There have also been swings within the passive world. According to Nicholas Brooks, head of research and investment strategy at ETF Securities investors have been focusing more on industrial metals and shying away from precious metals such as gold as confidence grows over the state of the US and Chinese states of health. “Overall we are optimistic on commodities because even if China’s longer-term GDP growth slows to 6% to 8%, the absolute level of demand for commodities over the next five to 10 years will be massive. One key factor that some investors overlook is the strong relationship between per capita GDP levels and per capita consumption of commodities. As China’s per capita incomes rise towards developed economy levels, so will per capita consumption of a wide variety of commodities.
Brooks adds, given the size of China’s population, this relationship indicates that the absolute level of commodity demand will rise substantially further in the coming years. India will also be affected by this dynamic. At the same time, the cost of bringing commodities out of the ground continues to rise as the easy to access commodities are depleted and input costs increase. This puts a floor under many commodity prices and will likely force commodity prices higher in the coming years.
“The easy money has been made. Prices quadrupled between 2002 and 2006 and going forward that will be a tall ask,” says George Cheveley, portfolio manager within the commodities and resources team at Investec Asset Management. “We think there are huge opportunities in natural resources companies because everyone has been selling them off. We are focusing on companies such as Rio Tinto and BHP Billiton which have cut costs and improved margins. This is because if prices do not improve then they will be able to grown their earnings.”
Tal Lomnitzer, portfolio manager, global resources at First State Investments, is also a proponent of equities and believes the China growth story still has steam left. “There are still 10 million people who are moving to cities which translate into roads, railroads and pipelines. Even if the country becomes more consumer-led, it will mean a shift away from iron ore but greater demand for copper, nickel and zinc. We focus on mining and natural resources companies with strong balance sheets and management teams who can offer downside protection and upside potential. Half of our portfolio is in large caps but we also invest in what we call saplings and acorns – small to mid-caps – that have the potential to grow into oak trees.”
Fans of the more active approach are also adjusting the way they play the curve to mitigate the persistent problems with contango. They are buying longer dated contracts with adequate liquidity and potential roll yields as opposed to roll costs. “Unlike other managers, we do not invest in equities because they are not a pure play and are dependent on the quality of the management as well as the systemic risk in the stock market,” says Dr Hakan Kaya, vice president at Neuberger Berman.
“The issue with China is overblown,” adds Kaya. “The country is still consuming but at a slower pace. We do not focus on the super cycle, but build a diversified portfolio using a risk balanced approach. We look at the return potential through different parts of the business cycle, the inflation hedging properties and economic growth. We evaluate the long-term independent risk factors that are likely to get priced in.”
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