azValor is known –amongst many other things– for its decisive bet on commodities, especially in recent times. What criteria underlie this choice? Why do commodities figure prominently in azValor’s investment portfolio? Fernando Bernad, Deputy Chief Investment Officer at azValor, speaks about it.
"As you know, we believe that the key to making good investments is buying low. And we are actually finding value in this market segment; something other segments have precious little of. With western stock exchanges in historic highs, we are having a hard time finding investment ideas –although they exist– but it is in the commodities segment where they are most predominant.
I believe it is crucial to dwell on the glaring performance discrepancy of the commodities sector vis-à-vis the indices and stock markets in general.
It should be noted that since the record highs of 2011, commodities have sunk by almost 40% in dollars.
Since then, however, the American Stock Exchange has gone up by 130% before dividends. The European Stock Exchange, over 80%. In other words, while there have been historically sharp and steady rises in stock markets since 2011, commodities have done nothing but drop. So the discrepancy is really striking.
In the oil and gas sector it is slightly less. Highs were reached in 2014, but there were similarly sharp falls since then and bullish stock markets since 2014. So I would say this is the first important starting point.
As you known, it is a sector regarded as complicated by the market in general, which depends on a non-controllable variable that is highly volatile in the short-term, it is difficult to value, some people are afraid of volatility… but we do a thorough analysis of the cost structure of the industries of the different commodities and calculate normalised prices to do our valuations. It is an analysis that takes into account a large amount of data. It is very thorough… And it can be perfectly done with a long-term vision. In the end, it is the method we use to reach a reasonable price of the commodity, a normalised price that allows us to do the valuations of these companies which are actually rather volatile in the short-term.
Right now our portfolio is concentrated in a few commodities, mainly copper, uranium, nickel, oil and gas, and then gold and silver, which have slightly different dynamics but are basically also subject to the same fundamentals.
What we see in these commodities is that there has hardly been any investment for almost 6 years now. I am referring to investment in new mines, new deposits. However, we believe that the growing demand is unstoppable. Consequently, we are beginning to see a situation –that will continue in the future– where there is hardly any new production and demand continues at its own pace.
We must also take into account that in the commodities and oil and gas segments, etc., these new mines are necessary not only to cater to the growing demand but also to replace deposits that are gradually disappearing.
Approximately between 5-7% of annual world production comes from withered mines. This must also be replaced by new mines. And for these new mines to start operating, commodities need to provide enough incentives to invest in them. This brings me back to the analysis I mentioned earlier of normalising the price of commodities. In particular, their dynamics of supply and demand are the most attractive in our view.
I believe there is a somewhat installed narrative in a significant part of investors and, in general, of people investing in markets, whereby China has gone through a supercycle during the last 10 years that is unsustainable. One thing is certain: narratives are very easy. It is easy to fall into the newspaper headline, the shortcut, the sensationalist slogan, but then data must be analysed."