Spot the bubble - mining shares or property stocks?

published 12 July 2006

Spotting investment bubbles has become a tough call in recent years. When interest rates are low and money is cheap, investors become careless about where they put it. It becomes harder to decipher which assets are rising in price because they're worth buying, and which ones are rising just because everything else is. But two sectors stand out in particular mining stocks, and shares in property companies.

Take mining shares. The prices of precious and base metals - notably gold and copper - have rocketed this year, and so have the shares of the companies that produce them. The recent correction has seen them give back some of those gains. But even now, mining stocks are still up more than 60% in the past 12 months.

The general consensus among pundits seems to be that the mining sector is over-inflated. Morgan Stanley economist Stephen Roach last month stated that 'the world is now in the midst of another bubble this one in commodities. It, too, will burst. The only question is when.'

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Another potential bubble has formed in UK commercial property. Property company shares have soared and investors are piling into a sector which returned close to 20% in 2005, on top of double-digit gains in the previous two years.

The recent introduction of Real Estate Investment Trusts (Reits) has just added fuel to the fire. But Martin Allen, property analyst at Morgan Stanley says: "I know a property share bubble when I see one and it doesn't matter whether we've got Reits or not. Property shares are overpriced."

The fact is that only one of these two sectors is actually in bubble territory. So which is it property or mining?

Spot the investment bubble: commercial property shares

One good indicator of a peak is when insiders start to sell out of a sector.

On the commercial property side, statistics from property research company Investment Property Databank show that in May both listed and privately owned property companies sold more property than they bought.

Who have they been selling to? To UK institutional investors, who have launched a slew of commercial property funds to take advantage of the sector's recent strong run to attract private investors. And surprise, surprise private investors have also been buying commercial property directly.

So the people who actually deal professionally in commercial property are selling out to the man on the street. And as readers probably know, the man on the street is notorious for buying an asset when it is at its most expensive.

Here's a good example. Banking giant Barclays recently sold a number of its freehold properties, The group said it was looking to "realise gains" amid "historically low yields on property".

Some of these branches were sold at an Allsop commercial property auction in London, aimed at private investors. One of these eager bargain hunters bought a Barclays branch in Stansted. The rental yield was 3.4% - one of the lowest ever achieved at such an auction.

You have to wonder what the buyer was thinking. He could have got a better return by sticking his money into a bank account, rather than buying the bank.

Spot the investment bubble: the insiders are selling

At the same time as private investors are piling into shops and offices, falling demand from the people who actually occupy them seems inevitable. The UK high street is under siege and not just from rising taxes, wages and energy bills.

The internet is transforming the face of retailing. Online bookings have already decimated the traditional high street-based travel agent. Banking and shopping are also increasingly done online.

The natural response of companies will be to shut shops after all, why maintain an overhead-heavy branch network if you can do everything from a central office and warehouse?

This trend isn't going to go away. And yet, a recent report from property consultancy Colliers CRE estimates that UK property developers are set to build 53m sq ft of shopping centres in the next four years. That's equivalent to 33 centres the size of Kent-based Bluewater, Europe's largest shopping centre.

Where are all the shoppers going to come from to fill these centres? UK consumers are facing rising bills and a growing tax take, while carrying a record amount of debt on their shoulders nearly £1.2 trillion at the last count. That doesn't leave a lot of room for spending.

The property professionals are right to be bailing out of the sector while the going is good.

Spot the investment bubble: mining stocks

So what about mining insiders are they looking to lock in their gains before they evaporate?

Far from it. Canadian nickel miners Inco Ltd and Falconbridge are currently being bought out by US peer Phelps Dodge for $40bn the largest mining takeover in history. That's a pretty hefty vote of confidence in the sector's future.

And Phelps isn't the only contender. Anglo-Swiss miner Xstrata, which has already offered $14.4bn for Falconbridge, is widely expected to up its bid again to derail the three-way merger.

Miners are right to be confident. The stellar growth of China is regularly cited as the main driver of a new commodities "supercycle" defined by investment analyst Citigroup as "a prolonged (decades) trend rise in real commodity prices, driven by the urbanization and industrialization of a major economy".

The bears argue that China's breakneck economic growth cannot continue particularly as the country attempts to make its economy less reliant on manufacturing and more dependent on consumer spending.

But it's not just about China. As well-respected financial commentator David Fuller points out, demand from developing markets around the world means that the commodities story "now emanates from most of Asia, South America, much of the Middle East, Eastern Europe and even Africa".

As the populations of less developed economies pursue a higher standard of living, growing demand for raw materials is inevitable.

So where would you rather be invested? In a sector which depends on consumers in the developing world, who are savings-rich, ambitious and hungry for a better standard of living?

Or in companies which ultimately depend on over-indebted, over-taxed UK consumers, who can only hope to attain a better life today by borrowing from tomorrow?

I know where I'm putting my money.

John is the executive editor of MoneyWeek and writes our daily investment email, Money Morning. John graduated from Strathclyde University with a degree in psychology in 1996 and has always been fascinated by the gap between the way the market works in theory and the way it works in practice, and by how our deep-rooted instincts work against our best interests as investors.

He started out in journalism by writing articles about the specific business challenges facing family firms. In 2003, he took a job on the finance desk of Teletext, where he spent two years covering the markets and breaking financial news. John joined MoneyWeek in 2005.

His work has been published in Families in Business, Shares magazine, Spear's Magazine, The Sunday Times, and The Spectator among others. He has also appeared as an expert commentator on BBC Radio 4's Today programme, BBC Radio Scotland, Newsnight, Daily Politics and Bloomberg. His first book, on contrarian investing, The Sceptical Investor, was released in March 2019. You can follow John on Twitter at @john_stepek.