The divergence between mining stocks and metal prices has opened up some attractive equity opportunities, says a new report from Desjardins Capital Markets.
Mining stocks have generally experienced bigger price declines than commodities this year, but the divergence became especially stark this week following weaker-than-expected economic data from China. For instance, gold prices fell to a two-year low this week, but some mining stocks, such as Barrick Gold Corp., hit 20-year lows.
But Desjardins said Thursday the rush out of mining stocks has been overdone.
“In our view, the metals cycle should remain intact until such time that China’s economic growth slows and approaches the rate of growth of mature economies,” the Desjardins report said. “This is not expected during 2013 or 2014.”
This week’s widening divergence between stocks and metal prices happened after China reported first-quarter GDP growth of 7.7%, compared with the 8% many economists had expected. But Desjardins points out that is still better than the 7.5% growth rate Chinese officials targeted for this year, and no where close to the sluggish numbers much of the developed world is seeing.
“Obviously, the world of equities is anticipating additional negative news—probably related to the slowing of the world economy,” the Desjardins report said.
All that fear means mining stocks, which are dependent on global demand for the commodities they produce, have been especially hard hit. But with stock prices falling out of whack with commodity prices, an opportunity has arisen to buy, says Desjardins in its report.
“The fear-driven equity market for the shares of metals producers often provides a buying opportunity that would not otherwise be supported by underlying, albeit weaker, fundamentals,” the report said.
The next big catalyst for resource stocks will come later this month, when companies will start reporting their first quarter earnings. As Peter Buchanan, senior economist for CIBC World Markets points out, expectations have been lowered significantly for resource stocks on the TSX in the last month.
According to his research, analysts are calling for energy earnings to report an 11.7% decline in earnings from the same time last year. Materials, which include miners, are expected to post a 6.2% decline, while gold stocks are seen as posting a 13.8% drop in earnings. Basic metals stocks are predicted to take the hardest hit; analysts predict earnings will fall 40.5% year-over-year.
Of course, with lowered expectations, any earnings misses could hit resource stocks hard.
But it’s not clear how much downside mining stocks have left given their divergence with metal prices. The Desjardins report points out that since the start of the year, the divergence between equity prices versus related metal prices has now hit -20% since the start of the year. That figure was 0% as recently as January.
“Overall, the price of metals equities remains ‘cheap’ relative to the underlying commodities based on the year-to-date change in both,” the Desjardins report concluded.