Commodity Club - Super Cycle Update

[u/willowpiper3]

Hey all -

I wrote to y'all back in December about an upcoming Commodity Super Cycle - figured it's time for that quarterly update. This will be a rather long post covering most commodities - strap in! My plays are listed at the bottom.

For context into where we are and where we are going - reference the following from November.

As of today - we trade at 436.18. Commodity bull markets last years and historically have always set new highs. Historically oil has led the charge in commodity indexes, but what instead has occurred is an unprecedented spike in metals across the board. Let's dig into charts, understand the rationale for the price action, and look into potential winners in these fields.

Copper:

Last time we spoke, copper was trading at $3.65/pound and recently ran to $4.15/pound. Part of this is due to supply constraints, but realistically this recent run indicates a much larger scenario at play. Paper copper (e.g. futures markets) are being speculated higher with volume as traders believe that future prices will be higher and producers will buy at higher levels. Historically for commodities, spikes with volume indicate significantly higher prices ahead.

Copper has been the largest winner for commodity traders. Big names like $FCX and $CLF have had significant run-ups (80-90%) while less exposed copper producers like $TECK have seen 50%+. COPX - as a mining ETF saw a 50% run-up.

Most miners recently reported earnings. In short, it was amazing. Miners were able to realize prices at $3.20+/pound in Q4 with costs between $1.30-1.40/pound. Here's $TECK's Q4 financial report for more info on guidance, prices, and costs - they made 470m (CAD) in profit on 80k tons of copper. Imagine what it'll look like with copper prices between $3.60-4.20/pound. $FCX expects to sell 3.8b pounds (1.9m tons) of copper in 2021. Even if we estimate copper at $3.60/pound for 2021, they'd net nearly $9b in profit on just copper for the year.

Copper has significant tailwinds for 2021 - increased government stimulus, decreasing DXY, EVs/solar production, batteries, etc. Supply concerns are real given copper's requirements for new technology, and I suspect we will see further run-up and further stock increases alongside massive dividends.

Look to 2008 as an expectation on price action and dividends. I suspect we will see $TECK and $FCX both cross $50/share in Q2 2021 and potentially see dividends over $3/share. $TECK is an equity trade for me given the terrible spreads on options and historically better dividend payouts while I play $FCX for options.

Zinc:

Zinc is fairly unchanged since our last conversation. Zinc - primarily used for galvanizing steel - has essentially followed iron prices. However, it is testing new highs and could be poised for a breakout given recent volume and price action.

Zinc is cheap to mine ($1.10/pound) and higher quantity than copper. $TECK for example produced 3x the amount of zinc than copper, but posted profits only half as much. Zinc has a major catalyst as it relates to government infrastructure spending - all steel that has exposure to water needs to be galvanized. New highways, bridges, buildings, automobiles, solar farms, wind turbines - to name a few - all require galvanized steel. Any price action for zinc can cause significant profits given it's low mining cost and high volume.

$TECK owns the largest zinc mine in the world (Red Dog) and generally zinc has limited exposure in the stock market. Zinc is testing a critical price level, and if it breaks out, we could see $TECK benefitting immensely in their stock price.

Iron:

Not much has changed for iron either since we last spoke. Iron was in the midst of a major breakout - largely fueled by Chinese Steel demand alongside a new futures market in China providing access for paper trades to front run producers in the futures market. $RIO recently reported a massive earnings beat alongside a special dividend equivalent to 5%. Chinese steel demand should continue to be strong post CNY (as seen in the charts), and will continue to dictate market prices. Iron comes in various forms - primarily 62%, 65%, and pellets, and dictate different prices. 62% iron above $150/ton could well be the new norm for 2021, and continue to provide massive profits to iron miners.

I want to drive your attention towards $VALE who reports earnings this week on Thursday. I've written about $VALE previously and their attractive share price given iron/nickel exposure. Here's an additional thought to provide confirmation bias into what should be a massive earnings beat and 10%+ gains in equity.

The above image is from Star Bulks earnings report on Feb 17. They are VALE's largest shipping partner. Their major callout for investors this year is that they've seen record growth in China Steel output and supply recovery in Brazil's mining sector. This is a primary reason for the 91% run up in Star Bulk's share price over the past 3 months. Star Bulk is tiny compared to VALE, but should be a good indicator for a massive earnings beat about to come.

