Market Matters Report / Market Matters Weekend Report – Are we at the start of a commodities ‘Super Cycle’?

Today is MM’s last Weekend Report before Christmas, what a year it’s been and just a few days ago I was expecting to be typing this missive with “goodbye to Coronavirus” theme but after a few selfish super spreaders refused to self-isolate many Australians now look likely to have their Christmas plans significantly disrupted. I’m trying very hard to move on per se but I know we have a very varied subscriber base, a few politicians in the mix, hence I thought I would add my personal view to the mix – if we are only going to fine irresponsible individuals who break the isolation laws the equivalent to a major speeding fine ($1000) more outbreaks like that currently unfolding on Sydney’s Northern Beaches seem inevitable, surely the penalty should be commensurate with the damage it in inflicts on the country from business $$’s to personal stress and of course health.

That’s enough negativity, after a quiet week for the market today I’m going to consider whether the current strength in the Resources Sector is the start of another “Super Cycle” or a rally that we should be considering fading as it evolves into 2021 - a commodities Super Cycle is simply described as an extended period during which prices are well above or below their long term trend. Hence if we believe it’s the start of another major bullish commodities cycle  MM Portfolios should remain significantly overweight the sector / theme.

The last month on the index level has been strong but under the hood the heavyweight resources have been charging – over the last month BHP Group (BHP) and RIO Tinto (RIO) are up 17% and 20% respectively. Obviously these 2 large miners have been helped by the breakout in iron ore prices but major copper play OZ Minerals (OZL) has rallied even more, putting on almost 30% . Conversely over the same period previous market darlings CSL Ltd (CSL), Appen (APX) and a2 Milk (A2M) have been sold off and in the case of the last two aggressively, as we repeatedly say at MM remain open-minded and look through the windscreen as opposed to in the rear-view mirror.

Overseas indices meandered into the weekend after threatening early on in the day to sustain major losses however how the ASX performs in the last few sessions before Christmas is likely to be determined by the NSW COVID results over the next 48-hours, fingers crossed we can again win this battle.

MM remains bullish the ASX200.

ASX200 Index Chart

Are we at the start of another Commodities Super Cycle?

This is almost the million dollar question which If we can get correct should enable MM to add to our recent solid performance e.g. the MM Growth Portfolio is already up more than 18% this financial year. We like to keep things simple at MM and in today’s case we are considering whether the sharp appreciation in the likes of the base metals since early March can be sustained for the next few years, or even longer as we saw from 2000 when huge Chinese expansion sent prices surging for an extended period. At MM we believe such a cycle is a strong possibility because government fiscal stimulus will boost metals demand while supply will remain fairly inelastic due to the combination of mine production cuts during the pandemic and the recent lack of investment in new mine capacity. The later will continue to curb supplies of some resources, particularly copper, over the coming years

We are convinced the world is going to spend its way out of the COVID recession through infrastructure which requires base metals - this has already impacted iron ore prices while the likes of zinc & copper prices are already moving on increasing electrification in the world, including of course the very topical electric vehicles (EV) which also impact nickel prices. The unprecedented monetary easing and fiscal stimulus after the COVID-19 outbreak are redolent of the last cycle following the 2008 Global Financial Crisis. We are unlikely to see the demand growth from China witnessed before the GFC but if the world continues to stimulate together, we anticipate a retest of highs of the last two decades, a meaningful ~25% higher from today.

MM believes the world is providing the macro backdrop for another commodities super cycle albeit probably smaller than the one before the GFC. The question is then what commodities and subsequently stocks will offer the best risk / reward as they will move at their own pace determined as always by supply and demand.

CRB Base Metals Index Chart

Not surprisingly considering our economies dependence on commodities the $A has ridden the resurgence in the growth outlook and resources since March gaining almost 50% from its low, in the process posting levels not seen since early 2018. At MM we remain bullish the $A with an initial target around 80c although a challenge on parity would not surprise which by association provides a very bullish read through for the Resources Sector.

MM remains bullish the $A.

The Australian Dollar ($A) Chart

A quick look at the MSCI World Metals & Mining Index shows that we’ve recently seen a breakout to fresh 7-year highs enabling us to make a pretty exciting technical risk / reward bullish call which is in line with our macro view i.e. MM is bullish the index with stops less than 8% away, our initial upside target may only be ~12% higher but our preferred scenario is we see acceleration significantly further.

MM remains bullish global miners.

MSCI World Metals & Mining Index Chart

Australia’s largest miner BHP also broke out to fresh 6-year highs this month, at MM we are very overweight the old “Big Australian” which again looks technically awesome as it starts a fresh leg higher. We believe fresh buyers would need ~12% stops but considering we feel a 40% advance is a strong possibility the risk / reward again looks good plus with rising commodity prices the current market forecast for a 3.7% fully franked yield over the next year may prove too conservative.

MM remains bullish BHP.

BHP on the US ADR market ($US) Chart

Today I have briefly looked at 5 commodities which are relevant to the ASX plus selecting one of our favourite stocks in relevant instances.

