China’s Resource Binge: Bubble Building 中国资源并购潮:酝酿泡沫

Chinese resource firms have embarked on a global buying binge over the last year, paying big premiums for assets to produce commodities like oil and gold on the assumption that high prices will allow them to earn strong profits on their investments. But these billions of dollars in purchases could easily end up worthless if commodities prices return to earth in the next few years – a strong possibility for these highly cyclical industries that looks even more likely as China’s overheated economy heads for its own much-needed correction. Barely a month goes by these days without announcement of a major new purchase or other major initiative by a Chinese resource firm, with last week alone seeing three such deals. In the first, top Chinese aluminum producer Chalco (HKEx: 2600) announced it would offer nearly $1 billion to increase its stake in a Mongolian coal mining project, paying a 28 percent premium for new shares to Canada-listed Ivanhoe Resources (Toronoto: IVN). Just days later, the state-owned parent of PetroChina (HKEx: 857; Shanghai: 601857; NYSE: PTR) announced it was in talks with several major foreign oil companies, including Royal Dutch Shell, for a major project to develop shale oil in the Xinjiang region. (English article) That announcement was the latest in an ongoing series of similar domestic and off-shore deals by China’s largest oil producer as it heeds Beijing’s call to develop more expensive unconventional energy sources. And at the end of the week, Zijin Mining (Hong Kong: 2899; Shanghai: 601899), China’s largest gold miner, announced it would invest $235 million to take a controlling stake in Norton Gold Fields (Sydney: NGF), paying a 46 percent premium for shares of the Australian firm. (English article) All these companies are rushing to take advantage of high commodity prices, including oil that now sells for more than $100 per barrel and gold that continually reaches new highs. But other commodities like aluminum are already showing weakness – testimony to the highly cyclical nature of many of these commodities. The 3 deals announced last week all carry major risk for their buyers, each trying to take advantage of high global prices. Chaclo is not only paying a sizable premium for its Mongolia gamble, but the deal is also taking it into the coal and energy sector where it has little or no experience. Zijin Mining is also paying a big premium for its Australia purchase, again betting that global gold prices will remain high. PetroChina’s broader bid to develop shale oil and gas around the world carriers a high degree of risk as well, as its wide array of initiatives into this costlier energy area could end up uneconomical if oil prices ever fall back to more historical levels. (previous post) An interesting parallel to the current commodities frenzy might be the worldwide real estate bubble of the 1980s, when Japanese firms flush with cash and global aspirations embarked on a massive buying spree. That movement drove property prices to record levels in many markets, including the US, as Japanese buyers snapped up properties throughout the world under the assumption that values could only go higher. Of course, anyone who lived through that period knows the property bubble ultimately burst, bankrupting many Japanese firms and leaving the country’s major banks with huge volumes of bad loans. The current Chinese buying binge has many similar qualities, again involving major companies buying assets at big premiums and in risky areas that could easily become uneconomical if global commodity prices come down. There’s always the possibility that prices have entered a new phase and will remain at their current levels or even rise higher in the years ahead on growing demand from China and other developing markets. But if history is any indicator, the current bubble is likely to burst in the next two to three years, quite possibly leaving China’s resource firms with billions of dollars in worthless global assets.

Bottom line: China’s resource companies could end up with billions of dollars of worthless assets if commodities prices return to historical levels in the next 2-3 years.

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