Mining malaise fuels world's worst junk bond losses

Sydney

AUSTRALIA is delivering the worst junk bond losses this year among major nations as a commodities rout undermines resources companies and mining service providers.

With iron ore and coal plunging to five-year lows, speculative-grade notes from Australian companies delivered a 4.4 per cent loss since Dec 31, a Bank of America Merrill Lynch index of dollar-denominated debt shows. That compares with a 4 per cent gain for the gauge as a whole. Debt in Fortescue Metals Group Ltd, Australia's third-biggest iron ore miner, slumped 6.3 per cent.

A global supply glut has combined with a slowdown in Chinese demand to push iron ore prices down 48 per cent this year and thermal coal 26 per cent, squeezing mineral producers' profits. Cost cuts and reduced capital investment from mineral extractors are also complicating matters for companies that provide services ranging from drilling to haulage such as Barminco Holdings Pty and KKR & Co's Bis Industries Ltd.

"With current commodity prices, all the miners and services companies are flying on the edge a bit and it's the less-diversified companies that are likely to be more affected," Tariq Chotani, a credit strategist at Commonwealth Bank of Australia, said on Monday. "Among the miners, everyone's looking for efficiencies, lowering capital spending plans, and that clearly impacts the amount of work available for services companies."

The biggest miners are trimming spending after a decade-long US$623 billion investment spree was followed by asset writedowns and management clear-outs. BHP Billiton Ltd said it would further reduce costs and limit capital expenditure to US$13 billion in 2016, less than 60 per cent of its 2012 level. Rio Tinto Group is targeting a further US$1 billion in savings by the end of next year, after stripping out US$3.2 billion of expenses since 2012, it said in August.

Figures scheduled for release this week from the Australian government are expected to show private capital spending fell 1.9 per cent in the three months through September, according to the median estimate in a Bloomberg survey of economists. "We have now seen the peak in mining investment and over the near term, we expect that the fall in mining investment will be a significant drag on gross domestic product growth," Alexandra Heath, head of the Reserve Bank of Australia's economic analysis department, said in a Nov 21 speech. "There is, however, some uncertainty around how fast and how far mining investment will fall and the extent to which investment in operational aspects of mining projects will contribute to growth."

The ramp-up in production has contributed to a fall-off in global resource prices. Ore with 62 per cent iron content at the Chinese port of Qingdao last week fell as low as US$70.20 per dry metric tonne, a level unseen since June 2009, and was at US$70.42 on Monday. The price of energy coal from Australia's Newcastle port this month touched US$61.85 a tonne, the lowest since 2009, according to McCloskey.

In addition to service providers, producers with highly concentrated interests in individual minerals have also seen their situations become more difficult. "Single-product miners such as Fortescue are definitely feeling the pressure in terms of credit metrics and credit profile," said CBA's Mr Chotani. "The headroom that Fortescue had available on its credit profile before has been reduced."

Speculative-grade companies are those with ratings below Baa3 at Moody's Investors Service or the equivalent BBB- at Standard & Poor's or Fitch Ratings. The average yield premium over Treasuries for Australian junk-rated miners has blown out to 8.29 percentage points as of Nov 21 compared with 4.64 at the end of last year, according to data from Bank of America. BLOOMBERG