Silver is the top pick for 2007 but trade carefully
www.ameinfo.com

If 2007 proves to be a stormy year in financial markets, as this column predicted last week, then precious metals look the most solid investment choice. However, precious metals would likely also tumble in a global capital market sell-off, along with oil and other commodity prices.

But gold and silver could be the first to rally in a recovery, with silver outperforming the yellow metal.

Therefore market timing will be crucial if investors want to profit from the likely out performance of silver in 2007. This column is suggesting a correction in global capital markets and a lower oil price in Spring 2007, so that might make the summer a good time to buy silver to profit from an upturn in the autumn.

Step back a little to the AME Info investment hot tip for 2006 which was gold, and we note that yes this asset class did manage to outperform pretty much anything else, except silver.

No great skill was required to achieve this 25 per cent gain – buying a gold bar in the Dubai Gold Souk takes a few minutes and you could sell it now just as quickly.

Compare this with the higher degree in mathematics needed to understand hedge funds, and their miserable seven per cent average return in 2006 which hardly justified all that mental arithmetic.

Silver shines brightly
Silver has posted a 45 per cent gain in the 12 months since we last posted a forecast. Historically in a precious metals’ rally this has tended to be the case as the supply of physical silver is far smaller than gold and more susceptible to an inflow of speculative money.

So for 2007 we suggest that investors learn from the error of the previous year and back silver as their asset class of choice. But the best performance will not come from a buy-and-hold strategy, rather cash should be held back in 2007 until the late summer when a classic market bottoming situation should present the best precious metal bargains of the year.

The more nervous investors might find that they are best advised to hang on to their US dollars for the year, as a major financial crisis would produce a rally in the value of the greenback against other currencies as a safe haven. However, that might only be a temporary phenomenon and precious metals as real money and a store of value will then come into their own.

Bull market not over
Jim Rogers has reminded us that commodities’ bull markets last for an average of 14 to 22 years, and on that reckoning all commodities would be a buy after a bull market correction next year.

For the outlook for the rest of the 2000s is surely similar to the 1970s when gold and silver prices gradually rose and rose, except for a bull market correction in 1975-6 – ending in a spectacular blow-off in 1980, perhaps this time in 2009 or 2010?

Investors who bought in early to that particular investment party made spectacular returns during one of the most difficult decades for investors since the Great Depression of the 1930s. Next week we will consider how to actually buy and hold silver and related assets.

Southern Copper: A High-Grade Mining Play
By Will Frankenhoff
www.fool.com
*Published in August but worth a read regardless.

Here’s a question for all you metalheads out there: Which company boasts the largest copper reserves (for a publicly traded corporation) in the world, trades at a discount to its peers while sporting the richest dividend, and has the greatest potential for upside earnings surprises?

Could it be the world’s largest mining group BHP Billiton (NYSE: BHP) or London-based giant Rio Tinto (NYSE: RTP)? Nope (although I like both companies as well-diversified plays on the strength of the metals market in general).

How about Freeport-McMoRan (NYSE: FCX), Phelps Dodge (NYSE: PD), or takeover target Falconbridge (NYSE: FAL)? They all would be good guesses but, alas, wrong as well.

The company I’m talking about is Southern Copper (NYSE: PCU), a pure-play copper producer which has 44.9 million tons of proven reserves (second only to Chilean state-owned Codelco), trades at a 24% discount to peers while offering a 8.8% yield, and has just resolved two labor strikes that had shut down close to 40% of its production over the past quarter.

I know, I know … the valuation discrepancy could be attributed to the labor strikes I mentioned above, but if we are to follow that logic, then why haven’t BHP Billiton or Rio Tinto seen their shares prices take a commensurate hit following the recent strike at the Escondida mine in Chile? After all, according to Macquarie Bank, the world’s biggest copper mine contributes about 20% of earnings for both companies.

As my Foolish colleague Anders Bylund wisely pointed out in his recent article “3 Stocks That Missed the Mark,” it’s not like Southern Copper’s results were really disappointing. For the second fiscal quarter ended June 30, 2006, the company reported that revenue grew some 34% to $1.28 billion, despite a 13% decrease in copper production and a 35% decline in molybdenum output. Earnings came in at $439 million, or $2.98 per share, up 41% from last year’s quarter, as tight expense control — coupled with higher copper, silver, and zinc prices — more than offset the temporary decline in production.

