply reduced in value and their income seems likely to fall as dividends shrink.

Tough as that might seem, what’s just happened is a correction that has been a long time coming; it’s just unfortunate that some people couldn’t see it either because they’re new to the stock market, or believed that the mining boom would return.

From a personal perspective, now is a good time to be on the sidelines – to wait and see how the corporate world reacts and how major governments, especially the Chinese government, react to the shock of the crash.

From an Australian government perspective, the events of the past week could be the warning needed to stop spending on vote-buying schemes and instead focus on policies that are in the country’s long-term interests – a comment made more in hope than confidence that it will happen.

Port Kembla blues

IF there is a single event (or location) where the next act of the market crash will be played out, it is in the NSW industrial centre of Port Kembla, where another piece of high-cost Australia is being threatened by low-cost imports.

Once the steelmaking centre for Sydney and a prized possession of BHP in its heyday, Port Kembla now is a grossly inefficient business that reflects some of the worst aspects of modern Australia, with management unable to make essential changes without upsetting the unionised workforce.

With the crash ringing in everyone’s ears, now is a time for current Port Kembla steelworks owner BlueScope Steel to drive home the reality to unions that either they accept adjustments to pay and conditions or the plant will be closed and converted into a steel import facility – just as local oil refineries have been closed and converted to importing fuel.


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