This is what a mania looks like: the rise and fall of mining shares

Mining shares have been among the big winners in 2014. The FTSE All-Share index is up a miniscule 0.4 per cent so far this year, but several FTSE 100 miners have motored.

Mining shares have been among the big winners in 2014
Mining shares have been among the big winners in 2014

Randgold Resources is up 37 per cent; Fresnillo is up 28 per cent; Anglo-American is up 25 per cent; and Glencore is up 19 per cent.

Not every big mining company has dug up great returns for shareholders this year, however. Investors in Rio Tinto and Antofagasta may wish they’d backed different horses, with their companies cantering at the back of the pack – though still ahead of this stubborn-as-a-mule market.

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It’s true, too, that seven months since New Year’s Day is a short and arbitrary time period over which to measure your returns. At the Motley Fool we usually think in terms of years, not year-to-dates. But it’s actually the longer term view I find most intriguing here.

You see, shares in the mining sector plunged between 2011 and the end of last year, and investors feared the commodity boom had burst. This year’s big winner, Fresnillo, saw its share price fall 55 per cent between January 1 2011 and December 31 2013. Even sector stalwart BHP Billiton was down 27 per cent during those years.

Then, as so often happens, it looks like investor pessimism set the stage for the massive rebound we’ve seen in mining shares in 2014. But how did investors get so pessimistic? Mainly because they got too optimistic before. Let me share an example.

One wet evening in 2011 I headed out from The Motley Fool’s office to a gathering of Fools in a nearby pub. I was sure I’d be able to indulge in my favourite pub pastime –talking shares – with like-minded investors.

But I was disappointed. It wasn’t that Fools weren’t interested in investing – far from it. They were very keen to discuss developments at their chosen companies. Some even had contact with board members of their favourite firms. Many had the confident air of those who expected to do very well from their investments.

So why was I disappointed?

Well, summer 2011 was the peak of the bull market in commodity companies – the firms that dig stuff up, drill and pump it, or grow it on plantations. And those were the only companies my fellow Fools – almost to a man and woman – were interested in.

Apparently, small-cap retailers, tech start-ups and the like were yesterday’s news.

I was flabbergasted by the unanimous mindset on display that night, but I shouldn’t have been surprised. For months, most of the Fool’s discussion boards had dried up, as everyone’s focus turned to miners and drillers. Veteran small-cap investors who’d never looked at the commodity sector were asking for pointers.

Even popular competitions sprung up, aimed at predicting which junior oil explorer would go up by 20 per cent or more in the next month.

This is what a mania looks like. That’s not just hindsight talking, I’d noticed worrying signs long before I sat silently with my pint in that pub where everyone else plotted their fortunes.

In April of 2011, I’d warned that the $11bn listing of mega-commodity trader Glencore looked suspiciously like the smartest people in the business calling the top of the market.

Before that I’d reported on a music production company called Zest that was, bizarrely, changing its name to Rare Earth Minerals and getting into mining. You might laugh now, but this company’s shares quadrupled in six weeks after declaring that shift in strategy.

It’s clear, then, that by summer 2011 the commodity boom was over, although we only knew that for sure in retrospect.

My intuition largely kept me out of resource companies – though I admit I was wary much too early, and at times I felt stupid for missing out. Mostly, I believe the experience made me richer as an investor in terms of knowledge and perspective.

Even the seemingly safest companies can come a cropper, which makes diversification a must for prudent portfolios.

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