Spending binge could backfire on resource firms

Chinese resource firms have embarked on a global buying binge over the last year, paying big premiums for assets to produce commodities like oil and gold on the assumption that soaring prices will lead to large investment returns. But these billions of dollars in purchases could easily end up worthless if commodities prices return to earth in the next few years.

Barely a week goes by these days without the announcement of a new purchase or major initiative by a Chinese resource firm, with last week alone seeing three such deals.

Last Monday, State-owned Aluminum Corporation of China, or Chalco, announced it would offer nearly $1 billion to increase its stake in a Mongolian coal mining project, paying a 28 percent premium for new shares to Canada-listed Ivanhoe Resources.

Days later, the State-owned parent of PetroChina announced it was in talks with several major foreign oil companies, including Royal Dutch Shell, for a project to develop shale oil in the Xinjiang Uyghur Autonomous Region.

And at the end of the week, Zijin Mining, China's largest gold miner, announced it would invest $235 million for a controlling stake in Norton Gold Fields, paying a 46 percent premium for shares of the Australian firm.

These three deals all carry major risk for their buyers. Chalco is paying a sizable premium for a deal taking it into the coal and energy sector, where it has little experience. Zijin Mining is also paying a hefty premium for its purchase, betting that global gold prices will remain high. PetroChina's broader bid to develop shale oil and gas also carries a high degree of risk, as its initiatives in this costlier energy area become uneconomical if oil prices ever return to more historical levels. Clearly these companies are rushing to capitalize on high commodity prices - including oil that now sells for more than $100 per barrel and gold that continually reaches new highs - even as other commodities like aluminum are already showing weakness. Price drops are likely to spread to other commodities in the future as European demand wanes due to the continent's debt crisis, and as China tries to dampen its overheated real estate sector, a major energy user and consumer of materials like steel and aluminum.

Of course, there is always the possibility that prices have entered a new phase and will remain high on growing demand from China and other developing markets. But if the current bubble bursts in the next two or three years, China's resource firms could quite possibly be left with billions of dollars in worthless global assets.