Simply put, an investment in natural resources is a vote of confidence in global economic growth.
Rapid urbanization and industrialization, better infrastructure and growing consumption in emerging markets are among the key themes in the global growth story. They are also key drivers in the rising demand for oil, steel, copper, cement and other resources.
Here are just a few of the many available data points to help gauge the scale of opportunity:
Just over half of the world’s people now live in cities – that figure is likely to rise to 70 percent over the next four decades. The urban population in emerging nations has expanded by an average of 3 million per week for the past 20 years.
India has embarked on a $500 billion plan to expand and upgrade its highways, airports and other transportation assets by 2012.
More than 13 million cars and light trucks were sold in China in 2009, transforming a land once dominated by bicycles into the largest auto market in the world. Forecasts for 2010 call for vehicle sales to increase by as much as 10 percent.
Commodities (as measured by the Reuters-Jefferies CRB Index) shot up 24 percent in 2009, the largest single-year increase since the early 1970s, and the International Monetary Fund projects that prices will keep rising this year due to emerging-markets demand and global economic recovery.
China’s economic growth is often mentioned in the context of commodities prices and demand – indeed, China surprised many by growing its GDP at an 8 percent rate in 2009, with commodity-heavy infrastructure investment playing a major role.
Less often discussed is China’s rapidly growing middle class (chart). Estimates are that as many as 25 percent of Chinese – more people than the entire U.S. population – fall into this category now, with a doubling possible within the next decade. While most dramatic in China, it is also under way in India, Brazil and elsewhere. This rise of the “American Dream” in emerging nations is memorably portrayed in the Oscar-winning movie “Slumdog Millionaire.”
This trend has huge implications for commodities. Wealthier people want a better lifestyle. That means more and better housing – in addition to the structure itself (cement, steel), that means more wiring for electricity (copper), more plumbing (copper, zinc) and more basic appliances (steel, copper and other metals).
They also want better transportation, as we’ve seen in China. In only 10 years, China has gone from being the world’s 20th largest oil consumer to No. 2 behind the United States as a result of its accelerating shift from the bicycle to the car. Getting around also means more roads, more bridges, more airports, more and faster railroads – all of which add to commodities demand.
While demand is growing, the supply of many key commodities is not keeping pace.
It is increasingly difficult and costly to find and develop large new oil fields, and mining projects are often slowed down by environmental opposition and tighter regulatory requirements. Many promising new commodity sources are in countries with inadequate infrastructure and/or significant political risks.
Commodity supercycles typically last 20 to 25 years – the current supercycle began in 2000, so we are just at the halfway mark. A stress in the markets is that insufficient capital has been invested in resources in recent decades, while at the same time the world’s population has doubled and there has been spectacular growth in the middle class. Any supply disruptions quickly lead to price spikes.
There are other reasons to consider an investment in commodities or commodity-based equities, be it through an actively managed natural resources fund or a passive vehicle like an index fund or exchange-traded fund.
We’re hearing more talk about inflation – natural resources are one of the few asset classes that benefit from inflation. If prices for fuel or other commodities rise, one way to hedge against the impact of that price increase is to invest in those commodities.
Commodities are also a natural hedge against the erosive impact of a weak dollar. Given massive federal deficits for the next decade, yawning trade deficits and historically low interest rates, it is hard to see how the dollar could see a sustainable rally any time soon.
Index Summary
The major market indices were lower this week. The Dow Jones Industrial Index fell 4.12 percent. The S&P 500 Stock Index dropped 3.90 percent, while the Nasdaq Composite finished 3.61 percent lower.
Barra Growth underperformed Barra Value as Barra Value finished 3.62 percent lower while Barra Growth fell 4.17 percent. The Russell 2000 closed the week with a loss of 3.27 percent.
The Hang Seng Composite finished lower by 4.26 percent; Taiwan lost 5.14 percent, and the Kospi declined 1.03 percent.
