This article is part of Morningstar's "Perspectives" series, written by third-party contributors. Here, James Sutton, client portfolio manager, JPM Natural Resources fund, comments on the commodities outlook.
Since bottoming in June, the JPM Natural Resources fund is up 18%. Although we are still more than 50% off our highs in 2011, this does signal that some sort of recovery is underway.
Commodity prices are bottoming across the energy, precious and base metals subsectors in which we invest. This is encouraging generalist investors to reappraise sector for the first time in two years.
At the stock level, we are finally coming to the end of a two year earnings downgrades cycle in this sector. Glencore Xstrata (
GLEN), one of the largest holdings in the portfolio, has been subject to consistent earnings downgrades throughout this period because of continual falls in commodity prices. Now that commodity prices are recovering, analysts are able to start looking at some of the stock-specific, bottom-up factors driving value in the business such as the synergies the company can achieve Xstrata’s assets. Considering an example from a subsector where falling prices have not been such a determinant, our holding in Anadarko ( APC) has almost doubled in the last 18 months and has been a top performing holding over the past 2 years. Oil prices have remained largely range bound and analysts have therefore been able to focus on the positive moves management has made with divestments in East Africa and production growth at the Wattenburg field in Colorado.
Interestingly, MSCI materials was the best performing sector in the MSCI World in the month of August for the first time since January 2012. MSCI utilities, healthcare and other bond proxy sectors are underperforming as interest rate rises loom. Historically, at this point in the cycle, cyclically sectors, like materials, outperform.
It is also possible that we have reached maximum underweight among fund selectors and multi-managers. More generalist multi-managers are beginning to return to the sector based on the incredibly attractive valuations on offer. Even on a dividend yield basis, you can make a case for owning the large cap miners. It’s a curious situation when some of these stocks are yielding more than their respective indices. This is not a function of these companies paying out a large chunk of their earnings as dividends, but rather a result of their share prices moving so low.
By any metric you observe, small cap commodities stocks are at very cheap valuations relative to the rest of the market and relative to their own history. With many commodities underwater because of the massive decline in prices, production is and will be knocked out in areas like aluminium and nickel. That means when demand rebounds we’ll see significant tightness in some markets as supply simply won’t be there.
