Soaring commodity prices have helped drive inflation to 8.5%, by far the highest level in the last few decades. With commodity prices up and inflation creating waves, is it too late for investors to capitalize on high commodity prices? Have investors missed their chance to protect their portfolios from inflation? Historically, resource equities have provided stellar performance during inflationary periods,1 and this time has been no different. Resource equities have been the best performing asset class over the last 2 years yet continue to trade at extremely attractive levels that don’t reflect current commodity prices. Let’s consider some of the important dynamics in commodity markets and then turn to the surprisingly attractive opportunities in the resources sector. Shorter-term and longer-term dynamics in commodity markets Commodity prices are generally driven by short-term supply/demand dynamics. Currently, there are a few major factors impacting short-term supply and demand. On the demand side, we have a global economy, boosted by an abundance of stimulus, striving to return to “normal” after two miserable years dealing with Covid. Commodity producers have struggled to meet this demand, as they’ve dealt with an assortment of pandemic-related challenges, including supply disruptions and labor shortages. Into this already potent mix, the Russia/Ukraine crisis has been added.
Russia is one of the largest commodity producers in the world with critical supplies across energy, metals, and agriculture. Russia produces more than 12% of the world’s oil and is the world’s largest natural gas exporter, including, as we all know, being a major supplier to Europe. The Black Earth region spanning Russia and Ukraine is home to large swaths of extremely fertile soil, producing almost 30% of the world’s wheat and ranking as one of the top two or three producers of many agricultural commodities. On the mining front, Russia is a major producer of nickel, platinum group metals, potash, phosphate, and coal, along with many other materials. With Russia involved in a shooting war with Ukraine and an economic war with the West, already stressed commodity markets have become more stressed. Oil has traded over $120 per barrel, while nickel, phosphate, and wheat all jumped over 30% in the days following the invasion.
These shorter-term factors obscure, in some ways, and exacerbate, in others, critical underlying longer-term dynamics that will impact commodity prices for many years to come. On the demand front, we have a global population rapidly approaching eight billion and headed significantly higher from there. More importantly, a large proportion of the global population resides in developing countries that will continue to go through the stage of economic development that is particularly commodity-intensive for decades. Building out cities, infrastructure, electric grids, and so on requires tremendous amounts of resources, and the world has never seen countries the size of China, India, or even Indonesia attempt to go through this stage of development.
In addition, decarbonization efforts will spur demand for clean energy materials far beyond anything we’ve seen before. Transitioning from fossil fuels to clean energy does not absolve the world from the need for natural resources. In fact, the clean energy economy will be as reliant on natural resources as our current economy. It will just be a different set of resources. Instead of oil, coal, and natural gas, we’ll need lithium, nickel, cobalt, and manganese for our electric vehicle (EV) batteries, vanadium for our utility scale energy storage, silver and polysilicon for our solar panels, iron and zinc for our wind turbines, and copper for…well, just about everything.