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Frank Oz · Guest

Dryblower on the predicted super-spike

Monday, 26 May 2008

IF YOU believe some investment banks we are yet to experience the full
effects of the resources boom. The next six months, led by even higher oil
prices, will see a "super-spike" in commodity prices - to which Dryblower
asks: "what next".
Last week, as the price of oil headed into the stratosphere and Australian
miners held out for a whopping 80% increase in the price of iron ore, the
hot tip was for other commodities to join in.

Central to this thesis was evidence that supply of just about everything was
failing to keep pace with demand. There are simply not enough mines being
developed or even discovered, and that the resource sector in markets such
as Australia is on fire with hot money poised to pour in.

"The mother of all rallies" is how one highly-regarded analyst/broker
described the rest of 2008, adding that anyone predicting the top of the
boom was "potentially a decade too early".

It was wonderful stuff that coincided with news that the value of Australian
resource stocks had overtaken the value of bank stocks - which is what
Dryblower believes should be the natural order all the time.

But, as he read the glowing assessment about the outlook for the rest of the
year, and comments about something "very big brewing", and the
yet-to-be-felt impact of rampant earnings on share prices, Dryblower
considered the context of what was being written.

Much of the excitement came from the gathering of billionaires and
millionaires at the launch of the Fortescue Metals iron ore project - an
event where even the cook and her cousin ranked as millionaires thanks to
the spectacular performance of FMG shares.

Exciting as it was, this event took place in the same week that BHP Billiton
opened its Ravensthorpe nickel mine and the nickel price settled at around
$US11 a pound, less than half the high reached early last year when the
nickel price last "spiked".

It also occurred in the same week that China, the engine-room of the boom,
literally got the shock of its life in a major earthquake which wiped out
entire cities.

All of those events reminded Dryblower that while events can seem exciting
to younger players in the stock market there is a natural rhythm to these
things which should never be ignored.

Fortescue's start-up was a terrific event, and well done all involved, but
it was the best indication yet that the supply response to Chinese demand -
albeit belated and slow - is working.

The opening of Ravensthorpe, also late and over budget, was a second
reminder that supply is rising - perhaps not yet as fast as demand, but
rising nevertheless.

That's why talk of a super-spike, which is thrilling indeed, should be taken
very, very carefully.

It's true that the full effect of profits from high resource prices might
not be fully reflected in share prices. It's also true that China booms on.

But Dryblower has been around long enough to know that price spikes in
markets are not always a good thing. Customers hate them, miners find it
hard to keep up with demand, and costs blow out.

There are also several centuries of evidence to prove that after a spike
comes a slump, and while no one is tipping that, yet, there is the worry of
the United States diving into recession, of Europe struggling to grow, and
of the entire world economy being dragged lower by the sky-high price of
oil.

Perhaps we will have a super-spike in commodity prices and a super-spike in
resource company shares, but most of it will be a result of red-hot money
looking for the next game - and once the game is over, the money goes away.

That's why Dryblower wishes people would stop tipping events like a
super-spike because they always end badly.
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