The 10-year Treasury bond yield closed at 3.60 percent, down 7 basis points for the week.
Domestic Equity Market
The figure shows the performance of each sector in the S&P 500 index for the week. All of the sectors had negative returns. The best-performing sector was healthcare, down 1.9 percent. Other better-performing sectors included telecom services and consumer staples. Underperforming sectors were materials, financials and energy.
Within the healthcare sector the best-performing stock was Intuitive Surgical Inc, up 10.3 percent. Other better-performing issues were Carefusion Corp, Humana Inc, Cephalon Inc and Celgene Corp.
Strengths
The retail food group was the best-performing group for the week, up 5.4 percent. The stocks of Kroger Co, Safeway Inc and Supervalu Inc all rose. In the prior week, Supervalu reported quarterly earnings in excess of the analyst consensus estimate, and it maintained its full-year earnings forecast.
The airline group was the second-best performer, rising 3.6 percent, led by its single member, Southwest Airlines Co. The company reported earnings greater than the consensus estimate. Also, a brokerage firm upgraded the stock to outperform, citing a benefit from less industry capacity, improved route optimization, and more passengers trying to avoid the baggage fees at other airlines.
The regional banks group outperformed, gaining 1.1 percent. Investor interest in the group appeared to increase after U.S. President Barack Obama proposed new regulatory rules on the large banks, including a proposal for a prohibition on banks operating hedge funds. The regional banks usually do not operate hedge funds. Also, two of the regional banks posted quarterly losses less than the consensus estimates.
Weaknesses
Three of the ten worst-performing groups were materials-related groups. The aluminum, diversified metals & mining and steel groups were down 14.3 percent, 11.9 percent, and 9.9 percent, respectively. Investors reacted to an effort on the part of China to slow down its economy by selling off many of the material stocks. China is a significant purchaser of these materials.
The healthcare facilities group was the worst performer, losing 14.5 percent, led by its single member, Tenet Healthcare Corp. Prospects for the passage of a national healthcare bill dimmed after the Republicans won a Senate seat formerly controlled by the Democrats. The healthcare bill was seen as a positive for hospitals because it would mean more people would have health insurance.
The other diversified financial services group underperformed, falling 8.7 percent. The members of this group are three of the large banks which sold off after President Obama proposed new regulations on the large banks, including proposed prohibitions on proprietary trading and operation of hedge funds and private equity funds.
Opportunities
There may be an opportunity for gain in merger & acquisition transactions in 2010.
The strength in the market since March could be an opportunity to eliminate weaker companies in the portfolio and upgrade to companies with better fundamental outlooks.
Threats
Should investors’ expectations for an improving economy not come to fruition in a reasonable time frame, such a delay could be a threat to stock prices.
As governments around the world begin to wind-down the monetary and fiscal stimulus programs put in place during the economic crisis, it will likely present a headwind for stocks.
The Economy and Bond Market
Treasury yields rallied again this week as concerns over Chinese attempts to slow their economy may threaten the global economic recovery. It was reported that China’s government ordered banks to slow down their lending to prevent overheating the economy. The Chinese government has enacted several measures in recent weeks aimed at slowing their economy which expanded 10.7 percent on a year over year basis in the fourth quarter.
Economic data was mixed this week and other macro issues were more significant in driving the market. The Index of Leading Indicators (LEI) rose more than expected, rising 1.1 percent in December. The chart below plots the LEI index and GDP on a year over year basis since 1980. If economic activity follows historical patterns, GDP is due for a significant recovery as we
Strengths
The Index of Leading Indicators (LEI) rose more than expected, rising 1.1 percent in December.
China’s GDP rose a very robust 10.7 percent in the fourth quarter.
30 year mortgage rates dropped below 5 percent for the first time in four weeks.
Weaknesses
The Chinese government has enacted several measures in recent weeks aimed at slowing their economy.
Housing in general appears to be bouncing along a bottom but unable to make sustained improvement.