Hmmm … so the valuation discount isn’t caused by a lack of performance. Is it because — unlike BHP Billiton, Rio Tinto, or even Freeport-McMoRan — Southern Copper is a pure copper play and lacks the diversified assets that could cushion a cyclical downturn in copper prices? Sounds reasonable — and it is an issue that prospective investors do have to consider in the longer term — but given the continued strength in copper demand worldwide, that argument seems to carry little weight with regards to Southern Copper’s current valuation.

Maybe I’m just being a Fool, but I don’t see how this valuation discount won’t narrow. But just to make sure, let’s take a look at the outlook for the copper market in general and the prospects of Southern Copper in particular.

The copper market
As we are all aware, commodity markets have been on fire over the past few years, driven by the strength of the global economy and voracious demand from developing nations such as China and India. This demand shows little signs of slowing, as evidenced by the fact that China’s economy continues to expand at a double-digit clip, India’s GDP growth is around 8%, and, according to the World Bank, emerging markets overall should see collective growth that remains above 5.5% in both 2006 and 2007.

Copper prices, like those of all metals, have soared. Since 2003 — the first year that copper consumption outpaced demand in the current cycle — copper prices have jumped some 422%, from $0.67 per pound to their current levels of around $3.50/pound.

Obviously, we can’t expect this type of appreciation going forward, but there’s enough evidence to conclude that elevated copper prices are here to stay — at least for the next couple of years.

Three quick items that support that theory are:

1. 2006 looks like it will be the fourth year in a row where consumption will exceed production. According to Arthur Miele, senior vice president of sales and marketing at Phelps Dodge, copper production was likely in a deficit of roughly 100,000 tons in the first half of the year. This deficit occured because industry inventory numbers (which showed a build of 7,000 tons) were skewed by the fact that China’s State Bureau of Resources had released 100,000 tons of refined copper into the market over the past six months — a one-time attempt to lower domestic prices.

2. Phelps Dodge has just increased its expectation of copper consumption growth to 5%, up from its prior estimate of 4% growth, citing strong demand coming from Asia, Europe, and even non-residential construction in the U.S.

3. According to Ken Heebner of CGM Funds “When you look around the world today, the earliest we see incremental new production coming online is 2009, 2010.”

Simply put, continued strength in demand coupled with limited production capacity growth should continue to support copper prices. The above-mentioned estimates don’t even take into account the recent strike at Escondida, a mine that produces between 6%-8% of the world’s total copper production.

Pretty good looking outlook, isn’t it? Now, here’s a quick snapshot of Southern Copper.

Southern Copper
The company, majority owned by Grupo Mexico, holds the largest copper reserves of any publicly traded company, with 44.9 million tons. The company has all its current mines in Mexico and Peru, one of the more stable Latin American countries. In fiscal 2005 (before the strikes), it produced around 1.5 billion pounds of copper, 317 million pounds of zinc, 33 million pounds of molybdenum, and 18 million ounces of silver.

With the strike issues recently resolved, the company plans to have both the Caridad and Cananea mines back in full operation by the end of September. The resumption of these operations (and the ramp-up to full production at its San Luis zinc refinery by the end of August) should boost earnings substantially, not least of all because, as the company notes, a $0.01 increase in the price of copper per pound equates to a net gain in annual earnings of $8.7 million.

Given the fact that copper prices are already around $3.50/pound this quarter, up from an average $3.32 in the second quarter, the potential upside is obvious and similar gains are to be expected from zinc, molybdenum, and silver production.

In my Foolish opinion, the upside potential of these resumed operations alone, coupled with the benign outlook for the copper market as a whole, make shares of Southern Cooper attractive at around $90 per share, or 6.3 times fiscal 2006 estimates. If that sounds pricey, don’t forget the fact that the shares carry a yield of 8.8% and trade at a 23% discount to the average multiple of competitors Rio Tinto, Freeport-McMoRan, Falconbridge, and Phelps Dodge.

