Global Production
In 1Q22, commodity prices generally skyrocketed on account of Russia’s invasion of Ukraine which exerted constraints on supply amidst continued growth in demand as economies rebooted post Covid-19 lockdowns. However, China, a key commodity consumer, followed zero-Covid policy for the most part of the year resulting in reduced demand on the market from its largest driver historically. China faced its largest COVID-19 outbreak in 2022 since the start of the pandemic. Additionally, the metal-intensive property market in China remained relatively weak in 2022. Record-high energy prices also fuelled cost of production for metal ores. Although some commodities saw price corrections from their 2021 highs, overall the asset class posted returns of c.23% in 2022. Going forward, metals and minerals to CY23 are expected to fall by 8% y/y and a further 3% in 2024. 2023 Supply side issues are looking to ease from increases in shipping channels, lower input energy prices and improved weather conditions in Europe. However, global growth in mining investment is forecasted to slow down due to a combination of falling spot prices and increasing cost of capital.
Local Production
Growth for the sector has leapt from 5.9% in 2021 to an estimated 10% in 2022. The productive capacity utilised on pre-existing infrastructure in the mining sector in 2022 remained relatively flat y/y at 81%, as per the Chamber of Mines. Local gold production increased 19% to 35.2tn in 2022, from the 29.6tn recorded in 2021 signaling a third straight year of growth. Mineral exports continued on an upward trajectory bolstered by both production increases from maturing investments and firm hard commodity prices. 2022 exports for the sector registered at US$5.67bn, up 9.65% y/y. According to the Chamber of Mines, mining costs are expected to come in 15% higher in 2023 with constraints coming from power supply deficits and foreign currency shortages. Forecasts for 2023 have pinned sector growth to a range of between 8% to 10.4%.
Regulatory Environment
The country’s minerals taxation laws saw some changes in the past 12 months. This includes SI 189 of 2022 which compels miners of gold, lithium, diamond and platinum to settle 50% of payable royalties due to Government through physical delivery of these commodities. Platinum royalties were also doubled to 5% whilst for Lithium a new rate of 5% was introduced from increased interest in the sub-sector. Notably, legislation was also introduced banning export of unprocessed ore. Export retention thresholds have increased to a uniform 75% from a baseline of 60% in the mining sector in 2022. This has had the effect of overriding the incremental export initiative for VFEX listed miners who could keep 100% of proceeds on excess production from a pre-set baseline. In 2023, the government is also entering the carbon credit market, a US$2bn global market. The proposed carbon credit tax framework will deduct up to 50% of revenue of offsets, potentially disrupting the local market.
Investment Thesis
We are in favour of companies with strong financial positions that give room for investment in output growth during seasons of high commodity prices and also provide a cushion to ride out rockier period for the underlying commodities. We are attracted to companies with a culture of management execution, transparency, and creation of value for the shareholder. Gold mining stocks are particularly appealing in the present environment given the resilience of bullion prices at the current high levels giving upside to the topline. At current levels, prices for VFEX listed gold miners however seem full so we give a HOLD recommendation with view of accumulating into weakness. For listed gold mining companies, under the VFEX IH Universe; Caledonia is trading at a P/E (+1) of 10.4x versus peers at 11.8x and its 9-year average of 8.4x. For Padenga, using a SOTP valuation we estimate a target price of US$0.26 versus a current price of US$0.22 implying 19% upside. We therefore rate the business as a HOLD with strong accumulation into weakness.