1 Iron Ore (CNY/MT)

Iron Ore has more than doubled since April, at MM we remain bullish but at this stage the risk / reward is only attractive back towards the $US1,000/MT.

MM remains bullish iron ore.

Iron Ore (CNY/MT) Chart

Our favourite pure iron ore play is Fortescue Metals (FMG) which has simply boomed in 2020, at this stage I wouldn’t fight the cycle which has been running since 2016 i.e. accumulate into the next $4 correction. When we consider that FMG is forecast to yield over 8% over the next 12-months while the RBA Cash Rate languishes at 0.1% it’s easy to comprehend why the stock is surprising on the upside. China is the world’s largest user of the bulk commodity and their government committed $500 billion in 2020 to stimulate the country’s economy with a heavy focus on infrastructure projects. This large-scale infrastructure spend clearly bodes well for steel demand and the iron ore market.

MM remains bullish Fortescue (FMG) and the related RIO & BHP.

Fortescue Metals Group (FMG) Chart

2 Copper ($US/MT)

Copper has broken out to fresh 8-year highs as demand outstrips supply, “Doctor Copper” is clearly flagging a strong economic recovery and while it can hold above $US7,000/MT our preferred scenario is a break of its post GFC highs i.e. initially another 25% upside. China consumes more than 50 percent of the world’s copper and their increased demand has shocked all the but the most rampant bulls, the base metal feels stretched but we are buyers of pullbacks.

Looking into 2021, we think that stimulus measures, a recovery in the automotive sector and a buoyant construction market can again help power Chinese demand growth which could see copper accelerate higher, especially when the western world finally gets on top of COVID. The other aspect here is a by-product of EV’s, with large scale charging capacity required to really expand EV use, such a network requires large amounts of copper.

MM is bullish copper.

Copper ($US/MT) Chart

OZL has followed copper higher, this is a frustrating example of where MM took profit too early however, we are not too proud to buy back into a stock above where we exited, this may become a never say never case especially if / when the stock corrects ~$2.

MM is bullish OZL.

OZ Minerals (OZL) Chart

3 Nickel ($US/MT)

Nickel has been lagging compared to the levels scaled just before the GFC, a classic example of being careful when listening to hype, in this case all around demand for EV’s. In fact it’s the metals use in stainless steel that’s driven demand far more than EV’s but the market remains in oversupply hence we don’t believe a recovery in nickel can match the likes of copper and iron ore in 2020.

Battery demand will continue to rise but we think nickels price will be capped ~10% higher in 2021. At this stage MM is comfortable not having direct / outright exposure to nickel.

Nickel ($US/MT) Chart

However our position in diversified miner South32 Ltd (S32) has a nickel component along with alumina, coal, manganese, lead and zinc, a nice mix in our opinion.

South32 Ltd (S32) Chart

4 Aluminium ($US/MT)

Aluminium is one of Australia’s top 10 exports and its finally starting to play a degree of catch up with copper et al. This is one commodity where demand growth is forecast by Fitch to outstrip supply from 2021 onwards, theoretically good news for the patient bulls in the sector.

MM is net bullish Aluminium into 2021.

Aluminium ($US/MT) Chart

Our exposure to aluminium through Alumina (AWC) is showing a healthy 25% paper profit but at this stage we see no reason to consider taking it.

MM remains long and bullish AWC.

Alumina Ltd (AWC) Chart

5 Crude Oil ($US/barrel)

MM has remained bullish ever since the commodity plunged to unsustainable negative spot levels in March, we remain bullish and while the easy money if such a thing exists might well be behind us, the focus by the Biden administration on renewables should ultimately reduce production levels and drive Crude prices higher.

MM remains bullish crude oil.

Crude Oil March 2021 Futures ($US/barrel) Chart

MM has ridden the Beach Petroleum (BPT) post COVID recovery which has seen the stock more than double but we are now considering switching to arguably the more conservative heavyweight Woodside (WPL) which has only bounced ~60% plus its supported by a 3.7% fully franked yield.

MM is considering switching from BPT to WPL in our - MM Growth Portfolio

Woodside Petroleum (WPL) v Beach Petroleum (BPT) Chart

Conclusion

From a risk / reward perspective MM believes that we are just starting a commodities bullish “Super Cycle”.

Our preferred vehicles to gain exposure at this stage might be boring to some but we believe it’s time to keep it simple – Fortescue (FMG), OZ Minerals (FMG) and Woodside (WPL) that we don’t currently own plus we remain comfortable with our existing holdings which we could conceivably increase further.

Have a great Sunday!

James & the Market Matters Team

Our Holdings

Our positions as of Friday. All past activity can also be viewed on the website through this link. 

Weekend Chart Pack

The weekend report includes a vast number of charts covering both domestic and international markets, including stock, indices, interest rates, currencies, sectors and more. This is the engine room of our weekend analysis. We encourage subscribers to utilise this resource which is available by clicking below.

Have a great Sunday!

James & the Market Matters Team

Disclosure

Market Matters may hold stocks mentioned in this report. Subscribers can view a full list of holdings on the website by clicking here. Positions are updated each Friday, or after the session when positions are traded.

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