How do you see the current geopolitical environment impacting the metals, mining, and investment industry
Karina Bader: I’d categorize the market right now as volatile. Every week you get different signals, so it’s hard to see beyond the short-term. China’s reopening hasn’t delivered the huge kick to the economy that people were anticipating. There was some pull forward of demand beforehand, which then resulted in inventory buildup. That has resulted in softening commodity prices. We saw the lithium price come right off, but it hasn’t gone back to where it was two years ago and it’s bouncing around the bottom right now. All the other industrial complex metals have dropped off and now you’re starting to see a bit of recession coming into the market, which looks to be dampening the short-term demand.
David Franklyn: The short term is uncertain because of China’s weak recovery. It’s hard to see what’s going to happen, but long-term the position is still very good. I think we’re entering an era of increased geopolitical risk and that’s going to have positives and negatives.
You’ve got to look through the short-term uncertainty, but I think the story around commodities on the medium to long-term is good.
Clyde Russell: If you look at what’s happened to pricing amongst the day- to-day volatility, (often driven by news headlines rather than fundamentals) the trend overall this year has been quite clear. All major commodities are down apart from gold.
While Russia’s invasion of Ukraine is awful, on the commodity front, the impact is largely gone. It was mainly felt in energy commodities but the one thing the oil market is very good at doing, is adapting. Russia is still selling its oil, it’s just who’s buying it has changed. The major beneficiaries of the war in Ukraine are China and India. More so China than anybody else, but India is enjoying cheap crude oil and high margins on their exports of refined fuels.
I find it ironic that for those who drive diesel SUVs, chances are you’re driving it on Russian crude oil, because Australia imports most of its diesel from countries like India and China. It formally comes through Singapore, but that’s just the way the market works.
The current dynamic is really a race between the optimism over China, which has been fading, and the increasing worries and signs of a slowdown in the rest of the world. I’ve lived through several economic cycles and one thing central banks and governments have never been able to do is deliver a successful soft landing. The longer interest rates remain high, the longer inflation remains a problem, the more likely it becomes a severe slowdown. That’s never good news for commodities (other than gold).
Where is the upside in these battery materials other than lithium? Is it uranium, where we’re perhaps underestimating how much base load nuclear is going to go in? We know most of it is currently difficult to estimate.
David Franklyn: You have to look both short-term and long-term. Copper for the short-term is uncertain because now, most demand is from industrial uses, and that is going to slow down. If you look five, 10 years, the outlook for copper is strong. As an investor, we’re cautious now, but the next 12 months is the time to build exposure to copper while prices are down. So, buy good quality companies at good prices.
Nickel and cobalt were the commodities you had to be in two years ago. Demand was going to be very strong; supply was going to be constrained. We’ve seen just with technology changes and government policy in Indonesia, those markets have totally transformed and the outlook for those commodities has come off. You’ve got to have an awareness of what’s happening in the industry.
Graphite is the one battery material where price hasn’t really moved, and I think there’s a couple of reasons for that. One is the economics simply don’t add up. Graphite costs about the same as you can sell it for. At the moment, supply seems to exceed demand, and you’ve got the synthetic side to it as well, which has an effect.
The other thing is most new projects are in places you don’t really want to be — Mozambique, Madagascar, and Tanzania. We’re now focused on commodities that are
protected from an economic slowdown in the short-term. I think things like uranium will be part of the solution.
I don’t think it is the solution, but the uranium price looks firm.
Rare earths also look like they are recovering, and I think lithium, after taking a bit of a pounding over the last six months, will probably have a good remainder of 2023. But to me, in the short-term, you’ve got to react rather than predict.
Karina Bader: At Acorn, we try to look from the bottom-up and pick quality assets that we think can ride through any cycle. However, you must always have an eye on what is happening globally. We try to have diversity in the stages of development of investments and where they are in the cycle. Those companies that are looking to raise capital are going to be the ones that are hit hardest, which then comes back to the point, as the longer-term investor, that may be an opportunity to get in at a very good price, that in two years, you’ll be rewarded for.
