A wave of anxiety has hit the resources sector this year.
The price of iron ore is plumbing multi-year depths. At less than US$95 per tonne, the metal’s spot price has declined by more than 30% in the past six months. That’s put mining stocks on the nose with many investors.
I’ll leave the iron ore debate to Money Morning’s resource analyst Jason Stevenson. Jason’s an expert in analysing global commodity markets. As the analyst for Australian Small-Cap Investigator, my beat is small-cap stocks.
So why is a small-cap guy writing to you about commodities?
Well, it’s simple. An often-overlooked corner of the resources world is getting more and more exciting. It’s a subsector where the stars are aligning for small-cap success.
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This story is as much about industrial technology as it is about resources. That’s why it’s on my radar. Let me explain…
The exciting ore I’m talking about is bauxite. It’s the world’s main source of aluminium.
China is the world’s dominant producer of alumina and aluminium. It needs bauxite to kick those processes along. Because its domestic reserves are low quality and in short supply, China is a voracious consumer of imported bauxite.
When I say ‘voracious’, I mean it. China pulls in eight million tonnes of the stuff every month. Bauxite imports to the Middle Kingdom are running at record levels. So the demand side of the ledger is well established.
Looking at the supply side, there are only a few bauxite-rich areas in the world. As you can see in the chart below, Australia’s bauxite resources rank second in the world (21%) after the Republic of Guinea. ‘The lucky country’ indeed.
The fine balance in supply and demand dynamics means that when a big chunk of supply disappears, dramatic shifts happen elsewhere in the bauxite market.
That’s exactly what we’re seeing now. Indonesia has banned the export of several mineral ores…including bauxite.
The Indonesian authorities say they want more value-add from their resources. But I’m puzzled as to why they would choose this way to go about it.
South East Asian politics can be hard to understand from the outside. We’ve seen that over the past month as Thailand has succumbed to a military coup.
The important thing to understand is that the Indonesian shutdown is starting to cause a little bit of panic behaviour.
We’ve heard reports of Chinese companies so desperate to shore up their bauxite supplies that they’re sourcing the ore from Guinea in West Africa. They’re paying a huge spot price of US$90 per tonne to get it too. In some cases, end users are paying more than twice as much for a tonne of bauxite compared to what they did just six months ago.
For aluminium-hungry emerging economies, this has all the markings of a crisis. But one man’s crisis is another man’s golden opportunity.
Australian bauxite miners have some of the world’s biggest reserves, right on China’s doorstep. These producers can ship good quality bauxite to China, and at big margins should the recent supply tightness take hold.
It’s a topic I’ve covered in depth this year in Australian Small-Cap Investigator.
If you’re hearing this story for the first time, you might wonder why I see it as an industrial technology play as much as a resource opportunity.
Well, one of the key developments in the materials market right now is the interest in aluminium from the car industry.
That’s because the world’s car giants are using the metal to spark a technological revolution in car building.
Carmakers have known for decades that they could build cars using aluminium to make vehicles that weigh less than their clunky steel counterparts.
Here’s what’s changed: carmakers have finally found a way to bond aluminium to steel in a way that reduces weight and maintains the car’s structural integrity. Importantly, they can do it cheaply enough to make the process commercially viable.
You can say what you like about the merits of investing in the car industry itself. Even the biggest optimist would admit that Big Auto operates on wafer thin margins and needs government subsidies to turn a profit.
But it’s clear that the big carmakers have shown they can reinvent themselves to suit the times.
Oil prices have been high for years now. People still need cars, but they’re now more aware of fuel efficiency. That’s why carmakers spend millions of dollars a day to develop new technology that brings more bells and whistles on board at a lower kerb weight.
When the car companies make a technological breakthrough — such as discovering how to cost-effectively bond aluminium to steel — it can be a great outcome for investors in companies up the supply chain.
That means you should look closely at companies that produce the key ingredient — aluminium.
But why not go one better? It’s only one step further along the chain to the Aussie bauxite miners. These companies feed ore to the aluminium smelters.
Aluminium and bauxite companies are at the junction of a powerful economic trend. As this story plays out and the mainstream starts to sit up and take notice, investors in the companies who can make the most of these opportunities could reap enormous triple-digit gains.
I’m not saying it’s a lay down misère. The economic forces at work here are difficult to forecast accurately. But if I’m right about who will demand more and more of this metal and who’s capable of supplying it, then we could see a boom in aluminium-exposed stocks unlike any we’ve seen before.
And we’ve found the tiny Aussie stock that’s in the perfect place to make the most of that boom.
Cheers,
Tim Dohrmann+
Small-Cap Analyst, Australian Small-Cap Investigator