- Commodities getting attention as the market calls for diversification
- Weaker greenback and tax cuts could add inflationary pressure – positive for commodities
- More investment advisors see further strength in commodities in 2018
by Bruce Hansen
Sentiment towards the broader financial markets seesawed in early 2018 as volatility spiked in equity and bond markets. So far this year an alternative asset that has continued to outperform, albeit a bit quietly, is molybdenum (“moly”).
Moly was ranked the second-best price performer in 2017 in BMO’s metals and mining universe. (See Figure 1 below.) Prices of moly climbed 52% to $10.25 per pound at the end of last year, up from $6.75 at the end of 2016.
Figure 1: 2017 Price Performance
Source: BMO Capital Markets, Bloomberg
The specialty metal rose another 24% to $12.675 from end of 2017 to date, returning to levels not seen since 2014 but we believe this is still a low price with further upside potential.
As readers of this blog may recall, we outlined our key value proposition last year: moly is a critical ingredient to specialty steel-making and stands to gain from rising global industrial activities, particularly from the recovery in the oil and gas industry during the medium term.
In 2017 and in early 2018, industrial demand fundamentals and world financial market conditions have rallied behind the moly market. The moly market has grown with higher volumes in both demand and supply, and we believe the moly market is approaching the tipping point where excess supply begins to dwindle, extending support for price upside.
In this issue of Moly Bits, we review the recent moves in the moly market and the current state of the mining equities market.
In the next issue of Moly Bits, we will elaborate on the macroeconomic factors that we think will propel the moly market going forward and delve into the ongoing fundamental changes supporting higher moly prices.
Outstanding Performance of Moly Outside of the Commodities Baskets
We believe the compelling market factors driving the rising tide for the industrial metals, including a synchronized global economic expansion, further industrial growth in China and a late stage business cycle that drives consumption, all bode well for moly.
Of the broader industrial metal complex, moly is most akin to nickel, which is a smaller component of the most common industrial metals indexes, the Bloomberg Commodities’ Industrial Metals Index (“BCOMIN”) and the S&P GSCI Industrial Metals Index (“SPGSINTR”). Both indexes are up around 40 percent for the past two years. Other components of these indexes include copper, aluminum, and zinc, with the addition of lead in SPGSINTR.
Given that moly, as a specialty metal, is not included in many of the industrial commodities baskets tracked by indices, the broader investment community has not yet recognized the growth potential and diversification properties offered by moly as an alternative hard asset.
In fact, the current moly price has tripled from its low of $4.30 in October 2015 and outperformed the BCOMIN and SPGSINTR for the past year and two years.
Figure 2: Table of Price Changes
(As of March 16, 2017)
Source: Moly prices based on Platts’ global weekly averages. Indexes’ data from Bloomberg
Mining Equities Lagging Upturn in Metal Prices
In 2017 the S&P 500 and Nasdaq had their best year of appreciation since 2013, increasing 19% and 28% from the prior year respectively. The bull market for equities has extended for nine years and is the second strongest and longest in history. By the end of 2017, the S&P 500 had tripled its value since the 2009 financial crisis.
2018 opened with a setback to the bullish momentum in the equity markets, as investors were spooked by the changing dynamics in the U.S. economic and business cycle in early February. The concerns – partly driven by technical indicators – have not completely disappeared at time of this publication. While the sharp market selloffs have abated and there was renewed price strength for the big boards, especially the tech stocks of the Nasdaq, many investors have been shaken by such a correction and would likely reposition themselves for further rounds of market turmoil down the road.
The market sentiment toward the metals and mining equities has mostly diverged from the broader equities market. Energy, metals and mining stocks were in a bear market from 2011 to 2015. The industrial metals upturn began in 2016 and slowed in 2017. A few notable metals including lithium and cobalt saw sharp increases in prices from increasing battery energy storage and electric vehicle demand. Zinc prices have risen strongly from a looming supply shortfall and rising global automotive sales. As a bellwether of global energy and infrastructure growth, copper prices rose to surpass $3 per pound in 2017 from $2 per pound in 2015, in part due to increased demand from the expansion of global electric power infrastructure. Our contention is that industrial metals are still inexpensive when compared to general equities as shown by the 30-year chart below and have considerable future appreciation to return to the mean.
Figure 3: Industrial Metals vs the Broader Market
While there were strong increases in metals prices in 2016-17, most junior metals and mining stocks were still trading at multi-year lows. We believe the general lag in metals and mining stocks can be attributed to an abundance of investor caution after the market shakeup period of 2011- 2015, and the strong performance in other market segments. General Moly’s current stock price at $0.42 has improved 68% from year-end 2016 with the help of stronger moly prices.
