The best exposure to a carbon-free future

The inevitable march away from fossil fuels towards low- or no-carbon alternatives will bring about many changes in the world, but perhaps no sector of the economy will undergo more change than commodities.

The old ways of drilling for oil and digging coal mines for energy are slowly fading, only to be replaced by a need for lithium, nickel, cobalt, and a range of other commodities once considered ‘niche’. But according to Mike Jenneke from Credit Suisse and Tim Gerrard from Janus Henderson, there’s one commodity that is particularly well placed to benefit, and it benefits from supply-side challenges too.

In the final part of this Collection, Mike and Tim tell us which commodity they believe is best placed over the medium term, and the company (or companies) they prefer for exposure to said commodity.

Long-term prices likely rise

Mike Jenneke, Credit Suisse

We are confident in the outlook for copper given its positive fundamentals are more certain and therefore lower risk when compared to other commodities. Decarbonisation demand is expected to drive underlying demand growth to around 3% p.a. at a time when visibility of long-term supply growth is under question. Based on current trends it is likely a significant number of potential copper projects will need to go ahead to keep up with demand. Given increasing hurdles from genuine geological scarcity and regulatory approval we see an increasing risk of higher long-term copper prices being required to incentivize supply. This suggests the $3/lb long-term benchmark generally used in assessing copper valuations is likely to be revised up significantly.

The leading quality copper mining exposure in Australia is Oz Minerals (OZL). Following the successful development and commissioning of its Carrapateena mine the group has two low-cost mines with clear plans for volume expansion and mine life extension over the medium-term. A structurally tightening market is a key positive for the group’s expansion plans. Higher copper prices in the near-term facilitates capex funding while maintaining balance sheet strength and dividend payouts. Although the stock price has performed well over the last 12 months with a positive outlook incorporated into its valuation, we believe the positive copper cycle will be lengthy in duration implying it remains early in the group’s full performance potential.

Copper prices to remain higher for longer

Tim Gerrard, Janus Henderson 

Although the price of copper has recovered from close to US$2/lb during the depths of the COVID uncertainties to current levels of around US$4/lb, we expect that the price may remain higher for longer than generally expected.

Global stocks are already at unusually low levels – less than six days consumption – and this is after a year in which COVID caused a once-in-a-generation global slow down. Treatment charges in China are at 10-year lows because the mines cannot access concentrate supplies quickly. The market is only one step away from a price move that would double if a major mine were closed.

Beyond several major mines slated to begin production in 2022 and 2023, there is very little in the development pipeline. On top of this, the period between permitting mines and first production (at least in the western world) could take more than seven years.

Major new copper resources are not being discovered and the mines currently in production are experiencing lower grades. This means more material needing to be moved to get the same amount of copper. As a result, unions could sense that now is a good time to exercise their bargaining power and it’s possible we could see a year or two of disruption in excess of the normal 5-6% of capacity.

Examples of some of the mining companies we currently have copper exposure to in our portfolios include Anglo American, with its strong resource position which is accorded little value by the market, Freeport McMoRan for similar reasons and Ivanhoe Mines, which is starting up the world’s highest grade mine by mid-year.

That's it for now