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3 mining stock risks you might be overlooking

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Lots of investors are looking to capitalise on the global transition to clean energy. A useful place to start is mining stocks. Companies supplying vital minerals like iron ore, copper, and lithium are a key piece of the puzzle.

Iron ore, copper and lithium – what’s next and the investment opportunities

However, before buying miners, you should consider the environmental, social and governance (ESG) risks.

While their products are being used to trim global emissions, the miners themselves can have a negative impact on the environment. Plus, this industry comes with quite a few social issues – like worker health and safety, and local community relations.

With that in mind, here’s a look at some key ESG risks to consider before buying mining stocks.

This article isn’t personal advice. If you’re not sure if an investment is right for you, please seek advice. Investments can fall as well as rise in value, so you could get back less than you invest.

Why miners matter

As the energy transition continues to march forward, it’s clear that mining will play a key role. The clean energy technologies we’re counting on – solar and wind plants and electric vehicles – require more minerals than their fossil-fuel counterparts. A typical onshore wind plant needs about nine times the mineral resources of a gas-fired plant.

Mineral usage in kg/MW

Source: International Energy Agency, 26 October 2022.

Environmental risks loom large for mining stocks

The environmental risks that go along with operating as a miner tend to be among the most severe. Although their products might aid in the fight against climate change, they need to manage their operations’ impact on the planet effectively as well.

Within the industry, just over a third of companies are classed as high or severe risk in relation to pollution. Half have experienced at least one environmental incident. This can be anything from a minor infraction to a large-scale failure to contain waste by-products – tailings dams are key here.

Tailings dams are huge earth-filled embankment dams used to store often-harmful by-products that come from mining. Tailings dam failures not only have far-reaching environmental consequences, they can be fatal and have long-lasting implications for the local community.

The best way to assess exposure to these environmental risks is to look at company policies and disclosures. They should be implementing best-practice at tailings recycling facilities with regular safety checks and improvements.

Transparency in this area of reporting is a key indicator of successful management. Larger, developed-market companies tend to have more comprehensive reporting than their smaller, emerging-market counterparts.

Resource use is another area to consider.

Miners use a lot of water in particular, and it can be to the detriment of the local ecosystem. It’s a particular problem for companies operating mines in places like Chile, Peru, parts of Africa and Australia. As a bare minimum, they should have a water recycling plan in place. But to operate in places where water is scarce, companies need to invest in longer-term solutions like waterless mining and using seawater.

Carbon emissions are another environmental risk to think about – particularly for investors with sustainability on their minds.

Mining for iron, aluminium, copper, zinc, lead, nickel and manganese is responsible for 7% of global emissions. Miners are often heavily dependent on fossil fuels to run machinery, enable transportation and power the refining process. With that in mind, investors should closely evaluate a miner’s plans to achieve net zero. The most comprehensive plans should include interim targets, measurable progress checks, and little focus on carbon credits.

Carbon credits – what are they and what they mean for investors

The social side of mining

Social risks frequently crop up in the mining industry, particularly with community pushback. New mining operations can have a negative impact on surrounding land, air, and water. That can cause tension between the miner and the local community, which could cause protests or block future projects.

Companies that recognise the importance of community engagement in their long-term strategy are better placed than others. Best practice is to involve the local community and other stakeholders in every step of a project with a transparent and accessible process.

Investors should read engagement policies for evidence that the company’s invested in protecting its relationships. History can also serve as a guide. Frequent clashes suggest there’s work to be done, though it doesn’t necessarily predict what will happen under new leadership or policy changes.

Employee health and safety is another key risk worth investigating. Persistent safety failures are not only unethical, but they create some important business risks as well. Employees who are injured will need time off. This can affect production. It can also create unrest among the workforce, possibly leading to strikes.

Generally speaking, big mining companies based in developed markets tend to manage this risk quite well, with minor safety issues cropping up from time to time. Those adhering to industry-recognised safety standards are in a stronger position. Many will be certified by reputable industry third-parties, like the Initiative for Responsible Mining Assurance.

Mining companies also report lost-time injury frequency rates, which should trend downward as safety measures improve.

Governance is the lynchpin of a successful mining business

Investors should be comfortable with the way a company is run no matter the industry. Shareholder rights, board diversity and executive compensation are important to explore within every business. All of the above environmental and social issues depend on good governance.

Performance indicators outlined in the company strategy should include specific targets in each of these areas, and executive remuneration should be aligned with shareholder interests. This is best practice for managing key risks at any business.

One governance issue specific to the mining industry is bribery and corruption. Lots of mining locations are in developing markets, which heightens the risk of unethical business practices.

Companies with the bulk of their operations in these locations open themselves up to potential controversies that could impact their business. On top of the reputational damage, fines and regulatory penalties can result from improper dealings.

Companies with consistently updated anti-bribery and corruption policies are better equipped to deal with these issues. As with many of the risks outlined here, transparency and disclosure about the company’s policies is the best way to understand whether it’s a priority for management.

For more information on responsible investing and how ESG risks can fit into your investment strategy, visit our responsible investment hub.

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