As most investors are well aware, some sectors of the global economy tend to carry more risk and exhibit more volatility than others. At one end of the spectrum are utilities and consumer staples, two industries that tend to weather downturns relatively well but lag behind riskier sectors during bull markets. At the other end are those corners of the market that tend to lead the way both higher and lower in trending markets: high beta sectors that generally show greater volatility (see Three High Beta ETFs).
As evidenced by the performance over the last two years, the mining industry is one of the more volatile segments of the global economy. Because the profitability of hard asset producers depends on demand for raw materials, prospects dim when manufacturing operations slow (see all ETFs in the Commodity Producers ETFdb Category). Conversely, in an expansionary environment demand for raw materials skyrockets, driving up commodity prices and padding the profitability of the companies responsible for getting resources out of the ground. But there is another element to the risk profile of the mining sector; discovering and accessing new reserves, a vital components of building future revenue streams, can be a challenging task.
Although proven reserves of many resources are sufficient to sustain mining for decades, new discoveries are still cause for celebration. The ability to increase output and diversify operations from a geographic perspective is obviously beneficial to the mining industry. In most cases, locating new reserves is an expensive and often fruitless process. And new discoveries tend to be relatively small in scope, not adding significantly to global supply.
So a report earlier this week that Afghanistan is home to nearly $1 trillion in untapped mineral deposits was a major development that could begin a transformation of the global mining industry. “The previously unknown deposits — including huge veins of iron, copper, cobalt, gold and critical industrial metals like lithium — are so big and include so many minerals that are essential to modern industry that Afghanistan could eventually be transformed into one of the most important mining centers in the world,” writes James Risen.
Boost For Mining ETFs?
The discovery, made by a team of Pentagon officials and U.S. geologists, could dramatically alter Afghanistan’s economy, which currently turns out GDP of only $12 billion. And it could also set off a scramble among global mining companies to establish a foothold in what a Pentagon memo predicted could become the “Saudi Arabia of lithium.” Afghanistan currently has very little mining infrastructure in place, and the small mining industry has been plagued by allegations of corruption in recent years. So the hurdles to realizing the potential wealth buried beneath the Afghan desert are significant, and it will likely take decades to fully tap the vast mineral resources.
In coming years, Afghanistan could see a flood of investment from companies desperate to establish operations in a region that could quickly become one of the world’s mining hubs. If the risks inherent in doing business in the war-ravaged country are dialed down, Afghanistan could present an incredible opportunity for the mining industry. Below, we profile two mining ETFs that could be impacted as this story unfolds (sign up for the free ETF newsletter for more investment ideas):
- Dow Jones Emerging Markets Metals & Mining Titans Index Fund (EMT): The massive mineral discovery is of particular interest to resource-hungry emerging markets, and U.S. officials are already worried that China will try to dominate Afghanistan’s mining industry. Last year American officials accused Afghanistan’s Minister of Mines of taking a $30 million bribe to award rights to a copper mine to China. EMT’s holdings consist of emerging market equities engaged in the extraction of precious and industrial metals, companies that seem likely to have a hand in the development of the untapped resources.
- SPDR S&P Metals & Mining ETF (XME): This ETF tracks the S&P Metals & Mining Select Industry Index, a benchmark comprised of U.S.-listed mining companies. The process for awarding mining rights in Afghanistan is a great unknown; if U.S. firms have an inside track, XME could be an interesting long-term play.
Disclosure: No positions at time of writing.