Intertwined support
The commodities sector, with its subsector of industrial metals, is underpinned by five key investment themes that abrdn identified at the start of the year: supportive monetary policy, expansionary fiscal policy, deglobalization, capital constraints on future oil and gas production, and decarbonization, said Minter.
“When you combine [the themes], it’s clear that we will see not only higher [structural] inflation, but a much more disruptive supply-demand environment than we’ve known,” he said, noting that these signal a period of more sustained inflation rather than the current transitory inflation numbers.
Minter described how the five themes present investment opportunities. For one, U.S. monetary policy remains supportive, and the expected tapering of asset purchases by the Federal Reserve doesn’t necessarily suggest a rise in interest rates. Real interest rates are forecast to remain negative, which is supportive of investment in risk assets like commodities, he said. Second, generous U.S. fiscal policies continue to have bipartisan support, especially for infrastructure development and job creation. Third, deglobalization is leading to higher material costs and inflation because many countries, including the U.S. and China, are employing protectionist trade policies.
Fourth, ESG policies have placed constraints on capital allocation to oil and gas production. With $14 trillion in assets committed to divesting from fossil fuels, there are serious short- and medium-term implications for energy supply before renewable goals are met, he said. Finally, the decarbonization shift is the largest undertaking of its kind attempted by humankind — and it represents $51 trillion in gross domestic product in the U.S., Western Europe and China alone, Minter said.
Recognize the inflection point
Investors need to see that industrial metals are a key resource as the global economy adapts to the new realities brought on by climate change. “We also need to update, repair and strengthen the infrastructure already in place,” Minter said. “As the economy makes the transition and the use of renewables becomes more visible, there is an increasing recognition that we’re at an inflection point.”
“We tend to forget that the policies that support decarbonization and address climate change have broad implications across the commodity spectrum. For example, incentives will drive demand spikes for renewables and the economic models that make them possible. But before someone orders a new Tesla on an app, someone else has to pull 300,000 pounds of raw material out of the ground to manufacture it,” Minter said. “We’ve become accustomed to sustainable products magically appearing, but we don’t think about the complex supply chain behind them.”
Dig into supply issues
Copper is a good example of supply-chain challenges. “There are 200 pounds of copper in an electric vehicle, four times as much as a conventional car. An average wind turbine and a one-gigawatt grid-scale battery can each have more than four tons of copper,” he said.
“When we start to add these up, there easily could be 15% higher demand just in the next few years.” At the same time, supply is highly constrained. “It takes five to ten years to bring a copper mine online, and increased ESG scrutiny has prolonged the availability of new supply for all sorts of well-meaning reasons.” Minter quoted a mining chief executive who said that even if copper prices were to double, suppliers would still be unable to increase production until new mines are developed.
Aluminum is another example: The key selling proposition of its use in both combustion and electric vehicles is that weight reduction can save 20% of energy consumption and 17% of carbon emissions, he said. “These demand-side factors are important. But on the supply side, for example, China has capped aluminum smelting at 45 million tons in order to meet energy-reduction targets.” Additional supply will have to come from countries with much higher energy costs, and if aluminum producers have to pay carbon offsets, production costs could rise commensurately, he explained.
“From an investment perspective, copper and aluminum and other metals are interesting to us. These are not short-term issues simply to be traded — they are multiyear themes that could be integrated into long-term investment strategies,” Minter said.
Commodity exchange-traded funds, which deliver a familiar, liquid investing format, can be used to express either short- or long-term views in this space. For instance, the abrdn Bloomberg All Commodity Longer Dated Strategy K-1 Free ETF (Ticker: BCD) seeks to provide investment results that closely correspond, before fees and expenses, to the performance of the Bloomberg Commodity Index 3 Month Forward Total ReturnSM, he noted. abrdn also offers a range of exchange-traded funds with high conviction exposure to specific subsectors or a single commodity, including physical gold, silver, platinum and palladium.
Incentivizing demand
Looking ahead, Minter said he sees significant government policy shifts underway. So far, government policies and social attitudes around renewables have been somewhat simplistic: renewables are good, fossil fuels are bad. “As we’ve tried to disincentivize fossil fuel investment, supply has become restricted and, as demand spikes, it creates extreme price volatility,” he said, offering the natural gas market as a good example. “In the U.S., we’ve made tremendous progress in reducing our carbon footprint over the last 10 to 15 years because we’ve shifted from coal to natural gas to produce electricity, which has driven up demand. However, storage has remained the same, so there is much less of a buffer compared to the rise in demand, which creates much higher price volatility,” Minter said. “This means that our policies need to change by incentivizing renewable energy demand as opposed to restricting fossil fuel supply.”