The rise of bullion funds
www.gulf-daily-news.com

LONDON: Bullion exchange traded funds (ETFs) are flourishing and expanding, and the market liquidity problems some had expected to be created by these new investment products have not materialised, analysts said.

ETFs had helped to widen the bullion market by attracting retail investors who used to be reluctant to trade in commodities, and had accumulated more than 600 tonnes of gold and about 3,500 tonnes of silver so far.

“It has been a fantastic success. It has definitely widened the market … but other markets such as futures markets don’t seem to have lost any business,” said Jeremy East, head of metals trading at Standard Chartered bank.

ETFs allow investors to gain exposure to commodity markets without worrying about setting up futures trading accounts or taking physical delivery.

Sponsors of such funds buy a matching amount of the commodity from the market to keep in bank vaults.

There are some 10 bullion ETFs in countries including the United States, the UK, Australia, Turkey, Singapore and South Africa.

ETFs are listed on stock exchanges and track spot prices.

Analysts said gold ETFs had attracted investors this year because of strong prices, which hit a 26-year high of $730 an ounce in mid-May.

Since then prices had dropped, with gold quoted around $627 yesterday.

But Stuart Thomas, managing director of World Gold Trust Services, sponsor of US-based StreetTRACKS Gold Shares, said ETFs were not going to lose investments.

“If your argument is that the only thing people are chasing is the price performance, then you should have seen a dramatic decrease in the assets in the trust when prices were falling.”

That had not happened, which suggested investors were seeking long-term gains from ETFs, Thomas said.

After surging in May, gold tumbled 25 per cent to $543 in one month. During that period, gold held by StreetTRACKS, accounting for about 75pc of the metal held by all gold securities, rose 0.5pc to 355.50 tonnes. The figure is now 450 tonnes.

Ross Norman, analyst at TheBullionDesk.com, said ETFs attracted investors who did not understand futures or spot markets but were comfortable in investing in stock markets.

“It gives them the ability to trade something in a way they understand,” he said.

Historically, the logistics and costs of buying, storing and insuring gold have kept some institutional and retail investors away from the bullion market.

“ETFs are remarkably sticky. The money comes in and then doesn’t seem to leave. It tells you that they must be different types of investors,” said David Holmes, director of precious metals sales at Dresdner Kleinwort.

ETFs had raised concerns that a significant portion of gold and silver would be taken out of the supply chain.

But Simon Weeks, director of bullion trading, ScotiaMocatta, said the metal held by all the gold funds combined was still too little to for the sector to have a big and sustained influence over prices.

Silver prices hit a 25-year high of $15.17 an ounce in May after the launch of a silver ETF by Barclays Global Investors, while platinum surged to a record high of $1,395 last month on talk that an ETF was likely to be introduced.

But silver was trading at around $13.68 an ounce on Friday, while platinum has fallen to $1,105 an ounce.

The silver ETF has accumulated 112 million ounces (3,489 tonnes) of metal, about 17pc of annual mine output.

“At this rate it will take a year or two for the ETF to get up to the 200 million ounce level, at which we believe the silver market will start to materially tighten,” said John Reade, precious metals analyst at UBS Investment bank.

New ETFs are being launched to attract bullion investors.

An expected change in rules may pave the way for a gold ETF in Japan, while at least two companies are planning to introduce gold securities in India, the world’s largest gold consumer, in the first quarter of 2007.

Gold fell to its lowest in nearly four weeks yesterday as a rally by the dollar prompted bullion investors to leave the market.

Spot gold rose as high as $628.90 an ounce, hit a low of $621.70 and was at $623.00/623.75, compared with $626.00/627.50 late in New York on Thursday.

U.S. dollar strengthens; silver drops 7%; copper down 3% on week
Myra P. Saefong
www.marketwatch.com

SAN FRANCISCO (MarketWatch) — Gold futures dropped almost $12 an ounce Friday, silver lost
7% and copper prices sank to a six-month low — with all three ending the week lower as the U.S. dollar readied for a weekly gain.

