In addition to buying copper and oil futures, buying up the shares of mining and oil exploration companies could be a winning strategy over the next decade, according to Steve Shafer (pictured), Chief Investment Officer and Portfolio Manager of Covenant Global Investors.
Commodity prices have boomed as part of a commodity super cycle that began in earnest around 2003, but the shares of companies that produce commodities have lagged behind. Mr. Shafer thinks this could soon change as yield-hungry investors widen their focus to include stocks in undervalued (by historic standards) material and commodities production companies, not just the commodities themselves.
“Stocks as a vehicle have been an unloved asset class for the past 10 years, but that will shift,” says Shafer.
Shafer expects demand for commodities to remain strong until 2030 or longer, and he remains an investor. But shares in the underlying companies may be: “every bit as attractive and potentially even more so.” For example, he points to the 230% run-up in copper prices from the end of 2003 to the end of 2011 and compares it to the tepid 75% increase over the same period in the shares of two copper mining companies, Freeport-McMoRan Copper & Gold Inc. (FCX) and Rio Tinto (RIO).
“The degree to which miners like FCX and RIO have lagged the metal’s performance is largely a function of investor dislike for the equity instrument, in my opinion,” says Shafer. “But many of these type of companies have excellent balance sheets and global demand dynamics should allow for solid growth over the next 3-5 years and beyond,” he says. “Attractive per unit production costs of reserves held on the balance sheets of some mining companies relative to current and expected market prices means they have a pipeline of ‘built-in’ potential profits for many years to come.
“The large-scale urbanisation taking place in emerging markets is driving consumption trends. Whether China has a ‘hard’ or ‘soft’ landing, they are still going to urbanise 300 million people over the next 5-10 years – that’s a massive material demand that will support market prices.”
He identifies the spread of democratisation as another force driving demand.
“Relatively modest increases in per capita income in poorer countries can have a disproportionate impact on demand for raw materials and consumer goods,” says Shafer. “Half the people in the world are doing everything they can to ensure their children and grandchildren have a better life, freed from economic misery.”
If he is proved correct, commodity producer stocks will become targets for investors everywhere. It could be a bumpy ride, he cautions, but those who climb aboard could find it exceptionally interesting.
