Mining companies need new risk solutions
Mining companies find themselves at the vanguard of corporate commodity risk. Quite apart from the risks associated with building and heavy industry, the holding and trading of metal holds high risks all on its own. The prices of metals, just like the prices of other commodities, are exceptionally volatile.
This metals market now looks wholly different to how it did even as recently as five years ago. Volatility and complexity have reshaped it, introducing new and diverse challenges for all participants. Particularly affected is the swathe of metals-exposed organizations like mining companies – for whom access to the physical product is at the heart of their businesses.
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Price volatility has driven a shift to shorter contract terms. In a falling market buyers are reticent to tie themselves into long term contracts, as they try to take advantage of falling prices. So where once processors and refiners would sign a five-year agreement with a mining company to receive their critical raw materials, they are now faced with a maximum of six or 12 month contracts. While this brings flexibility, it also increases risk on a number of fronts: counterparty, credit, volume and operational.
These short-term contracts have ratcheted up risk for providers of metals. If the price falls out of a market of a particular metal, miners and traders of that metal may find themselves with a glut of material that they spent good money acquiring and that they may not be able to sell in the near-term at a break-even price. Mining companies, in fierce competition with one another on an international scale, have not been in a position to push back on the demands of buyers for these shorter contracts.
At the same time, we have seen a rise in market complexity, largely driven by the growth in the financial trading of metals and the explosion in popularity of exchange-traded funds (ETFs), investment funds that are publicly traded. With metals markets now a source of investment, volatility is no longer a simple, relatively predictable result of supply and demand imbalance, but instead it affected by macroeconomic factors like never before.
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Take Chinese economic announcements, for example. These have a significant impact on the price of copper, so for a copper miner, this introduces another layer of complexity into your risk management. China has also been one of the largest consumers of steel, because of its construction needs. This steel need also makes China a large consumer of metallurgical coal, the more expensive type of coal that is used in steel production. So even a slight economic uptick or downtick in China can move the needle on the demand for and price of multiple commodities.
The result is clear: a more complex market with greater potential risks. For mining companies to avoid being pulled under by outside forces, they must shore up their approach to risk management and ensure they have the right tools for the job.
So let the call go out: mining companies need to get aggressive on managing risk. There’s no future in waiting for commodities markets to calm themselves down and cooperate.