Unearth Big Gains from the Commodity "Supercycle"
The latest research from Investment U Research
Friday, November 28, 2008: Issue #893
Consider that your computer could contain up to 38 separate chemical elements and that all of those elements needed to be mined and refined. Everything from cell phones to housing supplies requires massive amounts of raw materials.
Our modern lifestyle encourages us to buy the latest products, all made with increasing amounts of technology - and more raw materials.
But industrialized nations aren't the only players clamoring for these commodities. Developing nations around the world are pounding the table for more of everything. They want what the industrialized west has had for years. And they want it now.
And that's just the problem. There isn't enough of it being produced fast enough to satisfy everyone. An imbalance exists between producers, supplies and the market. It means that there will be an inevitable correction.
Prices will skyrocket for base metals and commodities. And for investors aware of this "supercycle," the rewards and returns could be immense. Here's what you need to know about the international demand for commodities - and how you can profit from their price explosion.
Supplies Are Low - And Demand Remains High
The whole idea of a supercycle, of higher commodity prices, remains well intact. Even with the recent slowdown, a massive supply/demand imbalance exists in the marketplace right now.
And nothing has emerged to change that story.
"It is a mistake to assume that current volatility within the commodities sector is proof that the prolonged rally in commodity stocks is running out of steam," says Ian Henderson, manager of the JPM Natural Resources Fund.
"It is also misrepresentative to attribute it to a change in the basic fundamentals of supply and demand... In reality, it is the self-perpetuating irrational market sentiment in itself which is causing a sell off..."
In the short term, however, we'll likely continue seeing a softening of commodity demand, along with a decline in prices. But that's okay because stock prices already reflect the new paradigm in which mining companies are operating.
Mining companies sit at extraordinary valuation levels right now. So buying now ensures that you're grabbing shares at rock-bottom prices.
But in order to make the most of the opportunity, you need to look above the forty-ninth parallel, to Canada - the world's investment hotspot for profits from the bull market in metals.
Simply put, Canada is the preeminent leader of the world's mining sector. According to Paul Stothart, Vice President of Economic Affairs at the Mining Association of Canada,
"About 19% of the total global spending on mining exploration was for exploration within Canada's borders, well ahead of Australia at 13% and the U.S. at 8%..."
Consequently, Canada's mining industry will be crucial to satisfying the world's needs because of its experience and technological capacity. And Canada's mining-friendly laws only add to the country's investment appeal - a far cry from other resource-rich countries where regulators are downright hostile. But it's not just the producing nation that we need to worry about.
Fact is, the United States, Europe and Japan are no longer the only countries vying for the world's resources. Other countries with young, blossoming economies are now demanding an increasingly larger piece of the pie.
The BRICs (a conceptual coalition of emerging superpowers, which includes Brazil, Russia, India and China) encompass over 40% of the world's population and hold a combined GDP of $12 trillion dollars, which makes it the largest entity on the global stage on almost every scale.
These countries are in the midst of an unparalleled building boom that is consuming resources like never seen before.
In China right now, a city the size of Philadelphia is springing up every 30 days. (It is estimated that China will need enough structural steel to build a Manhattan's worth of new buildings every year for the next two decades.) And within another 20 years, China's economic output is likely to be greater than Japan's, greater than Germany's, greater, even, than the United States'.
In short, these countries are going to be fueling international growth for years to come. They're hungry for the new resources needed to continue their astronomical growth.
Solid Growth at a Deep Discount
Now that you see the potential, there are plenty of ways to profit from this commodities boom. You could trade futures... stockpile gold coins... even buy a copper mine. Unfortunately, none of these approaches - for obvious reasons - are very practical. They don't make sense for the majority of investors.
But that doesn't mean that we can't profit like the titans of Wall Street. The recent turmoil in credit markets - and corresponding volatility in the stock market -- has handed us an extraordinary profit opportunity for a number of companies
So we're advocating a more direct approach to mineral profits. With such a pure supply-and-demand opportunity, a more pure play on precious metal prices is warranted for the largest gains. Accordingly, we're going straight to the source and recommending buying shares of the mining companies themselves.
Lundin Mining Corp. (NYSE: LMC) is a Canadian mining company with facilities located around the world, which is run by its namesake, the Lundin family. They are easily the most important family in mineral and energy exploration finance around the world.
