“Doubts are mounting about the health of China’s property market, Beijing’s ability to control inflation and the true extent of government debt. Last week, the central government disclosed that local governments owed debts equal to a quarter of gross domestic product. It’s hard to imagine a large chunk of those borrowings won’t turn sour.” – The Wall Street Journal
It is hard to imagine.
That’s why we believe the China Ponzi economy will burst.
And when it does, it’ll have a major and disastrous impact on the Australian economy. It’ll make the Aussie property crash look like a blip.
As you know, it’s been a while since we’ve had anything good to say about the Chinese economy.
We were happy to play the boom until late 2009. But since then we’ve grown too suspicious to risk big money on it.
And in the past few weeks our doubts have grown…
Shareholders to dig deep again
First, we noted this announcement from rare earths company, Arafura Resources [ASX: ARU]:
“Arafura expands scope for Nolans Project bankable feasibility study”
On the plus side:
“Additional work has significant potential to reduce operating and capital costs and de-risk the proposed Rare Earths Complex at Whyalla.”
But the down side was this:
“The Company estimates that additional funding in the order of A$50-A$60 million will be needed for the expanded BFS and other costs originally envisaged as part of project financing.”
In other words, things are looking really good… but can we have another $60 million please!
Arafura shares fell 26% following the news… they’ve gained about 10% since.
Last week, competing rare earths miner, Lynas Corp [ASX: LYC] suffered what could be a setback in its plans to start processing rare earths at a yet-to-be-built plant in Malaysia. It followed a report from the International Atomic Energy Agency (IAEA).
The report emphasised the need for more details covering waste management from the proposed processing plant.
Yet Lynas claims:
“The schedule impact of meeting the requirements of this report is estimated to result in commissioning being completed by the end of 2011, with full production capacity of Phase 1 of the LAMP achieved by the start of the second half of 2012. Lynas does not believe the schedule for Phase 2 will be impacted.”
Lynas shares fell more than 10% on the news.
Costs rise
And then this morning, Murchison Metals [ASX: MMX] released details of its Oakajee iron ore project. According to the Australian:
“Costs for the Oakajee iron ore export project being joint-managed by Murchison Metals and Mitsubishi have blown out by more than a third to $5.94 billion and the first ore will not be delivered till 2015…”
Murchison shares are down more than 12% in early trade today.
The old saying in the stock market is, “buy the rumour, sell the fact.”
It means the reality is rarely as good as the promise.
We get the feeling that’s how investors see China right now. And if they don’t yet, they soon will.
At various times over the past 10 years, investors have “bought the rumour” on China… at other times they’ve “sold the fact.”
You can see that on the chart below of the S&P/ASX 200 Materials Index:
Source: CMC Markets Stockbroking
The resources bull market has had two good runs… 2003 to 2008… and again from 2009 to 2011.
Here’s the thing. It’s got something of the “heard it all before” story.
In other words, how many investors – even those bullish on China – can still get excited about China’s demand for resources? A few years ago, the China story was new.
But now it’s not. And while it may still be exciting for some, many investors are left wondering when their stocks will actually make money from China.
Because for every stock making a buck from China, there are tens – maybe hundreds – that don’t. And probably never will.
Simply because while these companies may have huge resources in the ground, the cost to recover them is equally huge; they’ll never raise the financing to dig it out. And if they do raise the money, there’ll be so many new shares on issue that it will dilute returns.
Commodity prices hit another record high
Still, the question is, when will the China Ponzi bubble burst?
Currently, commodity prices are at a record high:
Can they really go higher? They have in the past. So why not now? Anyone who’s studied financial bubbles will tell you that kind of thinking is a slippery slope to ruin.
That’s why we’ve got the commodities market on a high crash alert.
If all but a handful of Aussie resources stocks can’t figure out how to make a buck from the biggest resources boom Australia has ever seen… when commodity prices are at a record high… why should you believe they’ll make a buck in the future when prices are lower?
Right now, Aussie resources stocks should be making money hand over fist.
Instead, many are giving their shareholders no more than rumours and promises of future profits. To avoid disappointing shareholders again, these companies need to hope commodity prices are at least no worse in the future than they are today.
We suppose that’s possible. But it’s a big risk. And it means you need to pick your resources stocks with extreme care.
Cheers.
Kris Sayce
Money Morning Australia