Population growth a tailwind for mining, energy, agriculture and renewables.

There are a number of trends in the short and long term that are shaping the outlook for natural resources. The megatrend of accelerating population growth and urbanisation underpins the long-term opportunity in natural resources equities as billions of people’s needs in housing, infrastructure, food and clothing are catered for and will drive demand for metals, energy and agricultural output. 

How companies position themselves to take advantage of this trend, while also responding to current economic, geopolitical and sustainability considerations, is a key factor in the investment process.

The global natural resources sector is generally considered to be highly cyclical, resulting in a strong temptation among investors to time their entry and exit with the economic cycle. We encourage investors to consider an investment in the resources sector as part of their long-term asset allocation, thinking of it as an investment rather than a trade. 

Unlike other segments of the market, resources equities have shown they can be negatively correlated with the broader equity market over the long term, yet are capable of generating similar returns.

Understanding the global opportunity

We invest globally in the three natural resource subsectors of mining, energy and agriculture. Given Australia’s dominance in the resources space, it may come as a surprise that Australia only makes up a very small proportion of the global investment opportunity. 

The large-cap investment universe in resources is around 1,800 companies worldwide, with US$3 trillion of market capitalisation, whereas large-cap Australian resources companies only comprise around 50 of these stocks (about 3 per cent). Given natural resources advantage is distributed globally, we believe it is important to invest in a global group of companies. 

Taking a look at each of the natural resources subsectors, our outlooks are as follows:

Mining

The past five years have generally been weak for many commodities and this has set the scene where many markets could strengthen considerably from these cyclically low levels. It has now been 14 years since the Chinese demand-fuelled “super-cycle” commodity peak and although some commodity prices have seen little growth since, we still see long-term growth for industries across a number of commodities, such as aluminium, copper, gold, silver, uranium and lithium.

The first modern lithium boom (2016-2017) and bust (2018-19) have occurred, with prices up 400 per cent and then down 50 per cent. However, as a key component in electric vehicle batteries, we see growth here that will persist for the next 30 years.

In addition to the electric vehicle thematic, the potential growth in battery storage demand for residential, utility and industrial applications could ultimately be even more significant. Battery storage is playing a vital role in the renewable energy sector in making it a robust alternative, overcoming the intermittent nature of wind and solar power (the wind does not always blow and the sun does not always shine) as well as the mismatch in timings between peak power generation and peak consumption.

For the past few years, global exploration activity has been anaemic, but that is starting to change. Exploration activity in Australia is enjoying a resurgence, unearthing exciting new opportunities around the country, with discoveries made by Newcrest Mining (ASX: NCM), Havieron; Rio Tinto (ASX: RIO), Winu; and BHP (ASX: BHP), Oak Dam. 

The gold price tripled from 2006 to 2011, then had a seven-year consolidation, trading between A$1,350 and A$1,750 an ounce. During this time many new deposits were discovered and new mines brought into production. In 2019, gold jumped 20 per cent, with some of the most recent exploration successes bringing renewed interest into the mining sector, across a range of locations and company sizes.

Energy

Exciting developments are also afoot in Australian energy exploration. In August 2019 the Perth Basin re-emerged as a compelling area for gas exploration, with the second major gas discovery at West Erregulla made by partners Strike Energy (ASX: STX) and Warrego Energy (ASX: WGO). 

At present there are good opportunities in the oil and gas exploration and production subsector. We invest across the entire supply chain of the three natural resources subsectors, meaning we can focus on the companies and sectors benefitting most from whatever stage the cycle is in.

Australia has grown its energy industry in recent years to become the world’s second largest liquefied natural gas (LNG) exporter after Qatar. With a number of advantages over Qatar, including a more diverse field and reduced distances for shipping to Asia, we expect Australia to be a preferred global LNG exporting market for many years to come. 

Looking to renewables, in the future we could see Australia as a leading nation in solar and wind generation, with potential exports to Singapore or Indonesia by undersea cables.

Agriculture

Change is occurring in the Australian agriculture sector, with Nutrien (TSX: NTR) taking over Ruralco (ASX: RHL), and Incitec Pivot (ASX: IPL) looking to sell its fertiliser division. Production across the spectrum has been affected by tight water supplies, the worst drought on record and the most widespread bushfires in living memory. Agribusiness has also suffered from the US-China trade war. 

Precision farming methods and automation are enabling more efficient fertilisation and crop protection. Farmers can now monitor the exact portion of a field to use fertilisers and insecticides, reducing costs of production and the amount of chemicals released into the environment. 

Meanwhile, developments in seed technology, such as the completion of the wheat genome, mean more resilient and productive crops will improve outputs and reduce reliance on rainfall, fertilisers and crop protection.

Our focus at this time is more on the broader international agricultural sector, aiming to take advantage of a recovery in the fertiliser sector after a weather-affected 2019 and the large potential benefits of the US-China Phase 1 trade agreement, if it is fulfilled. We are also invested in companies adapting to changing food tastes and those that can find solutions to environmental pressures in food supply.

Trade war uncertainty

Given China’s reliance on Australia for raw materials, the trade war has been a key factor in shaping our outlook in the short to medium term, with outlooks and opportunities being frequently revised in the aftermath of any number of tweets from Donald Trump. 

While the trade war tension rolls on, the signing of the Phase 1 trade deal between the world’s largest economies provides optimism and increased investor confidence that global trade patterns will start to normalise, resulting in renewed demand for resources. There is also potential for a re-stocking boom as China refreshes stockpiles of raw materials across a broad range of commodities. 

2020 and beyond

In response to the 2011–2016 downturn, a number of companies, particularly within the mining and energy subsectors, were forced to become more disciplined in their operations and expenditure. This has left them leaner and more efficient, with good balance sheet strength, cash flow generation and dividend yield. 

Overlaying the long and shorter-term factors at play, we believe this period of capital discipline has left them better placed to capitalise on opportunities, while ensuring more stability and resilience to better handle any downturns.