It was on May 20 that the stock price of BHP Billiton topped out, for the meantime, and investors started to rotate billions of dollars in an unprecedented manner, right across the global resources sector, where capitalisation now tops USD 6 trillion. Investors have been taking profits out of practically all sub-sectors of resources stocks, and rotating into commodity futures, principally the energy classes, viz., crude oil, natural gas, heating oil, and coal.
The most interesting feature in this trend is that investors have been selling off listed oil stocks as well. BHP Billiton straddles both worlds; while it is classed as the world's biggest diversified resources stocks, it is principally a mining stock, but, rare for its class, it also operates an oil and gas division. Its stock price is now down more than 15% from its high.
While a number of dedicated listed oil stocks are trading reasonably close to record highs, profits, to reiterate, have been taken off the listed stocks table by investors in the past few weeks. This indicates that during the recent turmoil apparently created by record oil prices, investors have preferred to invest directly in commodities. Commodity futures represent an investment in a physical asset as such, rather than in a corporate entity that carries risks beyond the physical. Such risks include possible dangers of managerial human error, and geopolitical risk.
This recent trend has also seen investors buying heavily into specialised commodity indices, such as the S&P GSCI Enhanced, which, again, represents a proxy investment into a weighted basket of commodities. By the same token, specialised exchange traded funds (ETFs), which often mimic indices, futures and physical contracts aimed at the institutional market, have been heavily bought in the retail sector.
Thus, while the S&P GSCI Enhanced is currently trading close to record highs, like oil futures, so too is the iShares S&P GSCI Commodity Indexed Trust, an ETF available in US markets. This tracks a broad index of 24 commodities weighted according to the proportion of the commodity flowing through the US economy, the world's biggest. Almost half of the index reflects crude oil; the balance is split between other energy products such as natural gas as well as agricultural commodities, industrial and precious metals, and livestock.
Index funds and ETFs are run on a passive basis: as investor funds flow in, so the cash is invested into physical commodities and commodity futures. Taking developments over the past few weeks, there is no question that commodity indices and ETFs are considerably more in demand that investments in listed stocks that produce the physical commodities. Listed potash stocks have been the one exception, but that is a specialised story.
The power of the rotation away from listed resources stocks is difficult to ignore. Take, for example, gold ETFs, a number of which are listed on stock exchanges around the world. Investors buying units in gold ETFs are essentially buying a proxy of physical gold bullion, but without all the hassles of physically dealing with the metal. Measured across the world, gold ETFs currently hold USD 25bn worth of physical gold bullion. Over the past 12 months, investor returns from gold ETFs have almost matched the average return from an investment in a gold stock, but without any of the risks attaching to an investment in a corporate.
There is increasing evidence that indices and ETFs are cannibalizing investment flows that otherwise would have gone into listed stocks. Taking one example, until the advent of the major silver ETF in 2006, listed silver stocks, comprising about 50 names, traded at premiums even to gold stocks. As investor flows built up to more than USD 3bn dollars in ETF physical silver, the performance of listed silver stocks has increasingly suffered. Over the past 12 months, while the performance of silver metal has been pretty satisfactory, the average stock has delivered a pretty rotten return. Going forward, investors are going to be faced with some pretty tough decisions in allocating between asset classes.
GLOBAL LISTED RESOURCES STOCKS
Composite weighted 12-month net price gains
* Investable market capitalisation
** IMC counted in other sub-sectors
Source: Analysis by Barry Sergeant