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Though the global economy continues to be plagued by the demand shock from COVID-19, the rebound has been significant, with some commodities reaching all-time highs during the last quarter or at least, in most cases, trading at or near levels seen prior to the onslaught of the pandemic.
In addition, and despite lingering global trade tensions, the irrepressible forces of globalization continue to reveal themselves in the relationship between robust Chinese economic activity and demand, and associated pricing for such commodities as iron ore, soybeans and crude oil.
Nevertheless, over the third quarter, it also became ever more clear that renewable and alternative energy, as well as materials and services facilitating the transition towards a more sustainable resource economy, remained just as vital to the underpinnings of global economic activity as the commodities themselves. These “transition resources” benefited not only from critical sustainability imperatives, but also from definitively articulated policies regarding carbon net neutral targets and pandemic-related stimulus programs with clear orientations to the green economy.
The strength of the “transition resources” market was, perhaps, no more evident than from the performance of several of our top holdings over the last quarter. Our three largest contributors were all from the renewable energy space and included Sunrun Inc., SolarEdge Technologies, Inc. and Hannon Armstrong Sustainable Infrastructure Capital—all companies which we have owned for the last several years and have written about before.
Indeed, because the energy transition has accelerated not decelerated, we have also continued to grow our exposure by establishing three new related positions: Neste Oyj, a global leader in renewable diesel; Equinor ASA, formerly the Norwegian oil and gas company known as Statoil which is transforming itself into the leading offshore wind operator and the developer of the world’s largest offshore wind farm; and Star Peak Energy Transition Corp., a special purpose acquisition company focused on energy transition and sustainability.
We believe all of these companies provide solid evidence of not only the inexorable move toward sustainable energy sourcing, but also the inevitable transformation of “alternative” energy resources into mainstream energy resources.
While our convictions remain strong long-term for base/industrial metals (as given by our still +15% exposure there), the attention this past quarter in the metals space has mostly revolved around gold, where an abundance of converging factors continued to drive up prices. The COVID-19 pandemic has been a deflationary shock to the economy that has prompted massive global stimulus efforts, historic declines in both nominal and real interest rates, and U.S. dollar weakness. This, combined with social unrest and geopolitical uncertainty, has aided gold’s move to an all-time high of $2,075 an ounce in early August. Though recently consolidating gains in the $1,850 - $2,000 range, for now, the macroeconomic environment appears supportive of a longer-term positive trend in gold prices.
Like gold, gold mining stocks advanced as well, as strong cash flows enabled many companies to increase returns to shareholders through dividends and stock buybacks. As we have pointed out for quite a while now, these gains should be attributed to more than just higher gold prices. Miners have undergone years of operational and management restructurings, focusing relentlessly on cost rationalization and prudent capital allocation, which has ultimately resulted in higher returns and strong free cash flow. Balance sheets have been repaired and strengthened providing opportunities for companies to return cash to shareholders and, in particular, during this rising gold price environment. Encouragingly, every gold miner in our portfolio has increased its dividend distributions over the last several years, including Kinross Gold, which recently reinstated a dividend that was originally discontinued in 2013.
In line with our positioning over the last two quarters, our gold exposure has remained near the highest it has been, historically. However, we diversified our exposure within the sector by adding a sixth name, B2Gold. B2Gold is a mid-tier producer with mines in Mali, Namibia and Philippines and projects that should allow them to maintain or grow production organically.
In addition, they have an excellent management team with a track record of developing mines in-house and being able to navigate geopolitical risk.
The traditional energy sector (namely, oil and gas) continues to suffer from pandemic-related demand destruction, which appears to also be overwhelming a very rational supply response taken by most oil producers around the globe. Consequently, two of our top three detractors on the quarter were all companies involved in the oil and gas industry, including oil refiner Valero Energy, and integrated oil producer Chevron. Kirby, while primarily a barge company, also has exposure to the hydraulic fracturing industry via its diesel engine segment. Promisingly, Kirby is also the largest transporter of ammonia in the U.S. and ammonia is being viewed as the form in which hydrogen as a green fuel can be broadly and efficiently distributed.
As we have in the past, we continue to focus primarily on oil and gas exploration and production companies (E&Ps) in top tier locations (i.e. good geology), with consistent leading operational and safety track records and strong balance sheets. That being said, we did recently add to our oil and gas equipment and services exposure with a small position in Liberty Oilfield Services, who is a top-tier pressure pumper with experience in making successful acquisitions, including, several weeks ago, the announced purchase of Schlumberger’s North American pressure pumping business.
In general and broadly speaking, we expect to see M&A activity like this continue in the traditional energy space, which should be a positive for the industry overall as the results of these deals are often to the benefit of investors as companies seek to unlock operational and financial synergies and return capital to shareholders.
Grains did well during the quarter, led by a combination of more soybean purchases by the Chinese under Phase One of the U.S./China trade deal as well as—sadly and unfortunately—millions of acres of crop damage in the Midwestern U.S. from a spat of violent, widespread windstorms there (most commonly referred to as a “derecho”). Anticipating at least decent fall conditions for input applications, we increased our fertilizer exposure. In August, we added fertilizer and agricultural chemicals company FMC to the portfolio as a geographically diverse pure play on crop protection chemicals, with, we believe, upside given its expanding share in a growing market.
While the future remains opaque to a degree, there are, now, a lot of policies in place for the U.S. Federal Reserve to do everything it can to ensure that economic growth continues. To that end, we believe that we will no longer see any type of preventative measures aimed at stopping inflation as we have in the past but, rather, a tolerance of higher inflation at the behest of high nominal growth.
Practically speaking, we believe that any aim to support higher growth over the long-term – and, consequently, any inflation that should arise from such an approach – should only stand to benefit the diverse resource companies, traditional and transitional, in which we invest.
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