The gold market “looks vulnerable to … liquidation as the dollar claws back [out] of its recent weakness,” said James Moore, an analyst at TheBullionDesk.com, in a note to clients.

Still, “the mid- to longer-term outlook for gold remains bullish due to increasing investor interest and speculation of institutional dollar diversification,” he said, in a note to clients.

Gold for February delivery closed down $11.80 at $619.10 an ounce on the New York Mercantile Exchange. That was its lowest closing level since Oct. 31 and it lost $11.90, or 1.9%, for the week.

On Thursday, the contract closed lower but held above $630 an ounce, a key level in recent weeks.

The dollar rose a one-month high versus the yen and three-week high against the euro Friday, after fresh economic reports reinforced market expectations the U.S. economy is likely headed for a soft landing.

The greenback had earlier dropped sharply after a government report showed lower-than-expected U.S. retail-level inflation for November, boosting hopes the Federal

Reserve will be in a position to lower interest rates early next year. It reversed course after a separate report showed U.S. industrial production rose more than forecast last month. See Currencies.

U.S. industrial production rose by an overall 0.2% in November, as the auto sector showed signs of life after sharp declines in the prior two months, the Federal Reserve said. Capacity utilization remained steady in November at 81.8% from October. See full story.

The Labor Department surprised the market early Friday with a report showing consumer prices were unchanged in November as lower energy and car prices offset higher costs for homeownership and medical care. See full story.

The flat readings could encourage the Federal Reserve to begin to relax about inflation. Earlier in the week, the Federal Open Market Committee said it judged inflation risks to be its greatest concern even as it held interest rates steady at 5.25%. See our complete coverage of the Fed.

Buy opportunity?

Ned Schmidt, editor of the Value View Gold Report had a bit of advice for metals traders Friday: “Don’t let the paper-asset pushers on the Street muddle your thinking. Inflation in the U.S. hit a low in October, and is headed up.”

Given that, “excessive and emotional selling by Street of metals is creating buying opportunity,” he said, warning that “Monday [will] likely to be low for rest of year.”

Meanwhile, gold failed to garner support from another key commodity, oil, which was set to end the week higher after the Organization of the Petroleum Exporting Countries agreed on Thursday to cut production by another half a million barrels in February. See Futures Movers.

“Traders continue to ponder the after-effects of the agreement on OPEC production cuts as well as the reality of record-high equity indices,” said Jon Nadler, an investment-products analyst at bullion dealers Kitco.com.

“For better or for worse, money keeps being diverted into paper promises of corporate performance — and any such diversion has a drag on potential gold prices,” he said in e-mailed commentary.

Copper, silver prices sink

Meanwhile, copper prices in New York touched a low under $3 a pound for the first time since late June as traders gauged supply and demand.

March copper fell as low as $2.9925 a pound before closing at $3.0165 a pound, down 4.1 cents for the session and down 3.1% from last week.

“Given the situation in copper where various statistical bodies show negative consumption of copper in China, when [industrial production] growth is thriving, we feel there is considerable risk of pent-up demand in the metal — as such, it is hard to get too negative for the metal,” said Williams Adams, an analyst at BaseMetals.com.

Silver futures suffered along with gold and copper, with its March contract dropping 97 cents to end at $12.98 an ounce. It touched a four-week low of $12.96 earlier and it ended with a loss of 6.6% for the week.

Other metals fell with January platinum fell $8.20 to close at $1,104.50 an ounce — down $3.30 from last week’s close. March palladium lost $6.80 to end at $324.25 an ounce, down 2.9% from a week ago.

On the supply side, gold inventories were unchanged at 7.49 million troy ounces as of late Thursday, according to Nymex data. Silver supplies were flat at 109.9 million troy ounces and copper supplies fell by 2,601 short tons to 31,725 short tons.

Over on the London Metals Exchange, cash prices for zinc were at $4,464 per metric ton on Thursday. Analysts are concerned that global demand will continue outpace supplies.

In equities Friday, most metals-mining shares fell after closing out Thursday’s session with only modest gains.

