It’s been a terrible few months for virtually every bit of the commodity spectrum. Gold has been the most high-profile victim of the sell-off, but energy and industrial metals prices have also fallen sharply.
The bears have plenty of ammunition with which to justify selling off and even shorting commodity stocks (that is, profiting when prices fall). Many investors are worried that we’re now set to experience much slower global economic growth than markets had been expecting earlier this year, with China in particular showing worrying signs – GDP growth this year could be as little as 7%.
In the industrial metals space, those concerns about Chinese growth are merely rubbing salt in the wounds of a huge capital expenditure (capex) crisis. Many of the big mining companies’ chief executives have fallen on their swords after a huge multi-billion-dollar spending spree, which has bludgeoned profit margins.
Over in the energy markets, meanwhile, investors are fretting about the impact of the ‘shale gas revolution’ and the low prices at the drill heads in the key East Coast gas markets. This is, paradoxically, great news for the US economy, as energy costs continue to slide, powering a new re-industrialisation as companies move factories back to America.
Not all commodities are the same
However, investors need to look at the huge commodity spectrum in a slightly more sophisticated way. The precious-metals markets, for instance, have very different drivers to the industrial-metals markets, although there is some cross-over between investment and industrial demand when it comes to products such as palladium and silver, for example.
Equally, the energy markets each exhibit different characteristics. Some markets, such as oil, display strong inflation-linked elements (in effect, they are ‘real’ assets) – which is one reason why massive US university endowment funds have been relentlessly pumping money into these assets over the last decade to protect their capital in the event of an inflationary surge.
So ‘granularity’ – a horrible corporate term that reminds us that the devil is always in the detail – is even more important when looking at different sectors and themes within the energy area.
Over the next couple of articles we’ll look at how a contrarian investor – keen to swim against the tide of bearish sentiment towards commodities – might think about intelligently accessing the broad energy markets after the sell-off.
Next time we’ll look specifically at the biggest energy markets of them all – oil and gas – but this week we’ll focus on a small but vital segment of the energy market – uranium. The plight of nuclear power shows how some promising ‘big picture’ investment themes can be very easily undercut by market specifics.
The outlook for energy
The overall outlook for energy demand of all types is positive, for fairly obvious reasons. We’re mid-way through a profound multi-decade transformation in the energy sector, driven both by rising demand for power, and by concerns about global climate change.
In simple terms, the world is consuming an awful lot more electricity, especially in those all-important emerging markets, such as China. That means we’ll all have to pay a lot more for our power in the future.
The legions of new power stations that are required to supply all this energy need a power source. But there aren’t that many to choose from. Natural gas is having its hey day in America, but is less readily available in places such as China (although that may change). That’s good news for the planet in the short term, as natural gas is less polluting than other fossil fuels, even if it locks us into carbon dependency over the long term.
Oil prices, meanwhile, may have fallen back a little, but oil is a more globally integrated market than gas, and there’s much keener competition for regular and steady supplies. Coal, by comparison, is dirty and horrid in climate-change terms, although that’s not stopping the Chinese from building more coal-fired power stations.
No single energy source will be capable of satisfying all of this massive increase in demand. And price is only one part of the equation – security of supply and cleanliness in green terms (in other words, the amount of carbon emitted) are also major factors. That’s why all of the major utility players will hedge their risks by diversifying their ‘energy inputs’.
In other words, they’ll build gas stations now, but they will also be looking at building power stations based around cleaner energy sources. But while renewable energy sources will be an important part of this mix, the likes of solar, biomass, and other types of ‘green’ energy are never going to form a base load supply of any scale.
A feverish rush towards nuclear power
That’s where nuclear comes in, especially in emerging markets, where there’s a massive dash for nuclear power. We tend to see nuclear through the prism of the developed world, with dramatic images of Three Mile Island in America, and the far more recent Japanese tsunami still fresh in the mind. Many traditional ‘greens’ loathe nuclear power for that reason.
