Stocks are facing headwinds, but what about other asset classes like commodities? They offer investors a great hedge on inflation, and as plays on real assets, offer welcome diversification, notes Carl Delfeld, editor of Cabot Explorer.
But with commodities, timing is everything. Some smart analysts believe we are at the beginning of a commodity super cycle since stocks have greatly outperformed commodities over the past decade. This conviction is supported by the clean energy revolution that will electrify the grid and demand much more tech and industrial metals such as copper.
It is hard to imagine a clean energy future without a lot of copper. For example, the average electric vehicle (EV) uses about 4X as much copper as the average gas-powered car.
Electric vehicles have passed an inflection point and account for 5% of new-car sales, a tipping point that in other countries has led to 25% adoption within four years. China is at the heart of this ecosystem and in a typical year, consumes about half of global copper production.
Concerns about the possibility of a recession have weighed on the copper price since April, but those worries lack the big-picture view. Given that the U.S., Europe, and other parts of the world are transitioning to green energies, demand for copper should expand.
Copper is a key material used in electric vehicles, solar panels, and other green energy products because its conductivity is second only to silver. However, even though copper prices plunged in July, S&P Global reported that copper demand was skyrocketing while demand couldn’t keep up. Goldman Sachs expects demand for the metal to double by 2035.
Phoenix-based Freeport-McMoRan (FCX) operates seven open-pit copper mines in North America, many of which also produce molybdenum, gold and silver. All but one of its North American copper mines is wholly owned, and Freeport-McMoRan holds 72% of the joint venture on the last one. I like this exposure to gold and silver because it adds another dimension to the company’s asset portfolio through diversification.
Freeport-McMoRan also owns two copper mines in South America and one of the world’s largest copper and gold mines in Indonesia (Grasberg). Every 10 cents of price movement has a sizable impact on the revenue and profitability of a copper and mining giant such as Freeport-McMoRan.
For example, management believes the company currently has earnings before interest, taxation, depreciation, and amortization (EBITDA) sensitivity of $430 million for every $0.10 per pound move in the price of copper. For reference, Freeport’s EBITDA was around $10 billion in 2021, when prices were mostly well above $4 a pound.
Freeport’s current share price presents an opportunity because the stock has pulled back a bit with the price of copper and concern about global growth. Freeport is a well-run company with a return on equity of 27%, return on assets of 12%, and has an ample cash reserve of $9.5 billion.
Freeport is trading near $30 per share, down from March 2022 high of $52 with a valuation of just under 10X earnings. I think we have more upside potential than downside risk and recommend starting to build a position in the stock.