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Small Caps the go..

LONDON: For Evy Hambro at Merrill Lynch, who manages the world's biggest mining fund, small is profitable. By increasing investments in small and midsize companies, Hambro steered Merrill Lynch's $6.6 billion World Mining Fund to the best performance this year among 270 peers tracked by Standard & Poor's. Shares of Hambro's top performers, Perilya of Australia and Zijin Mining Group, which runs China's biggest gold mine, have more than doubled. "These companies have a higher sensitivity to commodity prices, compared with the larger miners," said Hambro, who visited mines in Australia, China and South Africa last year. "Our exposure to small and mid-cap companies made a big difference to our performance." Growing demand from China, the largest consumer of metals, combined with underinvestment in production, has spurred the longest rally in commodity markets since the 1950s. Copper, which is used for wiring, coins and pipes, is the best performer this year, surging 74 percent. The Morgan Stanley Capital International world metals and mining index of 67 companies is up 20 percent. World Mining Fund, which is registered in Luxembourg, returned 25 percent through the end of last week. The fund beat its own benchmark, the HSBC world global mining index, which advanced 23.4 percent. Hambro, who is based in London, said shares of small and midsize companies, those with market values of less than $10 billion, accounted for about 20 percent of his fund after he "gradually built up" his holdings last year. His father is Peter Hambro, executive chairman and co-founder of Peter Hambro Mining, a company based in London that digs for gold in eastern Russia. Smaller miners that do not buy financial contracts to lock in prices for future production have benefited more from this year's record metals prices, Hambro said. Phelps Dodge, one of the world's largest copper producers, reported a 31 percent drop in profit last week as a failed hedging strategy meant the company had missed out on the rally. Hambro also held shares of Jiangxi Copper, China's biggest copper producer. The value of those shares has more than doubled this year. Aquarius Platinum, which mines for platinum and palladium in South Africa and Zimbabwe, has gained 98 percent. Both surpassed the 22 percent advance of BHP Billiton, the world's biggest mining company, and the 7.4 percent gain of Rio Tinto Group. Hambro owns shares in both companies. Hambro, whose fund takes positions in as many as 70 companies, also owns Oxiana, which is based in Melbourne and explores in Thailand, China and Australia. The company's shares have risen 72 percent this year. Not everyone agrees that this is the time to put money in commodities. The Reuters/Jefferies CRB index of 19 commodities is down 4.9 percent from its May 11 record on concern that rising global interest rates would slow economic growth, curbing demand for raw materials. India, the world's biggest gold-consuming nation, raised its benchmark interest rate last week to a four-year high. "It's a dangerous time to invest in commodity stocks at the moment, given the uncertainty in the markets," said James Lau, a director at the financial advisers Wightman Fletcher McCabe, based in London. "Shares of smaller companies tend to rise at a fast rate when markets are bullish and fall just as quickly when markets turn the other way." Hambro did not heed analysts who forecast last year that metals prices would fall in 2006. A Bloomberg survey in December estimated that copper would average $3,681 a ton this year and aluminum $1,900. Prices have so far averaged $6,206 a ton and $2,559 a ton, respectively. "Most people thought that commodities would move into a surplus in the second half of 2005," Hambro said. "We expected deficits for this year and 2007 too. The exuberance in the markets was much stronger than we anticipated." Copper reached an all-time high of $8,800 a ton in May in London, while zinc climbed to $3,825 a ton, its highest level ever. Nickel, which is used to make stainless steel rustproof, rose to its highest level in 19 years and gold surged to a 26- year high. Prices for iron ore, the main ingredient in steel, rose 19 percent this year, after a record 72 percent jump in 2005. "There is still room to run in the base-metals markets," said James Gutman, based in London, the senior commodities analyst at Goldman Sachs Group. "Investment still hasn't reached the levels it needs in order to meet future demand. I wouldn't be surprised to see further spikes in the markets." Mining companies are battling for natural resource assets and spending on acquisitions to increase output as demand drives up prices. Mittal Steel agreed in June to buy Arcelor for €26.9 billion, or $33.7 billion, in the steel industry's biggest takeover. Xstrata is poised to buy Falconbridge for 19.2 billion Canadian dollars, or $17 billion, after shareholders of the Canadian nickel miner rejected a takeover offer last week from Inco backed by its partner Phelps Dodge, thwarting the mining industry's largest takeover. Teck Cominco, the world's largest zinc miner, revised its unsolicited offer for Inco on Monday in an attempt to rebuff a competing bid from Phelps Dodge and create North America's biggest mining company. "The problem is that companies are spending their money on buying each other, instead of adding to capacity," Hambro said. China's economy has doubled in size over the past decade, overtaking Britain and France, as it builds bridges, buildings and factories. Its economy expanded 11.3 percent in the second quarter, the fastest pace in more than a decade. Marc Faber, the Hong Kong company that told investors to bail out of U.S. stocks a week before the 1987 Black Monday crash, said earlier this year that commodities were five years into a rally that could last as long as three decades.

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