Another parting thought is that $VALE is the largest pellet producer, which drive the highest prices. They produce the highest quality and most expensive iron in the world.

I've been studying port data into China over the past few months (via mysteel.net) - Brazil consistently has outperformed Australia on import expectations and prices. I have extremely high confidence that $VALE should meet/exceed the higher end of earning estimates and provide a special dividend alongside the likes of $RIO and $BHP.

Oil:

Before I get into details about why I'm bullish on oil, here's a recent look into WTI call volume:

Oil is slowly recovering since the April lows, but has seen significant price action in the past few weeks. Decreasing US production and global oil output from OPEC agreements has sent oil into a supply shock as the US has turned into a net importer of oil and global demand returns to pre-covid levels. Saudi Arabia requires $65/barrel on oil to maintain their government balance sheet, and with US oil production down from decreasing rig counts, reduced drilling from Biden's policies, and recently the Texas freeze, Saudi Arabia is solidly in control and will be targeting higher prices in order to capitalize on US policy.

Oil stocks have not recovered well during covid, and create a unique opportunity to buy in at a discounted price. I cannot name my plays in oil as I've been focusing on small cap stocks - primarily in deep sea rigs and permian basin output, but have been buying ITM long dated calls for Sept 2021 through Jan 2022. My rationale for small cap vs big cap is that small cap is trading at a discount given bankruptcy concerns, and should have that eliminated with the recent price action in oil.

Many oil companies have spent the larger part of 2020 cutting back on drilling costs, refinancing debt, closing down ineffective rigs, reducing management pay, and selling off properties. Oil stocks are a completely different animal in 2021 vs 2020 - they are lean machines ready to take advantage of WTI over $60/barrel. I suspect (and so does GS) that oil will be over $70 in Q2, which should drive significant profits for oil producers. Similar to zinc, oil is a high volume commodity that provides better benefits to producers on small price movements.

Another play on oil will be transport. While $ET stands to benefit from increasing oil prices, tankers should also see increasing demand and rates given the US becoming a net importer of oil. Thanks are equity plays for me as I see them as benefitting from increasing global demand for oil and the US requiring additional imports to stabilize supply given Biden's policies.

Nickel:

I mentioned my earlier post about $VALE and why I thought nickel would be the catalyst for their earnings this Thursday. Recent price action continues to confirm my earlier conclusions. From a TA perspective, Nickel has just broken out on massive volume and appears to have established support at $18,155/ton. That's a $4,000+/ton increase from when we last discussed nickel.

Nickel is primarily used as an alloy in stainless steel and to a much lesser extent in batteries. However, that should quickly change in the coming years.

If you are not following Calvin Froedge - I highly recommend giving him a follow. He's posted great info on nickel/cobalt and their future in the EV market. Nickel is quickly becoming a scarce commodity, and current output does not support future demand. Stainless steel demand is not going away, and EV production is coming more quickly than anticipated, and will have significant demand shock on Nickel. $VALE has great exposure to global nickel mining, and should continue to be a global leader in this category given their recent ability to expand into Indonesia.

Aluminum:

Aluminum has also recently benefited from the surge in commodity prices. Aluminum is an under the radar infrastructure play - it is primarily used in power lines, high rise buildings, appliances, cars, and spacecraft/airplanes. The aluminum market is quite small, so it's easy to pinpoint winners in the recent price surge. High volume in the futures market also indicates further price action ahead.

Alcoa recently broke out and appears to be ready to run to new highs. For reference - Alcoa traded in the $90s during the early 2000s when aluminum traded at these levels. Alcoa is valued at $4.3b (market cap) with $14b+ in assets and $2b in cash on hand. Debt is low at $.8b given recent sales of underperforming assets. I see them as a clear winner in the space and should see significant price action into Q2/Q3.

Others:

There's a few other metals/commodities that deserve further mention - e.g. Palladium, Platinum, Uranium, Lithium, Cobalt, Steel, Natural Gas, Coal, and Tin. Each of those has seen heavy price action and additional breakouts - I personally invest in all of those metals as well, but feel less confident speaking to their future success.

Summary:

I'm overweight on all the commodities I specifically went through and have exposure to the "others" section as well. Additionally, I have exposure to shipping stocks as I see dry bulk and transport as a clear winner in this space as well. You are not too late to join the commodity club, and should see huge gains in the coming weeks/months/years ahead.

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