The larger capitalized mining equities, which are typically included in the indices for this sector, are mostly trading within a quartile of their 52-week highs, as these companies have improved margins and balance sheets. This means that for investors seeking higher risk-reward, the junior stocks can offer much more attractive valuations for their growth potential.
There are many signs that investors are re-evaluating long-term opportunities in this segment. One such example of empirical evidence is that the attendance at the world’s largest mining conference, hosted by the Prospectors and Developers Association of Canada in Toronto earlier this month, recorded its highest level since 2013.
More Headlines Calling for Commodities Recovery
An increasing number of investment firms and research analysts are currently forecasting a commodities bull run in 2018. According to market observers such as Jeffrey Gundlach, Chief Executive Officer and Chief Investment Officer of Doubleline Capital, commodities, excluding agriculture, could potentially outperform the highly valued equities, driven by factors including a rise in global industrial activities and a weaker U.S. dollar. The greenback fell to its lowest value in three years in late January and has consolidated at weak levels.
Bloomberg Intelligence Senior Commodity Strategist Mike McGlone sees signs of a nascent and accelerating bull market for metals in 2018. His recent report, “Commodities 2018 Set for Refresh Following 2017 Pause,” noted that “a mirror of the Great Metals Bull Market of 2002-2008 (is) in the works… when metals prices rallied almost four-fold in a seven-year run.” McGlone believes various market forces “point to a potential sharp recovery” for non-agricultural commodities.
Other market observers also have expressed similar views, including Louis James of the International Speculator, who has postulated a dawn of another commodity supercycle, as well as Greg E. Sharehow, a commodity portfolio manager at PIMCO, who shared his positive views of commodities in a 2017 Viewpoint note.
“At this point in the business cycle, we think investors should consider positioning commodities allocations to at least match benchmark targets, if not modestly exceed them,” stated Sharehow.
During the last commodity supercycle of the end of the 1990s until the 2008 financial crisis, most commodities experienced double-digit annual real price growth. While history does not produce exact copies of itself, the commodities market again offers great potential for long-term buyers. It is our viewpoint that metals with strong underlying market fundamentals like moly will benefit from a resurgence of investor interest.
Figure 4: Commodity Price Indexes Rise for Energy and Metals
Source: World Bank’s Global Economic Prospects report. Based on 2010 nominal U.S. dollars.
Maturing Business Cycle
Commodity prices have historically surged during the maturing part of the business cycle. In the mining sector, metal demand increases from higher consumption against limited supply growth from the recent protracted period of weak prices.
In January 2018, Frank Holmes in his Frank Talk, CEO blog, for U.S. Global Investors noted the increasing “tell-tale signs that we’re approaching the end of the business cycle” from a new interest rate hike cycle, the treasury yield curve that continues to flatten and the S&P 500 that just had its least volatile year on record. “Resource stocks, I believe, could be an attractive place to look (to invest), as they’ve traditionally outperformed in the last phase of an economic cycle,” Holmes stated.
Prescient for writing this view in spring 2017, Sharenow of PIMCO commented, “Commodity market returns tend to be highest during the latter half of the business cycle (where we likely are now), given that prices are driven more by current economic conditions and the near-term supply-demand balance… Continued economic growth, coupled with supply-side normalization and a maturing business cycle, should create room for a continued (commodities’) price recovery… and we see scope for improvement in industrial metals’ prices due to accelerating GDP and infrastructure growth.”
Figure 5: Today’s Late Stage of Business Cycle
Source: Schroders’ 2018 Commodities Outlook
Looming Inflation and U.S. Dollar Weakness
As indicated in the maturing business cycle, as shown in Figure 7, inflationary pressure, which begins to appear in the U.S. economy at this stage, and the weakness in the U.S. dollar throughout 2017 are also bullish signals for commodities, which are generally priced in U.S. dollars. A weaker dollar-priced commodity provides foreign buyers like those in China with greater purchasing power.
J.P. Morgan and IHS Markit also reported that increased new manufacturing orders led to backlogs and higher employment in major economies. J.P. Morgan stated that it expected the solid upturn in global manufacturing performance, which began in 2017, to be sustained in the coming months. High employment could lead to stronger wage growth, which could be inflationary.
