I ended up with my first stock market job, more or less by accident–and without any finance experience or training–in the late summer of 1978. A few months later, the firm’s oil analyst was headhunted away and I took his place. Within a couple of years (an MBA from NYU at night along the way) I had picked up a bunch of metals mining companies, too, and was in charge of the firm’s natural resources research.
The oil industry was (and still is) really non-intuitive–more about my early adventures tomorrow. Today I want to write about the mining industry, which is a little more straightforward.
natural resources in the 1970s
I started out by reading the annual reports and 10-Ks of the major base metals mining companies for the prior five or six years. What stood out clearly was that all the firms held very strongly a series of common beliefs, namely:
1. that global economic growth would continue to be strong for as far into the future as one could imagine,
2. that the availability of all sorts of base metals–lead for batteries, copper for wiring and tubing, iron ore for steel, and so on–was a necessary condition for this growth
3. that, therefore, demand for base metals would grow at least in lockstep with GDP increases.
Implicitly, the companies also assumed that:
4. that oversupply was highly unlikely,
5. that substitution among raw materials–like aluminum or PVC for copper–wouldn’t be an issue, and
6. that, because of 4. and 5., the selling price of output from future orebody discovery/development would never be a concern.
CEOs’ conviction was buttressed by reams of computer paper containing economists’ regression analyses “proving” that all this stuff was true.
a massive investment cycle…
Naturally, the companies, not risk-shy by nature, went all in across the board on new base metals mine development.
As I was reading these documents in 1979-80, the first (of many) massive new low-cost orebodies were coming into production. This wave turned out to have been enough to keep most base metals in oversupply–and a lot of mines unprofitable–for the following twenty-five years!!! Miners were also in the midst of a massive switch to exploring for gold, where high value deposits could be developed quickly and at low-cost–causing, in turn, a twenty year glut of the yellow metal.
…that didn’t work out
The mining CEOs turned out to be wrong in a number of ways:
–like any capital-intensive commodity business where the minimum plant size is huge, industry profits for base metals are determined by long cycles of under-capacity followed by massive investment in new mines that causes long periods of over-capacity
–although it wasn’t apparent in the 1970s, substitution of cheaper materials has been a chronic problem for base metals. Take copper. There’s aluminum for heat dissipation and wiring, PVC for plumbing, and glass/airwaves for audiovisual transmission.
–Peter Drucker was writing about knowledge workers as early as 1959. Nevertheless, the mining companies and their economists weren’t able to imagine a world where GDP growth might not require immense amounts of extra physical materials.
I’ve been looking for a sound byte-y way to put this all into perspective. The best I can do is a gross oversimplification:
–real GDP in the US has expanded by 245% since 1980. Oil usage is up by about 10% over that period; steel usage is down slightly. The supposed dependence of GDP growth on increased use of natural resouces simply isn’t true.
Why am I writing about this today?
…it’s because I continue to read and hear financial “experts” say that weak oil and metals prices imply declining world economic activity. To me this argument makes no sense.