The mining sector still faces a painful 10-year period of unwinding following the end of the ‘commodity supercycle’, according to FE Alpha Manager Stuart Mitchell, which (if it were to happen) would mean bombed-out natural resources funds will continue to remain out of favour. 
Having been one of the easiest places to make money in the early 2000s through to 2011, mining stocks have come crashing down as commodity prices have tanked and emerging market growth, led by China, has slowed.
On top of that, corporate mismanagement has only magnified the issue as companies fell afoul of increasing production and general spend near to the top of the cycle.
The graph below shows the performance of the MSCI AC World Mining Index versus global equities over the past 15 years. While the mining sector initially recovered after a 56 per cent drop during the global financial crisis, it has fallen a further 63 per cent since late 2010 as commodity prices began to fall.
Performance of indices over 15yrs
Source: FE Analytics
According to FE Analytics, over the past five years two of worst 10 performing funds in the IA universe focus on the sector (JPM Natural Resources and BlackRock GIF World Mining) thanks to their losses of 70 per cent. The rest of the list of worst performers also includes Brazil funds – which are highly sensitive towards commodity prices – gold funds and oil funds.
The 10 worst performing funds in the IA universe over 5yrs
Source: FE Analytics
The average natural resources and mining fund has posted double-digit losses in each of the last five years as well.
However, those longer term falls do mask a 30 per cent rise in the index since the second week of this year, as sentiment has returned to the bombed-out asset class on the back of very low valuations.
However, with certain household names now under severe financial stress, Mitchell – founding partner of S.W Mitchell Capital – says he won’t be dipping into the sector for opportunities any time soon.
He cautions that the previous excesses are now only really coming home to roost and warns that investors in the space still face a long challenging period given the likes of China are moving away from an investment-led economic model.
“We would never buy all that, it’s crazy,” Mitchell said.
“We missed all of that in the boom years because we just thought it was nuts and we didn’t short it enough as we should have done in the down years. At the end of the day, the likes of Anglo-American and Glencore will just go bust. That’s just how it always happens.”
“BHP Billiton and Rio Tinto will probably survive, but we will have a big clean out. I think this wind down has got another 10 years.”
Of course, there are many who believe value has opened up within the bombed-out sector thanks to the low valuations on offer. Plus, they point out that many of the larger companies are now run by completely different management teams who are far more shareholder friendly than those during the peak of the commodity cycle.
These tend to be managers with a value bias, however, who have seen large-cap mining firms move onto their radar.
In an article earlier this week, Mitchell told FE Trustnet that he thought the recent fears surrounding a re-run of a 2008 financial crisis were well wide of the market, pointing out how the banking sector was in a much more healthy state, the European economy is in recovery mode and most investors are already overwhelming bearish.
On the latter point, the veteran manager says the risk to markets now is if economic growth surprises further to the upside as it would hurt many of his peers who have positioned their portfolios in ‘safer’ equities.
He says in his SW Mitchell European fund he now holds 50 per cent outside of growth stocks (compared to a historical weighting of around 70-80 per cent) given that value (as an investment style) has been so out of favour for such a long period of time.
Source: FE Analytics
“Companies like Saint-Gobain, which is a great business, is one the lowest weighting it has been on pretty much during the post-war period because there is such pessimism about the health of the economy,” he said.
“But that could be the big surprise. That would kill and destroy a lot of people. I’ve seen it happen so many times. People get a bit more positive on the global economy and the value universe goes up 40, 50 or 60 per cent. And it happens very quickly while the likes of Roche, Novartis, L’Oréal (all those kind of golden stocks) are flat or fall by 5 per cent.”
“You find that, within a matter of months, you are 20 per cent under the index. It’s just classic. Of course it will happen, it always happens. It doesn’t seem obvious now why it will happen, but it will.”
However, while most mining stocks are in ‘deep value’ territory, he says they are unlikely to participate for long in a cyclical upswing given the challenges they face and because many are still haemorrhaging cash.
“It’s a catastrophe and a disaster. All the mining firms opened up new mines at the very top with very high marginal costs of production. It’s been a complete balls up, the whole thing,” he said.
Mitchell started his career in 1987 with Morgan Grenfell Asset Management before going on to hold to be head of European equities at the group and responsible for $30bn of assets (the largest in Europe at the time).
He also ran funds at Odey and Waverton (formerly JO Hambro Investment Managament) before setting up on his own in 2005.
Performance of Mitchell versus peer group composite since Jan 2000
Source: FE Analytics
According to FE Analytics, the FE Alpha Manager has returned 216.02 per cent since the turn of the century, beating his peer group composite by more than 160 percentage points in the process.
