Kathy Swan reports on the commodity crunch and what it might mean for BHP's strategy.

ABC: Kathy Swan reports on the commodity crunch and what it might mean for BHP's strategy.

KATHY SWAN, REPORTER: China and its insatiable hunger for Australia's resources has been seen as our guarantee of continued prosperity, and the reason the slowdown in the United States would not impact here too harshly.

But as the fall out from the credit crisis spreads from Wall Street, those seeking security in resources and mining may have to re-think how much protection China will actually offer.

TOM ALBANESE, CEO RIO TINTO: China is pausing for breath.

MIKE HAWKINS, EVANS & PARTNERS: The financial turmoil getting greater by the day so certainly we are going to be asking a lot of China to keep us totally free of that.

ALAN HEAP, CITI: The big picture story for China still remains very much intact.

KATHY SWAN: Commodities have been halted on their one way journey up, metals prices have lost their shine, even iron ore spot prices are in steep decline.

ALAN HEAP: There's more to it than just the US - increasingly, this downturn is becoming global but I think it's important to remember it is a cyclical downturn, it is a correction I believe is a long-term commodities bull market, it may turn out to be a very severe correction.

KATHY SWAN: Citi's global head of commodity research, Alan Heap, says speculators looking for safer places to park their investments are pulling out of commodity markets and, since July, they've taken a lot of money with them.

ALAN HEAP: When we look at the speculative long positions in the commodities traded on the US commodity markets, that has fallen quite spectacularly, it's fallen from a peak of about $50 billion down to about $5 billion.

MIKE HAWKINS: You can go though agricultural commodities, energy commodities, base metals and now, iron ire. They've all come back between 30 and 40 per cent just over the last 2 to 3 months, so we are getting broad based commodity price weakness.

KATHY SWAN: Mike Hawkins, chief investment officer for Evans & Partners, says what was a very tight market for iron ore and steel is starting to cool

MIKE HAWKINS: When we look for Australia and what we actually export, it is the coal and the iron ore which is particularly important and it is particularly important and it is particularly important for the BHPs and the Rios making up between 30 to a half of their earnings base.

TOM ALBANESE: This pause for breath is placing a significant proportion of Chinese aluminium production under severe margin pressure, with closures being announced, and the debt crisis is likely to result in a slower supply side response in many metals.

KATHY SWAN: But as mining giant Rio Tinto CEO Tom Albanese told a Melbourne Mining Club Lunch this week - he still has faith in China.

TOM ALBANESE: We believe China will average its growth rate at 9 per cent next year, and all of our planning and thinking has been built around that.

PETER ARDEN, RESOURCES ANALYST, ORD MINNETT: I find it quite perplexing in a way that the fundamentals haven't changed much at all yet the values of a lot of the resource companies, the prices are dramatically lower.

KATHY SWAN: Peter Arden, resources analyst at Ord Minnett, says China's slowdown should be kept in perspective.

PETER ARDEN: China has been growing at about 10 per cent per annum for the past 30 years, so some slowing has to be expected and what we're thinking is a slowdown to perhaps 8 per cent growth will still see very healthy demand for commodities - but I think the markets will take that negatively.

MIKE HAWKINS: We are starting to see and I think it's going to gather a lot of momentum over the next three months - an actual period of downgrades. If the iron ore and coal spot prices continue to slide then the market expectations going to 2009 and 2010 for those key commodities will also slide as well.

KATHY SWAN: Back in May, the big miners were sitting at record prices. Rio was trading above $156 and BHP was just shy of $50.Since then, Rio has tumbled more than 40 per cent and BHP has not been far behind. To put that in perspective the battered All Ordinaries is down just 20 per cent over the same period.

The share price tumble also adds to speculation over BHP's takeover bid for Rio - with its 3.4 for one all scrip offer.

MIKE HAWKINS: At the moment Rio's share price is trading about 18 per cent below that ratio so the markets are telling you they think the probability of that transaction going through is reasonably low.

KATHY SWAN: The ACCC has given the takeover bid a tick - and there are more regulatory hurdles to be overcome in Europe and South Africa over the coming months.

But Rio shareholders may be studying the bid more closely.

MIKE HAWKINS: Rio's shareholders will be looking at a world where commodity prices aren't as strong and the synergy benefits that could well emerge and they could be significant synergy benefits from combining particularly the bulk commodity side of BHP and Rio - I think that will get a lot of focus

KATHY SWAN: But Tom Albanese says Rio doesn't want or need BHP to weather the current storm.

TOM ALBANESE: This week has very vividly demonstrated, day to day share price movements shouldn't influence long term strategic thinking.

KATHY SWAN: Back in China, industrial activity has resumed after mostly shutting down for the Olympics and it won't be clear until December whether it's the Games, or something deeper, that's at the root of its slowdown.