They amassed a fortune in commodities - valued in excess of $4 billion - when oil cost about $20 a barrel and gold traded for $300 an ounce. By having an innate ability to spot value. In fact, just about everything this family associates with ends up being a massive commercial success.
The Lundin family's flagship mining operation is trading in the $1 to $2 range, which is about 70% off of its October 2007 high, thanks to the recent commodity cool-off. That means that investors who buy now will get this incredible mining operation for less than half of its book value. Even better, our analysts say that the book value should be much higher than it is, which makes the case for investment here even stronger.
Furthermore, LMC has no debt, which gives it an incredible edge over most other industry players. It can fund its growth entirely on the cash it generates from operations - and not have to rely on the credit markets.
Fact is, the credit crunch is far reaching. And tighter lending practices have meant fewer loans to risky mining ventures. That leaves most miners in a pinch - but not LMC.
Lundin Mining is a phenomenal play on base metals, specifically copper, nickel, lead and zinc. Its operation includes six mines around the world, including five key mines in Portugal, Spain, Sweden and Ireland. Here are some highlights of these massive and highly productive mines:
- Zinkgruvan, Sweden: The primary metal produced is zinc, with lead and silver as byproducts. Costs have been reduced by 22% over the last year and new copper production is scheduled to begin in 2010.
- Neves-Corvo, Portugal: It's an underground copper and zinc mine. Last quarter's sales surged 52% over the same quarter a year ago. And it just approved a new program to profitably process mine tailings, which should substantially improve margins. (Mine tailings are the materials left over after processing the ore.)
- Aguablanca, Spain: This nickel and copper mine recently bumped operating efficiency up 46%.
- Galmoy, Ireland: About 100 miles from Dublin, the lead and zinc mine benefits from having a sound infrastructure already in place.
- Aljustrel, Portugal: The lucrative zinc mine is still ramping up capacity, which gives us an opportunity to get in on the ground floor.
What's more, Lundin Mining has a few up-and-coming operations in the pipeline that are showing incredible promise, too.
One is the world class Tenke Fungurume copper/cobalt project in the Democratic Republic of Congo. It's being touted as the largest and richest known copper/cobalt discovery in the world, covering almost 600 square miles of the Katanga Province. This blockbuster mine has an expected life of 40 years. And is projected to be in the lowest quartile of operating costs for copper producers.
The reasons for owning Lundin are numerous, but in spite of its enviable (and growing) inventory of proven reserves, shares can be had for a steep discount. The company is valued at $2 billion, which is only 0.63 times its book value. Even better, the forward price-to-earnings ratio is a measly 5.73, despite the company's mines having a growth rate around 30% to 35% a year.
The market's been noticing Lundin's value as well. In recent days, a takeover bid has emerged that could drive share prices higher if it's approved. However, in light of the number of merger agreements that have gone unfulfilled, there may not be a takeover.
Regardless, of whether it happens or not. These developments should serve to remind you that while the market may not see the value in Lundin, it's competitors do. And so do we.
Investment U Research
Today's Investment U Crib Sheet
If you're looking for investment ideas, the biggest bang for your buck will come from small-capitalization companies. Last week, Louis Basenese showed us that small-cap stocks are the best place to be right now. To get two companies he likes right now, check out Investment U Issue #888, Small Caps: Why It's Time To Think Small.
But small-cap mining companies have another thing going for them. Small mining producers and explorers have a tremendous advantage over their larger peers - it's called leverage (the ability to control large dollar amounts of assets with a comparatively small amount of capital).
You see, large-cap miners are frantically searching for new deposits. These behemoths can choose to either 1) invest their own capital for exploration, or 2) acquire smaller explorers who've already assumed the risks of finding ore bodies themselves. Many are choosing the latter. That's why the investment appeal in smaller-cap mining companies is so great.
There's currently over 4,000 mining companies listed on North American exchanges, but only a handful deserve our investment attention.
If you're looking for an easy way to take advantage of the metals and mining sector, check out the SPDR S&P Metals & Mining ETF (NYSE: XME). It invests 100% in U.S. small-cap stocks. One of the other benefits of buying closed-end ETFs is that you know if you're buying them at a discount or a premium - and XME is currently trading at a 14% discount to its net-asset-value (NAV).