The new dynamics of the global materials market

09 mai 2024

Bingham Canyon copper mine, largest man-made hole in the world, Utah, USA.

The new dynamics of the global materials market

We recently attended the BMO Global Metals, Mining & Critical Minerals 2024 Conference, the premier global event for the materials sector. Materials make up 8% of the MSCI Global Small Cap Index and 10% of the MSCI EAFE Small Cap Index. Mining conferences are like no other, featuring core shack displays and political representatives from various countries. The atmosphere was notably different this year, particularly with the decline in battery material prices. There was a noticeable shift of interest from car battery to electrical grid infrastructure materials.

Supply and demand at play in commodities prices

Returns in the materials sector generally correlate with the supply-demand dynamics of various commodity prices. Inflation typically indicates an overall demand driver. However, it has not been very impactful, as China, a major commodity buyer, is experiencing modest inflation growth. Commodity supply dynamics are highly influenced by regulatory events, including environmental, social, geopolitical factors, capital availability and project risks. Recently, we have observed events that could signal mid to long-term structural changes.

Copper and aluminum: metals on the move

Copper has been performing well due to both future demand and supply side momentum. Essential to data computing, it has been rebranded as “AI copper.” Additionally, the growth in electricity demand and closure of the world’s largest copper mine are factors pushing prices to new highs.

Aluminum can substitute copper, especially in electrical transmission, as its resistivity is 0.6 times that of copper such that aluminum wire is 66% larger. The prices of both commodities tend to correlate. Currently, the price spread between the two is considered large from a historical perspective, with copper trading at $4.57 and aluminum at $1.17, making aluminum an economically viable substitution.

Our investment in Alumina

Global Alpha is exposed to aluminum through our stake in Alumina (AWC AU). Based in Australia, the company is the largest producer of alumina metal, a key precursor to aluminum. AWC shareholders have recently agreed to accept the all-share acquisition proposal by Alcoa, its long-term operating partner. With a more vertically integrated operation, Alcoa plans to reduce overall costs by 10% within a short two-year period. Aluminum is also widely used in the aerospace sector, which provides another tailwind.

Gold and copper in traditional and emerging markets

Copper is often mined alongside gold. Gold, which had been out of favour since 2011, is seeing renewed interest and positive investor sentiment, driven by purchases from central banks in China and established investor circles, with both buying the bullion at a faster pace than in the past. This trade is a win-win. If China’s economy falters compared to its US counterpart, gold becomes a safe alternative. Conversely, if China’s economy outperforms, the race to distance itself from the US dollar intensifies. Despite China’s cryptocurrency ban, there are rumours that this commodity accumulation is in preparation for a devaluation of the yuan, though time will tell. Other countries, like Turkey and Poland, have also increased their gold reserves for similar geopolitical reasons.

Globally, we produce 3,100 tons of gold annually and it estimated that there are 205,000 tons of gold in circulation – half in jewelry, 25% in investments and 15% held by central banks. In 2023, China’s government bought a record 735 tons. The private sector net imported 1,411 tons, with an impressive 228 tons coming in just January of 2024.

The golden balance of central banks and global stock

For central banks, there is room to grow for China as it ranks fifth with 2,200 tons in its vaults today compared to the US at 8,100 tons. The below-ground stock of gold reserves is currently estimated at around 50,000 tons according to the US Geological Survey.

This equates to a 15-year mine life for the world’s gold demand. As gold deposits become increasingly difficult to locate, this global gold mine life will likely diminish rapidly. In this context, gold could become a strong competitor to digital currencies in the coming years as a safety alternative.

ALS Ltd. and commodity markets

Global Alpha is exposed to gold, copper and other commodities through ALS Ltd. (ALQ.AU). ALS is the market leader in mining assay management, helping companies with their sample testing requirements. With industry-leading margins in precious metals, ALS has achieved the necessary scale in all major global mining hubs, giving it significant competitive advantage. ALS also operates in the environmental and health care sectors, where it benefit from its global reach compared to smaller competitors.

Capitalizing on commodity upswings with Osisko Gold Royalties

We also own Osisko Gold Royalties (OR.CN). The company holds gold and base metal royalties in North America. Royalties are intriguing financial instruments as they are paid in product by miners and are largely unaffected by mining costs, allowing royalty companies to benefit from rising commodity prices. Last year, the company hired a highly reputable management team and simplified its structure by exiting all direct project investments.

Gold and iron ore stability vs. disruption

In the gold market, central banks act as fringe buyers and sellers and are the price setters. Although jewelry accounts for the bulk of market demand, consuming 2,000 tons annually, its growth is relatively muted and stable.

The same concept of stability and fringe actors applies to iron ore. The world consumes two billion tons per year and China-based mills account for 50% of that. Production of 1.1 billion tons is controlled by five companies with fairly stable output. Fringe producers contribute 300 million tons, including high-cost producers in China and Southeast Asia that have benefitted from robust pricing over the years. However, the iron ore price balance is poised for disruption as 200 million tons of low-cost production is expected to enter the market in 2026 from mega projects in Guinea and Australia.

Silver and palladium redefined

Other interesting points from the conference that could orient our research include insights on silver and palladium. It takes five times more palladium to build a hybrid than a regular car. Silver has now surpassed a 50% usage rate in industrial applications, prompting a reevaluation of its classification as a precious metal.

Beyond precious – the future of metals

All of these developments invite us to rethink the boundaries of “precious” in metals and the value of agility and foresight in investing. As markets shift and new technologies demand novel materials, our approach to commodities must also adapt. This not only offers opportunities for astute investors but also challenges us to anticipate changes and position ourselves advantageously for what lies ahead.

Gestion d’actifs Global Alpha Ltée
mai 9th, 2024