What China’s Slowing Demand Means for Commodity Investors

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China MapNothing commands both euphoria and fear of commodities investors more than China.

After all, the nation’s surging rate of urbanization and population growth has made it the No. 1 consumer across a variety of natural resources. Much of the bullish commodity thesis stems from the notion that the Asian Dragon will continue to crave more and more resources to fuel its growth. So far, that has held true as demand has increased year-over-year.

But what happens if China slows? Given the global headwinds coming out of developed Europe, analysts expect that to happen. The nation’s economy is expected to post a fifth successive quarter of slowing growth, and many anticipate that growth will drop to 8% during the first quarter. This is down from 8.9% growth in the previous quarter.

Chinese Premier Wen Jiabao recently cut the nation’s economic growth goal to 7.5% for 2012, down from 8% over the past seven years. While that’s still an impressive rate, even that slight reduction in growth could undermine the commodities complex. For natural resource investors, keeping an eye toward China would be prudent.

First Cracks Forming

From copper to corn, wheat to coal, China is the No. 1 driver of many markets. So it’s not surprising that any dip in its demand will hurt commodities prices. After enacting a massive stimulus plan to combat the global economic slowdown, China has been faced with its own problem of high inflation. The resulting monetary and fiscal policies might finally have begun to work and cool the Asian Dragon’s economy. The nation’s GDP growth rates have dwindled over the last year or so, and more recently, HSBC’s (NYSE:HBC) measure of Chinese factory activity fell for a fifth straight month this March.

This lowered production and economic growth might finally be reaching the commodity producers. China’s sprawling infrastructure initiatives have greatly benefited those firms in the iron ore and steel industry. However, speaking at the Global Iron Ore & Steel Forecast Conference in Perth, Australian mega-miners BHP Billiton (NYSE:BHP) and Rio Tinto (NYSE:RIO) echoed similar statements on China’s iron demand. Both see slowing demand ahead.

Ian Ashby, president of BHP’s iron ore division, said, “The (Chinese) economy is shifting, it’s changing. Steel growth rates will flatten and they have flattened,” according to Reuters.

Similarly, Rio estimates that China will see single-digit iron ore growth throughout the year. Currently, the nation consumes more than half the world’s iron ore production, and the news has sent prices downward. BHP predicts ore prices will average around $120 per ton. That’s significantly lower than current spot rates for the economic building block.

China’s demand for other key commodities also is beginning to wane. After a huge late-year surge in gold imports, the nation saw sharp declines in both December and January — despite the fact that this period included the Chinese New Year, a historically bullish holiday season for consumers to buy gold.

Thermal coal prices have and are expected to fall further as China’s power requirements wane. Coal prices already have dropped more than 4% since the end of last year, and Wang Yu Jun — CEO of state-owned power producer China Resources Power Holdings — told Reuters, “If this year’s GDP growth is in line with what the government has just forecast, I think this year’s fall in coal prices will be rather big.”

Given China’s position at the top of food chain for many vital natural sources, analysts at Credit Suisse (NYSE:CS) recently put out a very bearish research note titled China: Is the Commodity Super-Cycle Over? The underlining theme in the piece is that China will escape a dreaded “hard landing” scenario, but commodity demand will be the ultimate bearers of any pain. Credit Suisse predicts that much of reason for commodities growth is over. Investors in the sector will be in for lower returns going forward.

Short-Term Pain, Long-Term Gains

Certainly, any hiccups to China’s thirst for natural resources will dent their prices. However, I’m not sure about Credit Suisse’s dour predictions and the end of resource demand as we know it. Longer-termed investors might not need to worry.

While China might be the current largest consumer of natural resources, plenty of other nations are just beginning industrialized transformations. Places like Indonesia, South Africa and Colombia are all entering new stages of growth and will continue to require vast amounts of commodities to get started. Global populations continue to rise, given new price floors for agriculture commodities and water. Modern infrastructures still will need to be built in nations like Sri Lanka and Nigeria. Even China’s focus on internal domestic consumption still will require importing various resources. All of these factors will continue to benefit commodities equities and prices for some time.

The big question for investors: What to do?

China’s slowing economy ultimately will provide investors with some great long-term buying opportunities over the next few months. Investors can start raising cash and begin to nibble at any of the broad-based commodity equity funds. My personal favorite is the SPDR S&P Global Natural Resources ETF (NYSE:GNR). The ETF weights its global portfolio so that energy, agriculture and mining/metals commodities subsectors each get about a third of assets. Expenses run a cheap 0.4%, and the fund provides great broad exposure to the natural resources complex.

Yes, China is the king of the commodities hill and it certainly will move resource prices if it sneezes. However, the long-term (think decades) demand for commodities will remain intact.

As of this writing, Aaron Levitt was long GNR and intends to add to his position during the course of the year.

Aaron Levitt is an investment journalist living in Ohio. With nearly two decades of experience, his work appears in several high-profile publications in both print and on the web. Also likes a good Reuben sandwich. Follow his picks and pans on Twitter at @AaronLevitt.


Article printed from InvestorPlace Media, https://investorplace.com/2012/03/what-chinas-slowing-demand-means-for-commodity-investors/.

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