BHPs Mixed Outlook
Resource Hotspot 303
Yesterday BHP Billiton delivered its annual financial results – achieving a strong net profit broadly in line with expectations. As always, the company provides an assessment of the macroeconomic environment, which provides useful insight on the key issues impact resource companies.
Against a backdrop of markets fearing the risk of a double-dip recession in the major western economies, BHP outlined its observations on key indicators and drivers.
Firstly it noted that during the first three quarters of FY10 it experienced steadily improving financial conditions which flowed through into much stronger prices for commodities. However, in late April the rating agencies down graded credit ratings for several European countries. This had an immediate flow on effect for volatility – which had fallen post the financial crisis and subsequently spiked again on the back of sovereign debt concerns.
Source: BHP
The European sovereign risk concerns returned around the same time as China was taking measures to cool the property markets in its major cities. And these events provided a trigger for a turn in sentiment and the right hand chart of Purchasing Manager Indices (PMI) shows how sentiment fell as volatility increased. BHP expects that volatility will continue in the near term.
Another important factor is the US net borrowing flows by sector. In the chart below the orange bars on the right show how dramatically the US Government has stepped in to support its economy. BHP believes the level of sovereign debt in the OECD remains a fundamental issue for global economic growth. There are two components – whether governments can continue to support their economies and the impact on growth of governments withdrawing the unsustainable stimulus packages.
Source: BHP
The next chart illustrates how dramatically government spending is outpacing revenues in the Euro zone. This is leading to a series of austerity measures being introduced in countries such as the UK and Spain. Therefore, the likely impact of fiscal austerity on economic output is yet to be seen.
Source: BHP
What happens in China is obviously very important to resource companies. China’s GDP grew strongly in the first quarter of 2010 but has since slowed meaningfully on the back of government tightening policies. In particular, these tightening policies were introduced to deal with the rapid escalation of property prices in the major cities. BHP’s view is that for the remainder of the calendar year we will likely see slowing growth on the back of removal of stimulus and tighter monetary policy. However, it anticipates a soft as opposed to hard landing, and second half GDP growth this calendar year could be closer to eight per cent.
Source: BHP
It notes that China can and will be more flexible on its domestic policy if developed market economies deteriorate more markedly than anticipated. Despite slowing near term investment growth in China BHP expects a continued focus on a broad range of infrastructure projects to promote inter connection across the country. China is also restructuring its economy away from a dependence on investment towards a more balanced consumption led economy.
Finally, while BHP presented a reasonably sanguine picture for the near term economic outlook, it highlighted that the reduction in capital expenditure by the mining industry during the financial crisis is impacting the supply side for commodities, which should continue to support commodity prices.
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