There are some equity factors at play for companies that have a single asset, whether it’s in a difficult jurisdiction or not. We discussed earlier about how long it’s taking to get projects permitted, and that it’s getting longer. Consequently, the barrier to entry of new supply just keeps growing, maybe because of lack of access to capital. In the short-term, you’d argue that developers are going to struggle to raise capital to progress their projects, which is just going to feed into the longer-term supply shortage.
Then there’s the risk factors around permitting and how long that takes, that leads to capital needs. The longer it takes to get permitted, the more working capital is required. Inflation is clearly going to result in higher CapEx numbers than two years ago. And then you’ve got the risk around jurisdiction and commodity prices. It’s a tough area to deliver returns as a company. There are a lot of barriers to those entrie and investors have to think about those when they’re looking at their investments.
Clyde Russell: If I was looking at picking commodity winners, which is not something I think you really should do, but I would look at where is the hardest to get new supply, and where you would be least likely to be engineered out? Three, four, five years ago, it was cobalt, people said
‘Oh, we’re going to be short cobalt. All the cobalt’s in Congo, it’s a horrible place to go.’ But what happened is it was largely engineered out of batteries and the demand picture altered quite dramatically. The same with nickel.
You had a major change in how it was produced and suddenly no one talks about nickel shortages, you’ve got to be wary of those kinds of things.
So, which commodities can’t be engineered out and what are the barriers to producing more? You always come back to copper, along with aluminium, it’s essential in most of the things that are going to drive the energy transition. Aluminium has high barriers to entry. It’s expensive and difficult to build aluminium smelters and comes with a range of ESG issues. Is the aluminium market going to split between green or coal-fired dirty aluminium?
Zinc is also interesting. It seems like a commodity that no one’s putting a lot of exploration effort or development into, but demand should rise quite strongly as the energy transition gathers steam. I also think you have to look at the commodities that are likely to lose out and that would be cobalt, nickel, and manganese. Those that are small markets are quite difficult.
Tin is positive because again, most tin is used in solder, but it’s going to start being used in a range of other things. So, there might be more tin demand coming, but the point is these things are not happening right now. These are five-year stories, so you have to take a longer-term view.
Uranium is interesting. The one thing we have a good handle on is how many nuclear plants are under construction and where they are. They take a very long time to deliver. The western world is moving away from nuclear power, not going towards it. So nuclear demand is almost 90% China and they’re not really going to be getting uranium from the west. They’re going to take it from their friends in Central Asia.
You started to talk about the supply shortages, especially in these key materials and the length of time from permitting to finished product. What does this mean
for the energy transition overall and what needs to be done to accelerate this?
Karina Bader: You’ve already seen federal governments in the western world try from a policy point of view to provide signals that they want these commodities to be developed. The Infrastructure Act (IRA) in the US and the UK Critical Minerals Act, and Australia is clearly trying to piggyback along both of those saying, ‘Well, we are trade partners with you guys and we clearly have all of those commodities.’
The challenge, particularly for most critical minerals across the industrial complex (except copper) is there are no banks that will fund these projects. So, you have to come back to the equity markets to raise your money. How do you progress a project as a single asset company when you’re coming back to the equity markets for your only funding source?
So, governments can put all the signals up that they want these things to develop. The US government has provided cheques to Lynas and Syrah. They’re trying their best to pull forward that production. But for smaller companies who are looking to get from discovery to production, the banks say, ‘We want you to have a customer before we give you any debt.’ But then the customers say, ‘You need to give us product before we’ll sign an offtake so that you can go to the bank.’ It’s a catch 22.
One of the other key risks for that complex is access to capital. It’s a challenge for us as investors because you always know companies need more money, but how much, how frequently, and who else is going to play in that space?
David Franklyn: The good news is the major western economies and even China are all on board with energy transition. You’ve got a global commitment. If you look at how we’ve moved over the last two or three years, we are falling behind already, and we are not going to get there because the supply of commodities is not keeping track with demand. I see two factors here. One is technology and the second is raising capital in different ways.
On the technology side, we’ve talked about what’s happened in nickel and cobalt, and I think technology innovation has been a big part of that and must continue. If you look at things like carbon capture, development of hydrogen in the lithium space and direct lithium extraction, technologies that can get resources to the market quicker or take carbon out of circulation are key.