The DJ Wilshire Nonferrous Metals Index fell 0.2% to close at 6,051.88. But the DJ Wilshire Industrial Metals Index finished at 3,364.57, up 0.5% and the DJ Wilshire General Mining Index added 0.2% to end at 1,368.81

Platinum on a roll, prices jump by 16% to $1,105/oz
DEEPA KRISHNAN
www.economictimes.indiatimes.com

MUMBAI: The sheen of gold and silver has rubbed off on platinum as well. The precious white metal has seen a surge of over 16% from last year’s levels of $950 per ounce, to current levels of $1,105, on increasing demand both from India and around the world in the past year.

The metal saw a huge jump in the price in November to $1,350, the biggest gain in a day in over two decades on rumours that an exchange traded fund (ETF) is about to be launched in Platinum. On Nymex in New York, the metal closed at $1,288 on November 21, before it witnessed a healthy correction of over $100 in the last two weeks. Analysts indicate that the price is poised for good gains in 2007, as over and above the expected increase in demand for platinum if ETFs do hit the counter, consumer and industrial demand for the metal is looking brighter than ever before.

Currently, platinum has been trading within a range. On Nymex, technical charts show that one has to look out for a resistance level of $1,140 to reap further gains and a support level of $1,100, said an analyst from Man Financial. Funds are low-key during December as they lock-in profits and close their positions, in order to start afresh in the next year.

According to metals consultancy GFMS, as most precious metals essentially track gold, if the yellow metal touches $700 levels in January, then platinum along with other platinum group metals would also climb.

On the supply side, the mine production in platinum is looking up, albeit more slowly than anticipated in previous years. Supplies have been rising since 2000, with South Africa accounting for the large portion of the increase. The supply was up 4% in the year at 7.48 m ounces. In spite of this the price was up as the market is driven by demand that is growing at a faster pace. Production of platinum is about 5% that of gold, which makes it twice as expensive as the yellow metal.

Yet in India, according to a report by Johnson Matthey, the world’s largest fabricator and distributor of platinum group metals, the demand for platinum on the jewellery side has tripled in the last few years.

Platinum also has great demand in the automotive industry (45%) as it an active element in the catalytic converters. Jewellery comes second at 30%. It finds use in other industries as varied as electrical and chemical, and petroleum refining.

Zinc supplies are quietly running out
By Myra P. Saefong
marketwatch.com

SAN FRANCISCO (MarketWatch) — It’s zinc’s turn to shine.

Spot prices for high-grade zinc have more than tripled on the London Metal Exchange in the last two years — and the price rally won’t likely end soon with demand for the industrial metal far outpacing supplies, analysts said.

After many years of languishing at low levels caused by abundant supplies, spot prices for high-grade zinc climbed to over $4,400 per metric ton as of Wednesday on the LME — up almost 270% from 2004’s levels.

That’s quite a change for the metal that’s mostly used to coat steel and to act as a rust inhibitor.

“Zinc has been perhaps the worst investment in major metals during the past several decades, which has resulted in significant underinvestment in exploration,” said Dr. Harlan Meade, president and chief executive officer of both Pacifica Resources Ltd. (CA:PAX: news, chart, profile) and Yukon Zinc Corp. (CA:YZC: news, chart, profile) .

“The addition of several large mines in the mid 1990s simply flooded the market with zinc,” he said.

New zinc output, in part, was made possible because of byproduct credits such as copper and silver that sometimes provided enough added revenue to offset zinc prices that really weren’t high enough to encourage exploration or development, he said.

Now the zinc market faces a supply deficit, “caused by the depletion of many of our large mines,” Meade said.

Exacerbating the problem, China, “who dumped zinc on the market during the 1980s and 1990s, became a net importer of the metal in 2003 as the country’s consumption took off,” he said.
China’s influence

Indeed, China’s zinc demand has been “rising at an amazing rate,” said Eric Coffin, co-editor of HardRockAnalyst.com, which offers publications focused on resource stocks.

He blamed “extremely high capital investment growth,” much of which is centered on construction, for the increase in Chinese consumption, which climbed 35% between 2003 and 2005.

“Zinc is a pretty basic industrial material,” said Lawrence Roulston, editor of Resource Opportunities. “Most consumers would not even be aware that they come in contact with it many times a day,” he said, pointing out that a typical car uses about 22 pounds of zinc.

