By Mike Berry
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Bob Farrell’s Rule #9: When all of the experts and forecasters agree – something else is going to happen.
I have been through two previous oil swoons. In March 1999 oil bottomed at $10 per barrel. I was invested - a money manager with Heartland Advisers at the time. The Economist magazine (March 6, 1999) forecast oil to move lower, perhaps $2. It was a painful experience but oil never went lower.
By Chris Berry (@cberry1)
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Tesla Motors (TSLA:NASDAQ) released Q4 and 2014 full year earnings last night and the results were disappointing. The company missed expectations on just about every conceivable metric one would use to judge success including earnings, deliveries, and revenues. Although disappointing, TSLA should still likely be viewed through a longer-term lens than its competitors as the company is still arguably in its early growth phase and isn’t yet a mature operating entity.
While the numbers we all tend to focus on were down, what was perhaps more concerning were the statements made by Mr. Musk and his team on the call. They include:
· Mr. Musks’ statement that in ten years TSLA could have a market cap that equaled that of Apple Inc. (AAPL:NASDAQ). AAPL’s current market cap of US $740 billion would give TSLA a share price of approximately $5,920 per share based on TSLA’s current share count. When was the last time you hear of a company selling what is effectively a commodity (cars) with that sort of valuation and share price?
By Chris Berry (@cberry1)
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One of the biggest knocks I usually get from investors when discussing energy metals is that it’s too small. Lithium at 160,000 tonnes per year or cobalt at roughly half that are not big enough for the larger institutional money managers to focus on as other, more liquid metals markets are deemed safer (or likely just more familiar).
That said many of these “safer” opportunities are hampered by excess capacity and investor disinterest which continues to cast a pall over the commodities sector in general. The paradox is that despite the smaller size of most energy metals, they likely offer higher rates of return over the long-term as technology advances and quality of life between East and West slowly converges. To be fair, these metals will likely remain in niche status going forward, but avoiding learning about them risks walking away from unique opportunities.
It is this disinterest and general lack of funding availability that presents what I predict will be the seeds of the next bull market. This will be rooted in reliable access to the raw materials necessary to make technology supply chains run smoothly. As the demand for various technologies grows, these growth rates are dependent on the answer to one question:
By Mike Berry
“For they sow the wind, and they shall reap the whirlwind.” Josea 8:7
Will the Saudis now reap the whirlwind?
I thought this bit of recent commodity price history of interest. Income boost from today's gasoline prices versus what I paid on July 22, 2014 for regular gasoline at EZ Check (gasoline prices in Whippany, New Jersey).
By Chris Berry (@cberry1)
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Investors in the small cap mining sector are well aware of the “end game” for the junior mining plays - either a take out by a larger company or the mythical “get into production” (which few achieve successfully). Significant structural barriers including strong deflationary headwinds and traditional cyclical issues have altered this line of thinking. I think this mandates that we evaluate the natural resource sector differently.
This is why I continue to believe that those companies with a competitive and disruptive advantage are better placed to survive the current commodity collapse and emerge when global supply and demand forces eventually equilibrate in the future.
That said, if every crisis provides opportunities, the current metals landscape demonstrates significant pockets of value. If that is the case, there are two questions to consider:
Where is the value? And….
What are the catalysts to unlock it? The answer to the first question is subjective; the second is more objective.
Since the end of the current iteration of the commodity super cycle in late-2011, one of the ways I have addressed these questions is through more detailed focus on larger market capitalization companies mainly through dissecting their quarterly earnings calls. Everyone has their due diligence “list” when reviewing companies (management experience, balance sheet strength, sustainability, etc), but listening to what publicly traded commodity producers and users have to say is not as prevalent.
By Chris Berry (@cberry1)
For a PDF of this note, please click here.
At this point, what could possibly be said about the economic health in the Euro Zone and the prospects for growth that hasn’t already been said? Realistically, the only question that has yet to be answered is how to ignite growth? This is a question you could ask about numerous economies around the world, but the structural challenges in the Euro Zone and the fact that you have a political union but not a financial one appear to be the reasons for what little growth actually exists.
With that in mind and with the European Central Bank (ECB) essentially out of ideas, the announcement of a quantitative easing (QE) program of €60 billion per month was likely the worst kept secret in finance. Specifically, this program will take the form of an asset purchase mechanism where the ECB will buy government bonds, private sector bonds, and debt securities of European institutions totaling €1.3 billion during the “life” of the program. Many would argue that the QE programs in Japan and the US have failed to achieve their objectives and this is why I mentioned Albert Einstein in the title of this note. He’s credited with saying that the definition of insanity is doing the same thing over and over and expecting a different result. Is anyone in the ECB familiar with this?
In just the month of January alone, central banks in Denmark, Turkey, India, Peru, and Canada have all lowered rates in an attempt to ignite growth. Additionally, the People’s Bank of China (PBOC), quietly injected USD $8 billion into the domestic banking system via a 7 day reverse repo lending facility. Clearly, the Swiss National Bank’s un-pegging the Franc from the Euro was the first domino to fall and other central banks around the world are positioning for a challenging way forward.
By Chris Berry (@cberry1)
For a PDF of this note, please click here.
The unprecedented response of Central Banks to stimulate growth in the wake of the Great Recession has been unlike any before it in history. Trillions of dollars worth of liquidity was pumped into the global financial system in hopes to stimulate aggregate demand and growth rates. In the United States alone, the balance sheet of the Federal Reserve has ballooned from $700 billion to well over $4 trillion and the debate rages around what we have to show for it. Clearly, the Swiss National Bank saw the writing on the wall and unpegged their currency from the Euro to avoid long-term damage to their domestic economy despite the overnight strengthening of the Swiss Franc and its potential to hurt Swiss exporters.
The uncertainty from central bank actions is starting to be felt around the world and the bond markets are a telling example. The Japanese sovereign yield curve shows the results of decades of interference to try and stimulate growth.
Negative yields out three years on the yield curve demonstrate a lack of growth potential and the Bank of Japan forcing yields into negative territory tells anyone that the Japanese economy, in its fourth recession since 2008, is going to struggle.
By Chris Berry (@cberry1)
For a PDF of this note, please click here.
“Love and marriage, love and marriage,
Go together like a horse and carriage.
This I tell ya, brother, you can’t have one without the other.”
– Frank Sinatra
Ol’ Blue Eyes Was Right
With structural challenges still facing the metals sector as we head into 2015, finding a way to lower production costs is a must. A company’s sustainability (regardless of where it sits on the value chain) is arguably the most important issue for investors to consider. Lowering costs through either reducing operating or capital expenditures is the most obvious and easiest method, but this doesn’t create lasting value. The key is enhancing productivity through investment. It’s paradoxical to think that increasing investment can lead to lower costs in the long run, but this has been proven again and again many times.
Increased investment implies increased commodity intensity and this is why I used the Frank Sinatra quote above. Productivity goes hand-in-hand with increased investment and commodity use. In other words – you can’t have one (productivity or growth) without the other (increased metals use).
To be sure, there are other ways to drive productivity. In his excellent book Capital in the 21st Century, Thomas Piketty argues that favorable demographics – specifically population growth – can, in part, spur overall economic growth and the productivity gains which go along with it. The challenge here is that it takes decades for this phenomenon to play out.