On the funding side, I think governments have to do more, but I think end users also need to. You’re starting to see that with the auto manufacturers aggressively chasing offtakes but also putting equity in. We’ve got to do it differently if we’re going to keep on track for the energy transition.
Clyde Russell: Human beings are better at dealing with consequences than solving problems. If you have the consequence of climate change, we’re probably better at dealing with it once it happens rather than trying to prevent it. Ultimately, if we don’t have enough commodities to progress the energy transition at the pace that people want it to go, then it just slows down, and we have to deal with the consequences of a warming planet.
You will get a price signal. If there’s not enough copper or lithium, the prices will explode, but that creates a problem because then everything becomes more expensive. Supply takes a long time to come, so if you have expensive commodities for an extended period, that’s fabulous for the people who are in production. But ultimately, it’s not conducive to building demand because people will not pay for it. They won’t buy an EV, they’ll just keep driving their petrol or diesel car.
EVs are still considered a premium and for first time car buyers, they will only be an option when prices finally start going down. When will that happen? How do you
see the next five years in terms of consumer behavior changing?
David Franklyn: The first point to note is Australia is woeful as far as our energy policy is concerned and the lack of subsidies in this space. I think you can be despondent if you look at the EV penetration in Australia and translate that to what’s happening in the rest of the world. Most western economies are moving very strongly.
You’re right that one of the big hurdles is the price of EVs relative to ICE vehicles. They’re not quite there yet and the rise in battery material prices over the last year hasn’t helped.
Recently we’ve seen BYD come into Australia with cheaper EVs. I think that’ll make an impact and as technology improves and volumes increase, prices will come down.
Within the next couple of years, there’ll be a greater parity between the two, and you’ll see a pickup. That is what’s happening internationally where there’s more support.
Karina Bader: Australia is 20 years behind the pack, but I do feel that by 2025, you will start to see those prices become more on par and we’ll see a shift in behaviour. For taxi drivers, there are unlisted companies like Splend who provide EV cars to taxi drivers, and that is a way they can buy EVs over a longer-term, so that upfront capital is not so inhibitive. That’s in place today.
The other section of that is the ability for EVs to become batteries for houses and create smoothing of the grid from this solar top that we’ve gotten. The energy market says it’s overrunning during the day, but at night when the actual demand kicks in, there’s no supply. Governments will start to understand this in due course and perhaps see that these cars can provide smoothing into the electricity grid; they have a dual purpose.
Clyde Russell: On the EVs, in Europe, you can buy an electric Volkswagen Golf for the same price as the ICE Golf, and that’s without any subsidies in many countries. We know the subsidies work in driving down the price as you get economies of scale. That can happen in Australia, but it just needs the right kind of incentives.
How do you see hydrogen playing up in the industrial sector?
Karina Bader: I feel that hydrogen is part of a longer debate. Looking at the light utility vehicles on mine sites, I’m hearing Toyotas are being converted to EVs. In terms of the big haul trucks, there needs a bigger solution, most likely in hydrogen. For underground companies, they’re anticipating that they might have a commercial electric truck that they can utilize underground, and that will really save on cost because there’s no emissions. The problem is, there’s nothing commercially available today that can do the mileage and the 12-hour shift that they need.
I still feel that the petroleum companies may jump into the hydrogen space quickly. They have the benefit of profit right now and perhaps they need to think about how they deploy that, but I still feel like that’s more of an end of the decade story.
Clyde Russell: Australia’s LNG producers are very much seeing hydrogen as part of their future. They believe they have the know-how, the skills, the engineering ability to deliver these kinds of project. Hydrogen has a bit of a chicken and an egg situation. Hydrogen is difficult to liquefy and transport. You lose quite a lot of energy in it. So, it would be a much higher cost energy source for some like in Japan.
How did the LNG industry develop? Effectively, the Japanese tipped an equity, and they gave long-term purchase agreements and that allowed companies here to spend billions of dollars building up the industry. You’d need something similar in hydrogen. Will it look like transporting ammonia?
