I generally look at Growth investments in one of two ways: either steady compounders or huge reward-to-risk, asymmetric growth opportunities. The steady compounders are the companies that can consistently post growth year after year in a secular manner – secular meaning a long-term story not affected by short-term cycles. Whereas the high growth opportunities tend to be one-off events that should be sold after it plays out.
Church & Dwight has been a long time, core holding of our portfolios. This is the epitome of a steady compounder.
Church & Dwight – 20 years, monthly
Keep in mind that past performance is not an indication of future results. Just because the stock has climbed so smoothly in the past obviously doesn’t mean it is guaranteed to do so moving forward. But as long as the company continues to execute the business plan as they have in the past, I expect the company to remain a secular growth story.
One of the best areas to find the asymmetric growth opportunities is in the commodities arena. Commodity cycles are self-correcting: high prices lead to an increase in production/supply which leads to lower prices and eventually a drop-off in production/supply, which leads to higher prices… and so on.
There are generally two ways to invest in commodities. The first, and simpler way, is to see that the price of a specific commodity is “low” based on your analysis so you simply buy the commodity itself. The second way is to invest in the stock of companies that deal with the commodity (usually producers of it). This adds a few layers of complexity because you not only need to get the analysis of the commodity price itself right, but then also factor in all of the variables on the company (i.e. their financials, their strategy, production costs, future production estimates, etc.). However, these stocks tend to act as a derivative of the actual commodity price so, for this extra work, you tend to receive an even larger potential reward. It’s like a high beta, leveraged play on the commodity price which makes these companies highly cyclical and highly asymmetric.
It all has to do with their cost of production and margins. If margins are low, a small drop in the commodity price could put them at an operational loss which means they’ll eventually go bust if prices remain low – 100% loss on investment. But if prices rise 50%, their margins and profits could quintuple so the stock could rise upwards of 500%! Being that it’s a cyclical business, one of the most important variables to assess is the cost of production. Commodities go through long periods of over-supply so prices tend to grind lower for years on end until enough companies shut down and supply is reduced enough to cause a shortage and a huge price spike. The lowest cost producer has the longest staying power.
2 New Investments
Uranium
One of the most skewed asymmetric setups I’m seeing right now is the uranium market. Uranium is primarily used for electricity generation by nuclear power plants. Despite the issues over the years, uranium still remains the cleanest and most effective source of power, and we’re continually figuring out how to make the reactors safer to hopefully avoid future disasters. It may even surprise you to know that nuclear power generates over 10% of the world’s electricity and 20% of electricity here in the US. Asia in particular is planning to utilize nuclear as a key source of clean power moving forward with India recently pledging to increase its nuclear capacity by 10 times! Globally, there are 75 new reactors under construction, over 150 in the planning stages and almost 300 being proposed. It can take over 10 years from start to finish to plan and construct a nuclear power plant so we’re able to see how much demand will be coming online all the way out to 2030.
Following the Fukushima disaster in 2011, the market has been oversupplied as Japan shutdown all reactors and slowly unloaded its inventory, leading to a 7 year bear market in prices.
Uranium prices – 20 years
On the supply side of the equation, producers have recently announced major cutbacks since prices are so low (below production costs). I don’t think I’ve ever seen such a dramatic supply/demand imbalance in a commodity before and I fully expect the price of uranium to rise anywhere from 3x to 5x today’s price over the next few years as supply will not be able to match demand.
This is also a cycle that can last much longer than other commodities because the typical drop-off in demand most likely won’t occur for some time. The actual uranium used to run a nuclear reactor is only around 2% of the total cost to build and run a plant. So after 10 years of construction and paying 98% of the cost, it doesn’t matter if uranium costs $40/lb or $140/lb, these plants are going to make sure they’re able to run and will end up paying whatever price the market demands.
Cameco (CCJ) is the largest private producer in the world. The other producers that haven’t gone bust over the past few years are relatively small and most hold a lot of debt so I view Cameco as the safest producer for uranium exposure. It’s hard to predict exactly when prices will start to turn so I’ve been selling put options under Cameco as a potential way to buy the stock on a dip this year but none have filled yet.
However, I view the price of the commodity itself low enough right now to just buy and wait it out. I’ve been buying shares of Uranium Participation Corp (URPTF). While it looks like an operational company, it’s not. This is a company that was setup by two uranium producers as a way to hold inventory – it’s simply a holding company that raises money to buy uranium by issuing shares so the NAV reflects the price of uranium. One other point to mention is that it’s a Canadian company so changes in the Canadian dollar vs the US dollar will also add either a headwind or tailwind to return.
Precious Metals
I believe we’re in the early stages of another commodity bull market similar to where things were in 2000. India today is where China was 20 years ago. This means we’re likely to see higher demand for just about everything over the next decade and correspondingly commodities are becoming a growing portion of my client’s portfolios.
Similar to uranium, the precious metals have been in a mini bear market since 2011. I like just about all of the precious metals here for various reasons (some monetary, some related to industrial demand for electric components). Silver in particular looks cheap relative to its historical price vs gold and is starting to move in a very similar manner to how it did in the early 2000s. I believe there’s a strong probability we’re at the early stages of another multi-year bull market.
I recently purchased shares of Pan American Silver (PAAS) again (it was a past holding). They’re one of the best miners in the world. Most companies in the commodities arena invest too aggressively during the good times and then get burned during the trough of the cycle leading them to issue a ton of debt and equity at the worst time just to survive. PAAS is not one of these companies. They have perhaps the cleanest balance sheet in the industry (no debt), operate at a profit each year, continue to lower their cost of production (now down under $10/oz. of silver) and boost the dividend, and Chairman of the Board is the legendary Ross Beaty (who also founded the company). This is by far the safest silver miner. It may not produce the type of enormous, asymmetric return a company on the verge of bankruptcy would, but the returns will be very strong if silver prices rise in the years ahead and I’ll be able to sleep at night knowing there’s virtually no risk of bankruptcy. When a miner already gives me derivative exposure to the commodity, there’s no need to be greedy and overly aggressive. Just play it smart and buy at the right time in the cycle.
You can see the decade long boom-bust cycle play out in the charts of both Cameco and Pan American Silver below.
Cameco (CCJ) – 20 years
Pan American Silver (PAAS) – 20 years
Thanks for following!
-Nick