The producer price index rose 0.2 percent in December and on a year over year basis has jumped 4.4 percent driven largely by rising energy prices.
Opportunity
Expectations continue to build for growth in the U.S. in the current quarter, possibly as much as 4 to 5 percent. The global economic recovery appears to be taking hold.
Threat
Coordinated global removal of fiscal and monetary stimulus is the biggest threat to the financial markets.
Gold Market
For the week, spot gold closed at $1,093.35 per ounce, down $37.58 or 3.32 percent. Gold equities, as measured by the Philadelphia Gold & Silver Index (XAU), fell 8.10 percent rise for the week. The U.S. Trade-Weighted Dollar Index (DXY) jumped 1.24 percent.
Strengths
The Financial Times has reported the Russian central bank has already started buying Canadian dollars and securities in a bid to diversify its foreign exchange reserves. Analysts have said the move could be a sign of increased diversification of emerging market central bank assets away from the dollar and into investments in commodity-linked currencies.
Russia’s central bank increased its gold reserves last month by 800,000 troy ounces, or 4.1 percent, from 612.73 tonnes to 637.62 tonnes. The increase in dollar terms was equivalent to $22.4 billion as of January 1.
Liu Yuhui, an economist at the Chinese Academy of Social Sciences, has said China may scale back purchases of U.S. debt again on concerns the dollar will decline. A Treasury Department report shows China trimmed holdings by $9.3 billion in November to $789.6 billion.
Weaknesses
The week was dominated by risk-aversion as the U.S. dollar strengthened because of news that China’s economy expanded by 10.7 percent in the fourth quarter of 2009, modestly above consensus. As a result, China has been asking banks to curb lending, restricting overall credit growth to tame inflation because of an over-heated economy.
Also, European sovereign credit risk fears continue to grow as Greek credit default swaps widened by 33 bps to 348 bps.
Commodities across the board were hit on the news that China’s tightening would lead to less demand for raw materials. The head dealer at a prestigious brokerage firm in Chicago said that China was the driving force behind commodities and that there is now a wave of asset liquidation that triggered more profit-taking.
The dollar was also buoyed after Republican Scott Brown won a U.S. Senate seat in Massachusetts and vowed to prevent healthcare reform in Congress, which eased concerns that the cost of the proposal would lead to higher debt levels.
Opportunities
Inflation expectations have risen sharply in the U.S. and Europe in the past three months against a background of economic growth. Demand for inflation-indexed government bonds continues to rise amid expectations that interest rates will rise this year to subdue rising prices.
The world continues to look to China as the main driver of growth. The World Bank has raised its forecast for the global expansion in 2010 to 2.7 percent from 2 percent last June and also predicted 9 percent growth in China.
Dennis Gartman, Editor and Publisher of the Gartman Letter, has rescinded his remarks over a stronger dollar outlook made last December, and has said that President Obama’s remarks on financial overhaul, which limit bank proprietary trading and other activities, will cause capital to seek investment elsewhere. Gartman suggests a positive material shift in sentiment towards gold as the U.S. dollar may weaken further over uncertainty in the financial system.
Threats
At the start of the year the consensus for most market strategists was for a strong first half in 2010 with some weakness expected in the second half of the year. The recent bout of profit taking may have to run its course and would impact all asset classes, but just as in 2009, gold based assets were some of the best investments to own.
The Federal Housing Administration will raise the up-front Mortgage Insurance Premium, which is paid by borrowers, from 1.75 to 2.25 percent, marking the second time in two years it has raised its premium. New borrowers will also be required to have a minimum FICO score of 580 to qualify for the 3.5 percent down payment program, otherwise borrowers will have will be required to put down 10 percent.
Australia’s Secretary to the Treasury Ken Henry has recommended that individual state levies on miners be replaced with a uniform tax expected to be 40 percent. This could narrow the profit margins for some of the miners.
