For nearly four decades, curious investors have made their way to the Big Easy for a taste of New Orleans and several helpings of advice and perspective at the New Orleans Investment Conference.
In preparation for my presentations in New Orleans as well as for the Metals & Minerals Investment Conference in San Francisco and the Mines and Money in London in a few weeks, I’ve been pulling together this kind of research that we can all put to use now.
One contrarian idea these days is investing in resources. This is an unloved and underowned area of the market, but there is a case to be made for owning commodities.
Consider the low expectations that analysts have on earnings growth for cyclical industries. BCA Research looked at times when the Institute for Supply Management (ISM) new orders index were more than 60, and calculated the average earnings growth in the following 12 months. The chart shows the gap between past earnings performance and what analysts are anticipating in the next 12 months.
According to BCA, sectors including energy and materials stand out ‘as having overly bearish expectations compared with their historical performance patterns.‘
These analysts are bearish even though the world is experiencing an earth-shaking resurgence in manufacturing. In October, the JP Morgan Global Manufacturing Purchasing Managers’ Index (PMI) grew to an incredible 29-month high, rising to 52.1 in October. A number above 50 indicates expansion in manufacturing, and if manufacturing is expanding, so should the economy.
If you look at the PMIs of individual countries, including the data coming out of the U.S., Europe, Japan, China, Brazil, and Australia, more than 90 percent are above 50.
Historically, when an overwhelming majority of countries see this level of manufacturing expansion, world-wide growth remains elevated for an extended period of time. Since January 2005, there were two previous times when PMIs remained high: From 2005 until the Great Recession in 2008, and from January 2010 through the middle of 2012.
What’s exciting about this revival in global manufacturing is the relationship between growing strength in PMIs and higher returns from certain commodities, including copper, crude oil, as well as energy and materials stocks.
Based on 23 observations from January 1998 to December 2012, there is a high mathematical probability that physical commodities and commodity stocks rise in the three months after the current PMI number rises above its 3-month moving average.
In addition, the Organization for Economic Co-operation and Development (OECD) Composite Leading Indicator has been heading in a positive direction. This leading indicator provides early signals of turning points in business cycles, including economic activity. Historically, metals performance has closely followed this leading indicator, so as developed markets improved, the S&P GSCI Industrial Metals Index increased.
Gold is certainly a contrarian buy these days, but the big story that is affecting the supply of gold is how the physical metal continues to migrate east. According to Paolo Lostritto of National Bank, year-to-date net physical imports by China equate to approximately 50 percent of global mine supply.
This is in addition to the reports from GFMS suggesting that China is the world’s largest gold producer with an estimated 400-plus tonnes annually, or roughly 14 percent of global mine supply.
As Portfolio Manager Ralph Aldis likes to say, the gold going into China won’t be coming back to the market. This journey is a one-way trip for gold.
However, Chinese demand for gold is only one ingredient in the very significant Love Trade. With the increasing gold import restrictions in India, the country’s leading position as the world’s biggest buyer of gold is in jeopardy.
For a firsthand perspective on what is really taking place with the demand for gold and to get a flavour for what’s going on, I’ll be traveling to India later this month. Stay tuned.
Frank Holmes
Contributing Editor, Money Morning
Publisher’s Note: This is an edited version of an article that originally appeared here.
