China commodity story still intact but challenges abound - Mobius

The search now is for companies that benefit from China but are not totally dependent on it

SINGAPORE (Reuters) - 

Commodity-related investments will remain a crucial avenue to gain exposure to the China story even if growth slows to single digits in the coming years, Mark Mobius, president of Templeton Emerging Markets said.

Speaking to the Reuters Mining and Steel Summit, Mobius said by phone from South Africa that risks from derivative contracts, capital flight that drains liquidity or changes of sentiment by leveraged investors like hedge funds don't outweigh a positive long-term picture for China and other emerging markets.

"There will always be traps out there. Mostly brought on by derivatives activity and the tremendous amount of liquidity available in the market which could result in a real problem if that liquidity is withdrawn."

But Mobius was generally friendly toward the resource sector, highlighting China's likely growth trajectory and industrialization in other emerging nations, including India.

"High levels of growth in China are sustainable, but it will get harder and harder as the economy grows. You cannot expect double-digit growth rates over the longer term but you can achieve high single digit growth."

"The implications for raw material are very great. China has become quite active and aggressive in seeking out raw materials globally. Here in Africa they have a number of big projects. They are in Latin America as well. They are spreading out and seeking places where they can get raw materials to feed their economy."

Still he cautioned that the risks mentioned deserved attention.

"A big spurt in inflation and central banks acting too quickly would mean you have a little problem," he said.

"In the commodities arena, companies tend to get involved in derivatives and they often get trapped into derivative contracts that result in tremendous losses.

"One of the first questions we always ask is 'what kind of derivatives contract do you have?'"

CHINA EXPERIENCE

He said China's extensive experience in developing its own infrastructure meant the country had a huge advantage when doing business in other developing nations.

"Africa is the real untapped area. China is a good position they can come in and help these countries with infrastructure.

They are used to massive projects - doing very big civil works projects quickly by importing their own labor, their own engineers. But he added that China, like other nations faces barriers to working in resource-rich but sometimes chaotic countries.

"Of course they will run into all sorts of social and political barriers. like every other country has, but they are probably better suited to handle those. And China will go into places where other people fear to tread." "They have a very big copper mine in Zambia, they are extracting iron ore in Gabon and of course Angola is very attractive because of its oil. Angola is projected to do more in terms of export of oil than Nigeria.

"Sudan is another one. China is running into a lot of criticism but I think they are moving ahead and Sudan has massive oil reserves. In some areas Western firms won't be able to compete." He said China's key areas of interest were oil, coal, iron ore and copper.

Mobius noted that part of China's focus on overseas resources was to secure supply but there are other reasons.

"They are looking at these as simple portfolio investment rather than buying US treasuries. They are thinking maybe we should go into these companies that are extracting the minerals we need, because we know there will be a market -- we are the market." "This is why we are generally bullish on commodities. We know full well there will be major corrections along the way.

"Commodity markets are driven by hedge funds and lots of leverage so we realize the markets don't always reflect real demand but there is still underlying growth in that demand that will support prices."

STOCK PICKS

Mobius said there were a number of ways to gain exposure to the broader commodities story. The first way was buy Chinese stocks that supply China with oil, gas and other raw materials.

"That's why we have companies like PetroChina (0857.HK). The other way is to buy companies overseas like Vale (VALE5.SA), which is a major exporter to China from Brazil and get exposure that way." "Ideally a combination of both -- some good Chinese companies that not only import, but process and distribute these products and buy companies overseas that will be supplying China." But he warned about pinning all one's hopes on the China story.

"We try to pick companies that benefit from what is happening in China but are not totally dependent on it. There will be fluctuations in demand ... so you have to hedge your bets and buy firms like Vale that have a diversified portfolio.

"Buenaventura (BVN.LM) in Peru is one that exports gold and copper all over the place. Antofagasta (ANTO.L), which is based in Chile but listed in London is another one and don't forget the Russians. They have the wherewithal and resources to supply China with a lot of raw materials."

(Editing by Ed Lane)

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