Commentary: Changes in financial markets trouble mining industry

Analysts at CPM have studied the precious metals and commodities markets — including investment trends in mining equities — since the 1970s. This long and intimate involvement gives us insight into the transformations that clearly now are wracking the buy side, the sell side and the mining industry.

The CPM Group recently completed a study of over-the-counter (OTC) and exchange metals markets. As part of the 2018–2019 project, CPM bought the best list of managers at hedge funds, commodity trade advisors and commodity pool operators. Of the 6,800 fund managers on the list, 132 trade metals. Of those, 35 base their investment decisions on economic and fundamental factors. The rest traded based on price charts, price momentum and computer-generated trades.

Fewer than 2% of professional money managers focusing on futures and options even trade metals, and fewer than 0.5% pay attention to trends in the metal markets, the mining industry, fabrication and investment demand, and the economic and political environments that shape these fundamentals.

Now CPM is studying institutional investment trends in mining and exploration companies. Institutional investors suffer from a range of transformations. There is a trend towards lower fees, reducing revenues and profits. Funds increasingly are investing in indexed exchange-traded funds (ETFs) and funds  packaging numerous companies, rather than individual companies. They also are shifting from funds managed by human portfolio managers and research teams to funds driven by computer-generated decisions.

When Barrick Gold made overtures towards Newmont earlier this year, a rumour spread that “not even Evy Hambro’s fund” at BlackRock owned Barrick shares. In fact, it did. There were 65 BlackRock funds that owned Barrick shares. Five of them were managed by analysts and portfolio managers. The other 60 were indexed funds and ETFs.

The BlackRock data reflects similar changes in equity investment trends, away from investing in individual companies based on fundamental analysis, towards investing in indexed funds and ETFs.

Jeffrey Christian, managing partner, CPM Group.

The shift towards investing in indexed ETFs and funds means that mining companies large enough to be in such indexes have seen their prices rise, as generalist investors have bought such indexed investments in response to rising gold prices. Smaller mining companies not in such indexes have been largely flat, and face increasing difficulty in raising capital.

Banks and brokers are experiencing major negative shocks themselves. Their revenue models are being shattered by the virtual and actual disappearance of broking fees, rising costs, increased regulatory requirements and expenses, poor returns on installed capital, and a reluctance on the part of their institutional investors to pay for broker-generated research.

As we studied these major transformations on the buy side, the sell side, and the consequent financial pinch on the mining industry, the question arose: What does this mean for CPM’s service provision to investors, mining companies and the sell side of financial markets in the future? The answer partly is evident in the past.

As institutional investors pivot away from free research from banks, brokers and promotional agencies supported by mining companies, they are focusing on what is being called “curated research,” picking and choosing a limited number of highly respected, independent, unbiased, knowledgeable research and advisory services. CPM is viewed as a quality source of research on precious metals and commodities by those institutional investors that still are economically and fundamentally driven. One executive put it succinctly: CPM sells research. They sell advertising.

This suggests that the future client portfolio at CPM will be much as it has been since we bought our independence from Goldman Sachs in 1986. In 1991, we were told that three of our institutional investment clients represented more than two-thirds of the open interest in Comex gold futures and options markets. The reality is that the precious metals physical and mining equities markets always have been characterized by relatively small numbers of highly focused investors who pay attention to the fundamentals.

Markets today are witnessing a shift away from fundamentally driven investment decisions toward mechanized, automated mass-market investment products. This trend will last until markets change in a way not predicted by algorithms — based as they are on history and not present circumstances. Meanwhile, there will continue to be any number of investors, wealthy and ordinary, who will continue to want sentient human beings managing at least  part of their money. Those investors will continue to focus on the fundamentals of the mining industry, the metal markets, and the underlying economic and political environment or landscape. They will continue to outperform the indexed funds, especially at turning points, as was the case in 2001, 2007 and 2011.

— Jeffrey Christian is the managing partner of CPM Group, a commodities research and management, consulting and financial advisory firm in New York. He founded the company in 1986, spinning off the Commodities Research Group from Goldman Sachs & Co., and its commodities trading arm, J. Aron & Company.