In a recent 2018 Commodities Outlook write-up, Mark Lacey, a portfolio manager, overseeing global energy and precious metals, for Schroders, a global investment company based in London, stated, “A strong U.S. dollar was a big negative for commodities through the bear market which ended in early 2016. The 2017 dollar depreciation likely marks the start of a new dollar bear market… A weak U.S. dollar in 2018 will likely provide overall support for the commodities asset class.”
The U.S. administration’s recently announced tax cuts, as well as the prospect of rising government budget deficits could lend further weakness to the U.S. dollar, which in turn carries risks of inflation.
However, for now, inflation is mild as the consumer price index (CPI) rose just 2.2% for the 12 months through February 2018 compared with 2.1% through January. A mild 0.2% increase in the CPI in February was a relief after the CPI jumped 0.5% and wages increased more than expected in January.
Figure 6: U.S. Dollar’s Inverse Relationship with Metals
The U.S. dollar index, DXY, which values the greenback against a basket of foreign currencies, has fallen 13% from its 10-year high in December 2016 to date.
Observing that the bottom of metals prices in 2001 appears similar to the one in January 2016, Bloomberg Intelligence strategist McGlone stated, “A weaker dollar with strong commodities plus the lowest unemployment in almost two decades and still declining amid proposed tax cuts, should finally spark some inflation… From the 2001 low to 2008 peak, the Bloomberg All Metals Total Return Index rallied about 4x versus a 27% dollar decline.”
A Return to Hard Assets & Value Investing
For investors who are looking to de-risk their investment portfolios and hedge against inflation, non-agricultural commodities, including company stocks with exposure to industrial metals and energy, again looks attractive because of their low valuations.
“Overall, commodity equity valuations have rarely looked so cheap relative to the broader market and relative to underlying prices,” stated Lacey of Schroders. In a CNBC interview, Gundlach calls commodities his best investment idea for 2018 and advocates having a broad basket of non-agricultural commodities.
As the business cycle matures, investment capital will peruse new industry sectors for the Stars and Cash Cows of the Growth/Share Matrix.
The prevailing investment sentiment may soon cycle from growth investing to value investing where undervalued commodity stocks return to favor. As the capital markets rotate back into hard assets against inflationary fears and higher interest rates, resource stocks with upside leverage to rising metal prices will be again on the investment radar.
Moly, as a late stage industrial metal, has seen a price recovery that began in 2016 and has accelerated in the past few months. We think prices of moly, while historically volatile, has a strong potential to appreciate further at this stage of the business cycle.
We believe that General Moly, as the only western exchange listed, pure-play molybdenum mineral development company, will also benefit from a resurgence of investor interest in commodities and commodity producers.
Note: All metals indexes mentioned above do not include molybdenum. For example, the Bloomberg Commodities Industrial Metals subindex (BCOMIN) represents copper, aluminum, zinc and nickel in order of weighting.
Moly Bits is a blog published by General Moly, Inc. The prior issues are available at generalmoly.com/molybits. Bruce is Chief Executive Officer and a Director of General Moly. As an independent director of ASA Gold and Precious Metals Limited, a closed-end precious metals and mining fund, and Energy Fuels Inc., the second largest producer of uranium in the U.S., Bruce is a keen follower of the metals and energy markets.
This message is the opinion of the writer. General Moly does not publish any updates or revisions of opinions nor of the information presented except as required by securities laws.
The information presented contains “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended, that are intended to be covered by the safe harbor created by such sections. Such forward-looking statements include, without limitation, (i) estimates of future molybdenum, other commodities and markets, as mentioned, prices, demand, supply and/or production; (ii) estimates of future capital expenditures; (iii) statements regarding cost structure, project economics, or competitive position; (iv) statements regarding cost structure, project economics, or competitive position, and (v) statements related to potential market signals. Where the Company expresses or implies an expectation or belief as to future events or results, such expectation or belief is expressed in good faith and believed to have a reasonable basis. However, forward-looking statements are subject to risks, uncertainties and other factors, which could cause actual results to differ materially from future results expressed, projected or implied by such forward-looking statements. These risks and uncertainties include, but are not limited to, metals prices and production volatility, global economic conditions, currency fluctuations, increased production costs and variances in ore grade or recovery rates from those assumed in mining plans, exploration risks and results, political, operational and project development risks, adverse governmental regulation and judicial outcomes. For a more detailed discussion of such risks and other factors that could affect the Company, see the Company’s Annual Report on Form 10K, which is on file with the Securities and Exchange Commission, as well as the Company’s other SEC filings.