“Car makers will pay whatever they need to pay to get enough zinc to keep making cars,” he said, and “an extra dollar on the zinc price will not reduce demand for cars.”

Similarly, demand won’t slow even if “couple of tens of bucks” is added to the cost of a new house because of the zinc used in galvanized steel for construction, he said.

The recent run in the zinc price has “demonstrated … the critical shortage of metals supply coming from the mining industry,” said Roulston. “There are many small new mines constantly being developed, but no big mines.”

Meanwhile, “mines are constantly being shut down as the ore bodies are depleted, [so] the net result is that production has been flat at a time of rising demand,” he said.
Overall, the zinc industry will “have a hard time at any price bringing on enough new supply to balance supply and demand in 2010 and thereafter,” Meade said.

Eating up supply

Against that backdrop, warehouse stocks of zinc have been depleted.

On the LME, supplies were down to around 85,750 metric tons as of early December — down from 450,000 a year ago and close to their lowest level since March 1991, according to Martin Hayes, a senior correspondent at London-based BaseMetals.com.

And inventories are “set to keep on falling,” he said.

The supply deficit this year will likely be close to 300,000 metric tons, he said, with supply of 6.8 million metric tons not enough to satisfy 7.1 million metric tons of consumption.

In fact, at the current rate of supply declines, Coffin expects the LME warehouse to “be bare in about 3 months.”

“There is very little potential supply enhancement that we know of,” said David Coffin, Eric’s brother and co-editor of HardRockAnalyst.com.

“At a practical level, what will happen is that the high zinc price will bring metals out of unknown stores and mining companies will push as much as they can into the market,” he said.

So “while we do expect the decline to continue, that does not mean we actually expect to see a ‘0′ stocking,” he said.

Even so, zinc will likely follow the same pattern as other metals with stocks declining “to the point where there is only a fraction of a day’s usage in warehouses,” he said.

Hayes expects the shortfall in zinc supplies to ease in 2007 to closer to 40,000 metric tons, from 300,000 in 2006 as “the supply-side response to record prices kicks in.”

“Nevertheless, there is still upside potential for prices in the medium term, as inventory draw downs will continue, with a major reversal unlikely until much later in 2007,” he said.

Roulston argued for a longer-term inventory deficit. “The projected pace of new mine development shows a big supply gap extending for years into the future as demand grows and some of the big, old mines are shut down,” he said.

My name is Faron Benoit and I’m the owner of ResourceBoom.com. I’m a Student at McMaster University and I’m studying ecnomics and stats. I invest in commodity stocks because of my bullish view of the resource sector. This site is a project that I’ve started that will help me stay up to date with commodity trends and news.

I’ve created a challenge for myself and will be using this site to monitor my activities. I started the Challenge on December 1st, 2006. Updates, Current picks and stocks on my watchlist can be found at the top of the page under the title.

The ResourceBoom.com Challenge:

To take $16,500 and turn it into $50,000 in 365 days. All stock purchases, sales and capital gains/loses will be monitered on this site. The following rules have been created for the challenge:

*1. Only Canadian commodity stocks; TSX or TSX-V.

*2. No bonds, GICs or any interest bearing investments shall be purchased during the 365 day timeframe.

*3. All stocks must be held for atleast a week and will be researched and analysed before being purchased. All analysis and research will be posted on this site.

*4. No stock purchases under 10 cents or over $5.00.

Thank you for visiting and I hope this “information portal” will one day be a tool investors can use to invest in resource stocks.

Stockhouse.ca mentioned me in one of their blog publications. Here’s what they wrote:

“One to watch: ResourceBoom by ResourceBoom, which is like the Million Pound Experiment, but with stocks and a smaller cash goal. ResourceBoom is a self-described man with a mission to turn $16,500 into $50,000.

He also noted a Vancouver Sun article that points out the bull market in silver has made exploration properties owned by Silver Standard Resource (TSX: V.SSO, BullBoards) economic to mine. The company’s Pirquitas mine in Argentina is expected to be in production within two years.”

So I thank all the readers of my stockhouse.ca blog and my ResourceBoom.com blog. May the commodity boom last for the next decade.