However, many innovative green thinkers in the West, including the Gaia theorist and scientist James Lovelock, now believe that nuclear has to be a major element of any global energy solution. And in any case, whatever shape the intellectual debate takes in the West, it’s all a tad academic – in the emerging markets, they’ve made the decision to use nuclear and they’re busily building new nuclear power plants at a feverish rate.
For some countries – China being a prime example – that’s sparked a strategic grab for key resources, with recent examples including the Chinese takeover of uranium miner Kalahari Minerals.
The most despised stocks in the world
Two key issues of interest to investors emerge from this big strategic debate on nuclear energy. The first is that there are few firms with the necessary engineering and project expertise to complete really big nuclear power station construction projects. That fact favours firms like Areva (Paris: AREVA) and Toshiba (Tokyo: 6502), which have these skills.
The second issue is that nuclear-power plants need a reliable supply of nuclear fuel. So where can they get it? US generators have had a fantastic advantage in recent years from the highly enriched uranium (HEU) ‘Megatons to Megawatts’ programme signed between Russia and the US in the aftermath of the Cold War in 1993.
This involves taking nuclear fuel from decommissioned nuclear missiles and then reprocessing it for use in American power stations. This provides fuel at a much lower cost than having to process raw uranium. However, this programme ends in 2014, which has to be good news for the uranium mining sector.
Ranged against that is the fact that uranium isn’t obviously in short supply (quite the contrary, in fact, there’s lots of uranium about). The fact is that if a mining company has deep enough pockets, there are plenty of projects out there that could provide a whole heap of raw uranium.
Uranium prices have essentially drifted downwards for much of the last decade, although they have started to rally again in recent weeks. And sentiment towards uranium miners in particular has been absolutely horrid in recent years. The great commodities sell-off of recent months has merely compounded that despondency, to the point where uranium miners have to be regarded as perhaps the least-popular stocks on virtually any global stock market.
How to invest
This horrible backdrop helps explains why the share price of specialist fund Geiger Counter (LSE: GCL) has collapsed. This small, closed-end fund is run by the experienced team behind the more successful City Natural Resources High Yield Trust (LSE: CYN).
It mostly invests in uranium miners, including leading players such as Uranium One, Cameco and Uranium Energy. The fund’s shares are trading at 28p versus a net asset value (NAV) of 33p. That’s quite a tasty discount although, to be fair, that NAV keeps sliding ever lower as investors lose interest in nuclear.
Nonetheless, the contrarian in me thinks that, as Geiger Counter’s share price approaches five-year lows at around 20p, it becomes a very interesting ultra-long-term play on the shifting dynamics of the global energy market – especially as the fund has stakes in some of the world’s key strategic uranium assets.
ETF Securities has a rival fund – a London-listed exchange-traded fund (ETF) with the wonderful ticker of NUKE. The ETFX Global Nuclear Energy Fund, as it’s called, tracks a specialist index that in turns tracks the share price of both miners and, more importantly, nuclear engineering contractors, such as the aforementioned Areva and Toshiba, plus utilities companies such as Exelon. This ETF is actually up in value by 5% over the year, although the five-year return is still a fairly horrid -25%.
There are also some interesting choices over in the US market, especially among ETFs. The Market Vectors Uranium & Nuclear Energy ETF (NYSE: NLR) is split almost equally between investments in mining companies, industrial companies and utility stocks.
More defensive investors might want to take a closer look at the bigger iShares S&P Global Nuclear Index Fund (NYSE: NUCL), which is investing in nuclear-based utilities far more aggressively than the Market Vectors ETF. It yields just under 3% a year (thanks to all those utilities) and is up 10% over the last 12 months.
Four nuclear tips
| Investment | Ticker | Price |
|---|---|---|
| Geiger Counter | LSE: GCL | 27p |
| ETFX Global Nuclear Energy | LSE: NUKE | 28p |
| Market Vectors Uranium & Nuclear Energy | NYSE: NLR | $14.21 |
| iShares S&P Global Nuclear | NYSE: NUCL | $35.17 |