- Even after the rapid rise in commodity prices, it’s not too late for investors to buy energy stocks, according to Jeremy Grantham’s GMO.
- GMO highlighted attractive valuations and favorable supply-demand dynamics that suggest there is much more upside potential for commodity stocks.
- “The clean energy transition will take decades to develop and will indeed be a major driver of commodity demand,” GMO said.
Most investors probably think it’s “too late” to buy energy stocks given their impressive year-and-a-half rally, which has led to significant outperformance relative to broader markets.
But Jeremy Grantham’s GMO laid out why now remains a good time to load energy-related stocks and other commodities, even after the energy pick has outperformed the S&P 500 by more than 120 percentage points since early 2021. .
It all comes down to supply and demand, and even when you consider the ongoing transition to clean energy, there simply isn’t enough supply of hard natural resources to keep up with what will continue to be very strong demand, explained Lucas White. of GMO. his letter from the first trimester.
“On the demand front, we have a world population that is fast approaching eight billion and heading significantly beyond. More importantly, a large proportion of the world’s population resides in developing countries that will continue to go through the phase of economic development that is particularly intensive in raw materials for decades,” White explained.
That, combined with much of Russia’s resource output being virtually cut off from global supply chains, means higher prices are likely to be long-lasting for many commodities. Even a transition to a clean energy world will not end the world’s need for natural resources, as copper, lithium, nickel and cobalt are essential to power the future clean energy grid.
“Population growth, economic development, and decarbonization virtually guarantee substantial and potentially explosive growth in demand for commodities,” White summarized.
But while there will be incredible demand for the raw materials, supply will not be able to catch up, as many oil companies have been reluctant to invest in more capital spending after experiencing such a long period of unbelievably low raw material prices. lows and pressure from ESG and divestment circles.
That period of time, which essentially led to a lost decade for energy stocks, has oil companies choosing profits over growth, in what is essentially a self-reinforcing cycle. Those profits only increase as they hold back reinvestments, and holding back reinvestments leads to a continued lack of supply, which leads to higher prices, which translates into more profits.
Capital expenditures in the resource sector are down to a 15-year low of about $150 billion, according to GMO.
“If investment in production is constrained, fossil fuel prices could stay high even as we eventually displace demand.” [with clean energy]. On a recent quarterly earnings call, BP CEO Bernard Looney took a page from my book and said much the same thing: ‘…you could see a world where due to lack of investment, even though the energy transition is accelerating, oil prices are much higher. much higher,” White said.
With an encouraging supply and demand backdrop for energy stocks, the deal for investors to buy energy stocks becomes even sweeter when current valuations are considered, according to the note. Resource companies are still trading at a 60% discount to the S&P 500, even after their monstrous rally.
“The market is simply not pricing resource companies at reasonable levels given any plausible base case of how the world might develop,” White said.