By Jackie Steinitz
ResourceInvestor.com

India and China are frequently mentioned in the same breath; they are neighbours, both have populations of more than a billion, both have enjoyed fast growth in recent years contributing a joint 30% to global growth since 2001, and both are poised to be in the world’s three largest economies in the twenty-first century. But to date their impact on the commodity markets has been quite different.

For most commodities Chinese demand far outweighs that of India. China is the world’s number one consumer of all the major base metals and either first or second (after the U.S.) for most of the energy markets and agricultural products, (with the notable exception of coffee where it is ranked 45th).

Meanwhile India’s ranking generally hovers between five and fifteen for the major metals. It has a greater presence in energy and agricultural commodities, generally ranking in the top half dozen. The Indian production base for agricultural commodities is large but its international trade is modest.

Typically however China, which has a population which is 20% more than India’s but three times the GDP, consumes anywhere from six to twenty times as much as India in metals, two to five times as much energy and more than twice as much cotton and rubber.

The only exceptions to Chinese supremacy over India are in the tea and sugar markets and in gold and diamonds. India is the world’s largest consumer of gold accounting for 23% of world demand in 2005, and it is the third largest consumer of diamonds after the U.S. and Japan.

Why Are India and China so Different?

A book published recently by Edward Luce, the Financial Times’ bureau chief for South Asia from 2001-2005, suggests some interesting answers as to why the two countries are so different despite starting at a similar state of development some 50 years ago when they had roughly equal incomes per head (and also much the same as Korea’s).

The rather long-winded title of the book, “In Spite of the Gods: The Strange Rise of Modern India,” is also its main thesis; the rise of modern India has been unusual. While India is now expanding rapidly, and has been since 1991, it has not followed the typical developmental pattern of most countries.

China has developed in much the same sequence as most western economies have done. It began with agricultural reform, moved to low-cost manufacturing, is now climbing up the value-added chain and will probably eventually break into the internationally tradeable services on a large scale.

India meanwhile has grown from the other end. The service sector was more than half the economy in 2006, a similar figure to mature economies, yet there has been no agricultural reform (India’s average yield per hectare is half that of China) and no broad-based industrial revolution.

The country’s economy is now booming but it is a lop-sided or a multi-speed economy. The images of the new Indian economy, with its successful IT sector, its offshore call centres, its Bollywood film industry and its successful communities outside India in the U.S., U.K. and elsewhere, (there are several thousand Indian millionaires in Silicon Valley), are indeed a reality. But they are only a small part of the whole picture.

The GDP per capita in India is still just over $700 compared to China’s $1,700, (Korea’s $16,000 and the U.S.’s $44,000). India is home to over a third of the world’s malnourished children. The average life expectancy (63 years) and literacy rate (61% of adults) are well behind those of other developing countries; in China for example the life expectancy is 71 years while 91% of the adult population are literate.

As Luce points out less than 7% of India’s 430 million strong labour force is in the formal economy, and only 35 million pay income tax. The remainder are in the villages, “milking the cow, making up the armies of mobile casual farm workers, running street stalls etc.” Twenty-one million of the 35 million people working in the formal sector are employed by the government leaving just 14 million in the private sector of which just one million are in IT. Seven million work in the manufacturing sector compared with 100 million in China.

So why it is thus? Why has the service sector been so successful and why is the manufacturing sector so small? It is not possible here to begin to do justice to the full historical, religious, economic and political analysis presented by Luce, or to his assessment of the enduring legacy left by three key figures of the twentieth century; Gandhi (who among many other things was anti-materialist and saw the village as the building block of society), Nehru (who sought to build a self-sufficient state-dominated economy) and Ambedkar. But a few points should be noted.

Luce writes, for example, about the importance of the English language. Since India’s middle classes speak English this has given India a huge competitive advantage over China in the service sector where the ability to converse in the world’s business language makes a big difference.

The success of the service sector can also be attributed to the historic allocation of the education budget, with equal measures devoted to universities and primary education. This has resulted in a society with a highly educated elite but a poorly educated majority. India produces a million engineering graduates every year (compared to 100,000 in the U.S.) but its literacy rate is under 65%. China by contrast has invested much more heavily in elementary schooling for those at the bottom of the social ladder.