Energy and Natural Resources Market
Increased demand from China and congestion at the Newcastle export terminal in Australia continue to put upward pressure on thermal spot prices in the Asia-Pacific region.Strengths
Chinese thermal coal imports were staggeringly strong in December at 12.1 million tonnes, implying that fourth quarter imports were up 32.5 percent year-over-year.
The latest release from the American Iron and Steel Institute shows U.S. steel capacity utilization rose to 64.7 percent for the week ended January 16. So far in 2010, production levels are roughly double that in the equivalent 2009 period, but are still 25 percent below 2008 peak levels.
Minor metals remain bullish. The U.S. molybdenum price moved up 11.3 percent to $14.75 per pound as its upward trend remains intact. Over the past month, the U.S. molybdenum price is now up 32.9 percent. Also, cobalt is also currently at a 52-week high of $23.25 per pound.
Weaknesses
Base metals prices fell this week, as a much stronger dollar and further reports of curbs on lending in China prompted a major sell-off.
Chinese construction activity in December was weaker than expected. Housing starts fell back from the stratospheric 200 percent year-over-year gain in November to 35 percent year-over-year in December. Total area under construction rose 8 percent year-over-year, which comes after 45-50 percent year-over-year growth in October and November.
Opportunities
India has fast tracked a Posco project before the South Korean president visits the country this weekend. The project is slated to cost $12 billion and will be built in the Orissa district of India. ArcelorMittal also has a sizeable project planned for the iron-ore-rich Orissa district. These projects will not be fully operational until 2015, but they both will be significant consumers of Indian iron ore, which may further decrease exports of this material to China, causing the country to seek additional material from the seaborne market.
World nickel consumption was 107,000 tonnes in November, outpacing primary nickel production of 104,100 tonnes, the International Nickel Study Group said.
Threats
U.S. inventories of carbon flat-rolled steel at service centers slightly increased for the month of December to 2.2 months of supply on a seasonally adjusted basis, versus 2.1 months of supply for the month of November.
LME aluminum inventories reached a new all time high of 4,640,750 tonnes and inventories of nickel, copper, and zinc all continue to hover around their 52-week highs.
Emerging Markets
Strengths
China’s fourth quarter GDP came in better than expected at 10.7 percent year-over-year versus expectations of 10.5 percent. For the full year of 2009, GDP grew 8.7 percent, well above the government’s target of 8 percent.
China’s innovation in its capital markets continues as stock index futures, shorting, margin financing and REITs are expected to be introduced in the first half of 2010.
Investor confidence in Eastern Europe rose to new highs in January based on improving economic conditions and expected increasing export demand.
Fitch raised its credit rating outlook for Russia to stable from negative, citing greater economic and financial stability.
Weaknesses
China’s Consumer Price Index (CPI) for December came in stronger than expected at 1.9 percent versus expectations of 1.4 percent. Much of this was driven by higher food prices. It is estimated that 92 percent of the increase of the CPI rise was due to food.
The People’s Bank of China (China’s central bank) set an additional 0.5 percent reserve requirement for those banks that issued too much in loans in January.
Hungarian credit default swap spreads rose to the highest levels since September on concerns that upcoming elections may prompt the new government to increase the budget deficit.
Opportunities
China is looking to move up the value chain in manufacturing as the State Council approved a report by the National Development and Reform Commission on accelerating the development of new strategic industries. These industries would include aerospace, biotechnology and new energy initiatives.
The South African public utility Eskom announced it will need to increase prices by 35 percent over the next three years. While this is a negative for South African economic growth it is positive for infrastructure providers as capacity needs to be expanded.
Threats
Rising input prices are a threat due to the overcapacity and competition in almost all manufacturing sectors. This means price increases cannot be passed onto the buyer and is a negative for already thin margins.
If investors are concerned about a potential slowing of global growth as the global stimulus removal process appears to have started, risk aversion will likely rise, negatively impacting emerging markets.
Leaders and Laggards
The tables show the performance of major equity and commodity market benchmarks of our family of funds. (click to enlarge)
0 comments:
Post a Comment