Bargains To Be Had — For Patient Investors

If investors have money to spare and can afford to wait for prices to recover, then recessions can be a good buying opportunity. The question, of course, is how long one has to wait until stock and commodity prices recover.

Making Sense of the Miners, a new report from Credit Suisse, argues that world growth will recover due to policy interventions such as rate cuts and capital injections but that these measures will take time to feed through to the broader economy, meaning that “a quick turnaround is unlikely.”

Its mining strategists believe that sustained reflation in commodity prices is only likely in very late 2009 or early 2010, when monetary easing kicks in, deleveraging stops, and world growth recovers.

In the meantime, commodity prices can go lower still, it warns. Nevertheless, while analysts at Credit Suisse remain cautious, they suggest that now could be a good buying opportunity if one has the time and the money to wait.

“If we are not heading into a global recession, then this is a good buying opportunity — and provided investors have the luxury of time, even if there is a global recession then this is probably still a good buying opportunity,” the report states. “The issue is how long you have to wait.”

There are a number of guideposts that can be useful in trying to calibrate the answer to that question. “Old-fashioned value measures” like price-to-book can be a useful tool during times of earnings uncertainty, they argue. (Price-to-book is defined here as market cap divided by shareholder equity.)

For instance, the resource sector is now trading at a forward price/book value of 2.4 times, compared to 5.5 times in May.

“The present price/book value is now approaching the lows seen in the 1991-92 global recession and again during the 1998-99 Asian crisis,” Credit Suisse notes. “In both these instances, price/book bottomed out at around two times.”

Still, if the downturn of 1991 and 1992 is any guide — price to book levels remained low for almost three years.

The investment bank also points out that equities typically anticipate turning points in metal prices by six to nine months.

“Equities tend to bottom when a recession has a quarter or so to run,” the report states. “Bear markets do not end when everyone thinks the next data point is good, by that stage they are well over.”

The Asian financial crisis of the late 1990s can also offer helpful lessons. At that time, the mining sector “began what was to be an extended recovery about six months before the negative earnings downgrades finished.”

Credit Suisse argues that “the death of the sector is greatly exaggerated” and like everyone else, emphasizes that China will be a key determinant. In China, the economy will rebound and commodity prices “will again surprise on the upside,” says the report.

“China is progressing along a development path not dissimilar to other industrial nations and that process has at least a decade to run given current low per-capita metal consumption rates,” the report states. “It is clear to see that China still has some way to go before it matches the levels of metal consumption in the devel- oped nations.”

Credit Suisse points out that China will need twice the amount of metal in the next decade as it did in the last and estimates that the country is about halfway through its urbanization phase.

China’s urbanization rate reached about 45% last year and Credit Suisse forecasts it will climb to 60% in 2020.

Ultimately, Credit Suisse believes investors “should be buying exposure to good orebodies and waiting.”

“Long-life, high-margin, large orebodies will remain valuable,” it concludes.