According to Luce the Indian manufacturing sector though small is nonetheless competitive and strong. He cites examples in the pharmaceutical and biotech sectors, Tata Steel (turnover $4 billion+) which supplies high quality steel for export, and Gokaldas Exports which manufactures two million garments per month for brand labels around the world. Both of the latter use complex capital- intensive manufacturing and are very flexible, but both have been constrained by labour laws, taxes, bureaucracy; and in the textile example, by regulations to fragment the production lines so that each line is small.

So Will India Be the New China for Commodities?

The growth rate of India has broadly doubled since 1991 when India sharply altered its economic course by dismantling a tight system of controls. It is now growing at 6%-7% pa which is behind China’s growth rate (which is closer to 10%) so it is not yet catching up with China, though it is with most of the rest of the world.

However there are plenty of examples already of what can happen as Indian demand for a product explodes. Take mobile phones. In 2000 India had just 3 million mobile phone users while China was adding that number every month to its subscriber base. By the end of 2005 India had 100 million users and was expanding at rate of 4 million per month. Or take diamonds. The market has trebled in just ten years.

Looking ahead Luce forsees many challenges for India to overcome. Besides the overriding need to lift 300 million people out of poverty, he lists challenges related to environmental degradation, Aids and in protecting India’s democracy. But he cites an awareness among policy markets that the best way to cure poverty is through accelerating economic growth.

However Luce also lists a number of opportunities and colossal advantages that India enjoys. Firstly the demographic profile is favourable. From 2010 China’s dependency ratio – the proportion of China’s working-age population to the rest – will start to deteriorate. India’s, by contrast will improve until the 2040s. In the next 20 years the proportion of dependents to workers will fall from 60% of the population to 50% which will give the economy a large ‘demographic dividend’. In 2032 India is projected to overtake China to become the most populous country in the world.

The higher workforce will also boost the savings ratio which will lift investment which in turn will boost economic growth. Already the savings rate has improving from 18% of GDP in 1990 to 26% in 2006. At this level it is still well below China’s 40%, but China’s is falling while India’s is improving. India is projected to overtake Japan as the world’s third largest economy in the 2020s.

Luce’s conclusion is that India is not on autopilot to greatness, but that it would take an incompetent pilot to crash the plane. He asks too whether the Indian tortoise will overtake the Chinese hare? For the investor in resources the question about which country will be the larger consumer is perhaps academic.

India won’t be the new China for commodities tomorrow or the day after tomorrow. It still has a long way to go. But it is already becoming a major consumer of commodities, it has the scale as shown already in the gold sector to be number one, it is gaining momentum all the time, and it looks set to be a crucial prop for the supercycle and commodity prices in the decades to come.

Tan Hwee Ann and Angela Macdonald-smith
www.bloomberg.com

BHP Billiton, the world’s biggest mining company, said demand for uranium would grow as many countries have “massive” expansion plans for nuclear power generation.

The company is in negotiations with potential customers for uranium it could sell, dependent on the expansion of the Olympic Dam mine in Australia, BHP said in a presentation on its website. Prices for uranium sold from the potential expansion may be settled at a higher price than BHP’s long-term price assumption, UBS said in a report, citing the company.

BHP’s Olympic Dam mine in South Australia contains about 34 per cent of the world’s known uranium reserves. The company is carrying out initial feasibility studies into an expansion, which would more than triple production by 2014.

“Demand is poised to grow with many countries embarking on massive nuclear expansion plans,” BHP said in the presentation. “Security of supply concerns have increased contracting activity in (the) spot and long-term market.”

Spot uranium prices, which have more than tripled in the past two years, were at $US65 a pound on December 13, according to Metal Bulletin.

Olympic Dam’s uranium production is currently fully sold forward to 2010 at less than $20 a pound, possibly at about $18 a pound, UBS said.

Uranium demand is forecast to surge by 135 per cent between 2005 and 2030, BHP said, citing forecasts from the World Nuclear Association, with Asian consumption quadrupling.