Market Commentary - Metals Team, December 2021

13 January 2022

By Mark Smith

Goodbye to 2021

As the ‘fiscal party’ winds down and the ‘market music’ stops, the macro betas in 2022 will be rising bond yields, inflation risk, a weaker US dollar and the rate of global growth. Central banks will taper their aggressive asset purchase programs and interest rates are likely to start heading higher; this transition presents some risks to the markets.

Monetary policy is on most investors’ minds right now and with bond yields starting to rise in anticipation of higher interest rates, beaten-down value stocks could be the next winners. Higher rates mean a bigger discount for the present value of future profits, hurting growth stocks with the highest valuations and boosting the most lowly rated. Investor’s concern about an over-aggressive Federal Reserve choking off the U.S. recovery with possibly four rate hikes is gathering momentum. Meanwhile negative real rates continue to spur massive flows into the equity and risk markets as the ever constant and irreversible monetary debasement continues.

Inflation is not transitory in our view and positive for precious metals. The sentiment indicators and technical analysis are slowly building for a positive gold price rally. The crest point for the wave of global monetary stimulus is upon us and under these conditions the potential for a sharp mean reversion is real (very bullish for gold). Despite the negative impacts of inflation on capital projects and working costs, gold equities continue to trade at record low multiples when considering price to cash flow or enterprise value to EBITDA, especially when compared to the S&P 500. It is important to highlight that the gold producers are generating better revenue growth, profitability margins and return on capital and higher dividend yields than the S&P 500, but with lower valuations!

Figure 1: DJIA vs. Gold price

Source: Bloomberg

By the end of the year-2021, the outperformance of precious metal prices witnessed in October and November had completed its reversal and the market was fully in risk-on mode, Figure 2.

Figure 2: Relative year performance of the Global Miners vs. Global Gold stocks

Source: Refinitiv; Amati Global Investors

Following on from a metal-intensive one 2021, largely stimulated by quantitative easing, 2022 looks like a year where growth rates will stabilise and possibly decelerate. The legacy logistical issues stretching supply chains and depleting inventories should pass and we see less competition for raw material lots across commodity markets. The general growth trend (Industrial output) will likely be back towards the 3.5% year-on-year rate that was more typical pre-pandemic. 

Given the potential for a softening in certain commodities into 2022 and the fact that most are still trading at a premium to their cost curve, we continue to adopt a disciplined approach to using long term sustainable pricing in our financial modelling. Again we look for company specific value discrepancies and value through development and discovery in all metal classes.

Fund Strategy and Methodology

The cost of batteries for electric vehicles is set to rise in 2022 as supplies of raw materials fail to keep up with rising demand. With this in mind we continue to maintain a high exposure (around 42% of the fund) to specialty metals and class 1 nickel producers and developers in the fund. In the top 10 investments there is now nearly equal fund weighting to battery metals 17% and precious metals 18%. This strategy (in our view) provides investors with precious metals optionality whilst having a targeted exposure to the energy transition.