You’ve said that there won’t be too much demand for uranium in the future, but the power reactor will play a vital role in power supply as a base supply that can be provided consistently. We don’t know when wind and solar will peak. You need the base load to maintain those peak demands. Looking at the energy transition, how we can get there without nuclear power?
Clyde Russell: The answer to that is easy. A rumour sold by the nuclear industry, is that you need base load. Well, what are wind and solar? They’re variable. Solar obviously gardens when the sun shines and wind when wind blows. If you are moving mainly to a variable source of generation, you have variable backup. You don’t need base load, you need something variable to come in when your wind and solar are out. That’s not necessarily nuclear.
It’s utility scale batteries, pumped hydro, and gas peakers, if you want to rely on fossil fuel. Australia basically runs on gas peakers, but they run only 3% of the year. Nuclear power plants are the most expensive source of energy on a dollar per kilowatt hour basis. It’s more expensive than anything else on the construction scale. It doesn’t make sense to me.
For countries that already have a nuclear industry, they’ve already got the skills and experience to do it. For countries that don’t have a nuclear industry, like Australia, it’s
beyond lunacy to think about it. You could build all the other solutions at a fraction of the price and get 100% reliability.
Small modular reactors are like carbon capture and storage. It exists largely in press, but not in reality.
There is money going into it, but they haven’t actually built one. There’s not one small modular reactor working. Who really wants a small nuclear plant sitting in their neighborhood? It’s just going to be an extremely hard sell to the public.
Nuclear power is extremely safe, but the idea that you’re going to be able to sell nuclear power to the public is gone.
Karina Bader: Even if you started building your reactor today, it’s not going to be delivering power into the grid until a decade from now. Because they’re not started today, they’re not going to be a solution for 2030, and if we are serious about achieving a 2030 target, then we must come up with other solutions that we can deploy between now and then. That really is the storage piece.
We haven’t talked about other storage or battery technologies like vanadium redox batteries or zinc bromine batteries. They’re still not really commercial. They exist and have been deployed in jurisdictions, I believe in China and on a small scale and they seem to be ramping up. It’d be great if they could get to scale. Potentially they can do that by 2030.
To wrap things up, what do you think the overarching commodity theme is for the coming year?
David Franklyn: It’s one of two key themes. The first is geopolitical risks. Who do you want to be buying your commodities from and who
do you want to be selling them to is increasingly important and people will sacrifice cost to have that security.
The other side is the recognition that there’s going to be volatility associated with that risk. And you’re seeing out of even the social unrest in places like Chile, Peru, and Ecuador, which are big producers of commodities like copper.
Karina Bader: I think EVs are the solution to the storage story. You can pay A$20,000 for a Tesla power wall, which will give you three hours of battery, but you can then plug your car in, which will give you three days of battery power. A car becomes part of your utility, but we have to have regulations in Australia that allow you to charge your house from your car. At the moment, we’re not allowed to do that.
Looking into geopolitical strategy is key. You’ve seen it quite clearly with the US and the EU. Will it survive a change of government? Hard to know. If there isn’t a change of government, you’d imagine these policies continue to the end of the decade.
Clyde Russell: You have to assume that the energy transition is real and here to stay. If the energy transition is unstoppable, then it’s just how best to position for it.
The key thing is that you really need to get the policy frameworks right, and that’s what’s been lagging. I think governments are starting to catch up, particularly in the western world. They’ve started to realize that they need to change the policies to incentivize the things that they want to happen. Using your car as a battery is the classic example, but you need the cooperation of utilities, and the cooperation of consumers.
If I own an EV, why would I allow my utility to drain the battery? I’ve got to be incentivized. There’s got to be money in it for me. So, get the policy settings right and basically you create a good signal and things tend to work. If you look at countries that have done it well, like Norway, one of the world’s largest oil producers, their new car sales are now 80%, 90% EVs. They did that on policy settings, not subsidies. Get the policy and everything else will come.
Panellists:
Karina Bader, Research Analyst, Acorn Capital
David Franklyn, Head of Funds Management, Argonaut
Clyde Russell, Asia Commodities and Energy Columnist, Thomson Reuters
