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The Next Commodity Supercycle - October 2020
The Next Commodity Supercycle - October 2020
Supercycle
October 2020
A new dawn for commodities
Executive Summary
2
The “why” and “what” of the next commodity supercycle
3
A supercycle with multiple drivers
4
Inflation and Fiscal
Dominance
In world of heightened inflation risks, owning commodities is key
The coming fusion of fiscal and monetary policy
• The US, like Japan and other DMs, has not had this
much inflationary potential since the 1960s
• This sowed the seeds for the inflation of the 1970s (made
worse by the link between gold and the USD being cut, the
Arab oil embargo, etc)
• There are long lags to bring new supply online for many
commodity sectors, eg it can take more than five years for a
new mine to generate cash flow after initial spending
Source: Bloomberg, Macrobond and Variant Perception
20
Chinese demand is slowing, but not going away
• The next cycle will not be driven by these same factors, but
demographics are not yet turning into a headwind either
Source: Bloomberg, Macrobond, Mercer, Willis Towers Watson, Brookfield and Variant Perception 26
Investors are structurally underweight commodities
• The commodity asset class is massively underinvested
• Pension funds prefer safety in fund vehicles (hedge funds, PE, etc)
to fill their portfolios
• This is also playing out in the ETF world. Total commodity ETF
AUM is a tiny proportion of the total AUM
• See our report from July 2020, Portfolios for the High Seas
Plenty has been written about the capital cycle over the years, but by far the best is Capital Returns: Investing
Through the Asset Cycle, by Marathon Asset Management.
This inspired us to create our own Capital Returns framework to screen for capital-scarce sectors that outperform
capital-abundant sectors on a 1-3 year forward basis.
Q4 2018 Q3 2020
41
Shale decline rates and high-grading stop fast supply recovery
• Our leading indicator for crude oil is rising and has turned
positive
There remains upside optionality in these names from rising oil prices, and probable and possible reserves.
Additionally, we filter for resilient balance sheets (Piotroski score >=5), low risk of bankruptcy (Altman Z-Score >
1.25) and high normalised free cashflow yields.
We also filter for viable balance sheets (Piotroski Score > 4). Very few companies pass this screen and most are in
emerging markets
Mark Twain once said “a gold mine is a hole in the ground with a liar at the top”. Many goldmining firms should
hugely outperform the gold price, but several will not. We screen out in our view the worst candidates, ie those
with a low Piotroski score and a low Altman Z score. We then rank on EV/EBITDA*.
* The last 4 companies on the above list are gold royalty companies – see next slide
• Copper has many useful properties that make it a core input for
manufacturing and electrification: high durability, high malleability,
high electrical and heat conductivity, no loss of quality upon
recycling
• China consumes more than half of the world’s copper but only owns
~5% of global copper resources
• Still, China’s demand for refined copper is booming. The core driver
comes from policy stimulus aimed at stepping up fixed-asset investment
• The West will join China with an ever greater appetite for copper
• As copper inventories build back up, we don’t think this will dampen
copper prices because western supply chains are heavily destocked
• The result is a strong demand for raw materials and a long runway for
a copper bull market
• The marginal driver of prices is set to shift from China to the West
• Even for projects that are due to go live, the potential to discover
new copper is limited
• Only 102 million tons of copper has been discovered in the last 10
years (992 million tons was discovered between 1990-2008 with
much less investment, according to SPGMI's Reserve Replacement
Report)
• There are also copper supply risks in eg Chile – the world’s biggest
producer – due to worker protests and strikes
• The aim is to find miners that can enjoy higher copper prices in
the future and avoid debt-laden companies that may fail before
this happens
• “Pure play” copper miners offer more direct exposure to a new bull
market, but the universe is much smaller compared to goldminers
CAML, ANTO, CVERDEC1 and ERO are “pure play” copper miners in the list below, while the others are diversified
miners
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