Here’s a headline that should send shivers down the collective spine of the Aussie resources industry:
‘Goldman Sees at Least 15% Losses for Gold, Iron Ore‘
So says Bloomberg, reporting on the Goldman Sachs commodity outlook for 2014. It takes a brave investor to bet against Goldman Sachs.
For resource companies, a bearish commodities report from Goldman Sachs is like bumping into the Grim Reaper in a dark alley.
So, what does this mean for commodities and commodity stocks next year? It may surprise. It means one word: opportunity. But it won’t be for everyone…
There’s an old saying that investors shouldn’t bet against central banks because they can last longer in the market than you.
Those investors who tried to short sell the market over the past few years have learned that lesson to their cost. Just when it seemed as though the market was about to collapse, the central bank cavalry came to the rescue.
We expect that to continue for a long time to come as they try to manipulate stock prices gradually higher.
So if you shouldn’t bet against central banks, the same goes for betting against Goldman Sachs. In short, if you think you’ve got a lot of money to bet on the market, just know that Goldman Sachs has way more…way more.
The trick is not to bet against them but rather to anticipate their next move.
According to the report in Bloomberg, Goldman Sachs is bearish on a whole bunch of commodities: gold, iron ore, copper and corn.
Of most interest, Goldman sees gold falling to US$1,050 – about US$200 below today’s price. And it figures iron ore will fall to US$108 per tonne next year, from around US$135 today.
The natural reaction to this will be for investors to sell commodity stocks.
It’s almost certain that will happen. You can bet that Goldman Sachs will help anyone who wants to sell.
But while it may be the natural reaction, that doesn’t necessarily make it the right reaction. What do we mean by that?
Well, as we’ve explained before, a lower commodity price isn’t always bad news for commodities stocks. For a producer it naturally depends; they need to cut fixed and variable production costs in order to maintain a profit margin on the lower priced commodity.
Another reason is that many resources companies forward sell their product or hedge their selling price. Locking in a forward rate contract means the producer locks in a price for the commodity today even though they may not deliver the commodity for another 12 months.
In that case a short-term price fall doesn’t matter so much.
This is what we mean when we say it will create an opportunity…
Let’s be blunt about this.
Unless you think all building will stop, there will still be demand for iron ore.
Unless you think the electronics industry will grind to a halt, there will still be demand for copper.
Unless you think no one will ever again want to wear jewellery, there will still be demand for gold.
And unless you think the entire population of the world will starve to death, there will still be demand for corn.
In other words, these commodities don’t appear from nowhere. They require exploration, extraction, and production into finished goods. There’s only so far an industry can go by relying on scrap material. That means companies will still need to find a resource and dig the stuff from the ground.
Those companies are obviously resource plays. Providing companies can continue to produce these goods with a decent profit margin, they’re likely to still attract investor interest.
But you shouldn’t think it’s just profitable producers that will do well. There’s one other thing to remember. Regardless of the underlying commodity price, if an explorer stumbles across a huge potential resource, the share price will still shoot higher regardless of the overall market.
This is why we see the Goldman Sachs’ commodity report as an opportunity rather than a threat.
We’ve recommended very few resource stocks over the past 18 months. The simple reason was our research and analysis suggested there were better opportunities elsewhere in terms of risk and reward.
That’s why we focused most of our time on dividend paying stocks and technology stocks. But after a terrible two years for the resource sector we recently added resource stocks back to our investing arsenal.
As we said at the top, this won’t be for everyone. Even though resource stocks have taken a pounding over the past two years, there’s still a chance these stocks could fall further.
That’s where speculators have a chance to start building an exposure to this sector as other investors finally give up after years of pain.
Giving up on resource stocks now is a mistake. By the same token, it’s a mistake to think you can invest in any old resource stock and do well. It’s a buyer’s market right now, but you’ve got to be selective with the stocks you buy.
Cheers,
Kris+
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