China's economic prosperity will again set the scene for Australia's mammoth resource sector, but for the first six months of 2012, metal commodity prices have been downgraded by about 12% and sector earnings for the period by up to 20%.
Two-thirds of the world's estimated 3.2% growth in gross domestic product this calendar year is attributed to Asian countries, with China and the United States combining to make up more than 55% of the same GDP growth.
Much of the first half of 2012 points to a deterioration in metals prices and company earnings in general, but the second half and 2013 hold a brighter future.
The latter year had a forecast for a 20% earnings increase, Craigs Investment Partners broker Paul Valk said.
"We expect 2012 to remain a stock pickers' market, but believe the sector as a whole should re-rate in the second quarter, with policy easing in China," Mr Valk said.
The sector remained at risk of further downgrading during the present quarter, because of deteriorating economic data out of the European Union and China.
Forsyth Barr broker Suzanne Kinnaird said the ASX resources index had formerly, since January 2007, performed well above the ASX 200 index; but had "struggled" against it since April last year.
However, headwinds included uncertainty over further fiscal tightening to control inflation in emerging economies, including China, plus market volatility fuelled by the weak US recovery and European sovereign debt concerns.
There remained drivers as well, including construction within China's social housing programme and growth in emerging market demand, albeit growth rates were moderating.
Ms Kinnaird said the cash flows were supporting company growth, such as BHP Billiton's iron sands Pilbara expansion, merger and acquisition activity and share buy-backs, such as Rio Tinto's and BHP's.
Mr Valk said China's slowing (overall) housing market in particular held "hard-landing fears".
It was the "key" end-market for Australia's iron ore exporters, coking coal, mineral sands and industrial metals.
Falling residential property sales could lead to a decline in commercial property investment during the year.
"However, as monetary policy is eased and fiscal stimulus programmes are announced, we expect this will trigger a rebound in Chinese consumption, commodity prices and then the mining sector more broadly," Mr Valk said.
Companies with "compelling production growth", such as BHP Billiton, Whitehaven Coal, PanAust, Rio Tinto and Fortescue Metals should be considered for investment, plus oversold gold stocks which had positive exploration news flow.
Ms Kinnaird said "portfolio foundations" for investors to consider could include Rio Tinto, with its cash flow and path to iron ore expansion, and BHP with its strong balance sheet and Olympic Dam expansion. Mount Gibson's exploration and low iron ore commissioning also showed growth potential.
Specifically in gold, she said Alacer Gold was a low-cost producer and Newcrest had good offshore developments.
Presently their share prices were at "compelling levels".
Gold briefly hit $US1921 ($NZ2412) in early September last year and has recently settled about $US1600 per ounce, having been shunned by cautious investors preferring safer havens of bonds closer to home amid the European sovereign debt and currency crisis.
New Zealand's largest producer, Oceana Gold, does not feature in the brokerages' Australia-specific research.
As with all major players, it recently lost 20% of share value, but it has retraced more than 10% and has secured Otago mine-life extensions.
Oceana maintains a bullish outlook for production during the next two years, with estimates this year of up to 250,000 ounces and rising to 350,000 in 2013. The figure for the latter year relies on 70,000 ounces from Oceana's Philippines development mine, which is not due for commissioning until the end of 2012.
In recent research by Craigs Investment Partners, the brokerage said while the sector appeared to be in "top financial shape", with debt at all time lows and growth plans intact, companies' capital expenditure programmes were likely to be cut if metal prices continued to decline.
Net debt to equity ratios in the sector are at an all time low around 10%; compared with 50% in 2008, while any cuts to capital expenditure programmes are estimated by Craigs at 10%-20%.
Mr Valk cited more than a dozen projects, of BHP Billiton, Rio Tinto, Alumina, Aquarius and Paladin, where spending might be "shelved or reduced".
However, "Gold and copper sector capital expenditure spending will continue unabated, given the margins achievable," Mr Valk said.
The positive bullish call in metals lies in iron ore, copper, oil, gold, mineral sands and thermal coal, while negative bearish predictions lie in platinum and palladiun, US natural gas, aluminium and nickel.
"With a deteriorating economic outlook, we've cut commodity price forecasts by about 12% and sector earnings by around 20% and expect most commodities to dip further in the first quarter," Mr Valk said.
With the short-term deterioration ahead, Mr Valk said there would be cuts to capital expenditure programmes, but in the longer term, miners would take note of China and continue with "bigger than ever" capital expenditure programmes.
"We believe capital expenditure programmes could be cut by at least 10% to 20%," he said.
BHP Billiton had said capital expenditure on higher-quality, higher-return projects would be given priority, while Rio Tinto had said it was prepared to "slow projects if required", which could include aluminium and some coal and uranium projects, Mr Valk said.
He said investors should question theoretical returns on marginal projects as opposed to companies' returning funds in the form of dividends or share buy-back plans.
The companies with the "most room" and additional cash to return funds to shareholders were BHP, Rio Tinto, Iluka and Western Areas, Mr Valk said.
While net debt to equity ratios were at the all time low of 10%, Mr Valk said several individual companies did have high debt gearing, such as Fortescue Metals Group and Paladin Energy, and might require additional debt to continue growth objectives.
Mr Valk said the Australian Government would be taking a greater share in the "economic rent" from the resource sector, with the likely implementation of carbon taxes and the controversial government mining tax, scheduled for July 1.
The carbon tax is fixed at $A23 per tonne, while the headline mining tax is 30% of earnings before interest, tax, depreciation and amortisation, which after allowances has an effective rate of 22.5%.
Both Ms Kinnaird and Mr Valk said because both taxes had been known about for some time, their impact had been factored in by the market and was unlikely to have a big effect on the performance of share prices.
