Watch These Commodity Stocks

These stocks are under pressure from growing fears of rising interest rates. 

Vikram Barhat 23 June, 2021 | 1:10AM
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The recent sharp decline in commodities put the skids on the red-hot bull run we saw in the first half of this year. The U.S. Fed’s signal that the rate hike could come sooner than expected pushed up the U.S. dollar, and sent commodities tumbling due to the inverse relationship between the two. The commodities downdraft further intensified on the signs of the Chinese government tightening its monetary policy.

Analysts say the pullback was overdue after increased industrial demand on the back of economic reopening sent commodities soaring in the first half of the year. The S&P GSCI, index that serves as a benchmark for commodities investments, has gained 27% for the year to date, far surpassing the nearly 11% gains for the S&P 500 index and just over than 17% for the S&P/TSX Composite Index, as of June 18.

Investors looking to add commodity exposure may want to keep the following leading players on their scanners and wait for an attractive entry point and a sizeable margin of safety.

Nutrien Ltd 

 

Ticker

NTR

 

Current yield:

3.17%

 

Forward P/E:

19.27

 

Price

$72.49

 

Fair value:

$78

 

Value

Fairly valued

 

Moat

Narrow

 

Moat Trend

Stable

 

Star rating

***

Data as of June 21, 2021

Saskatchewan-based Nutrien (NTR) is the world’s largest fertilizer producer. It produces crop nutrients--nitrogen, potash, and phosphate. Although a global leader in potash, with roughly 20% share of the market, the company is also the largest agricultural retailer in North America and Australia, selling fertilizers, crop chemicals, and seeds directly to farmers through physical stores and online platforms.

Nutrien is expanding its retail store base through an acquisition strategy, which should boost its bargaining power with suppliers. “The company benefits from selling proprietary and private-label products at its newly acquired stores,” says a Morningstar equity report.

On the other hand, the commodity heavyweight is also bulking up its online retail platform, “which should generate sales growth as a greater proportion of farm retail sales move online,” the report says.

 “We expect the retail segment, which should account for roughly 60% of gross profit in midcycle conditions, to generate relatively steady cash flows,” asserts Morningstar equity analyst, Seth Goldstein, who puts the stock’s fair value at $78.

Nutrien’s digital retail offerings incorporates an application that helps farmers plan their crop production. “Given that a farmer's field data is contained in the app, the digital retail business offers traces of switching costs as farmers are unlikely to switch as the app will become an integral part of their business,” says Goldstein.

However, he warns that while the app may increase the likelihood that farmers continue to purchase products from Nutrien, it may not translate into sustainable pricing power. 

CF Industries Holdings Inc 

 

Ticker

CF

 

Current yield:

2.46%

 

Forward P/E:

18.08

 

Price

US$48.80

 

Fair value:

US$55

 

Value

Fairly valued

 

Moat

None

 

Moat Trend

Stable

 

Star rating

***

Data as of June 21, 2021

A leading producer and distributor of nitrogen fertilizers, CF Industries (CF) operates seven nitrogen facilities in North America and holds joint venture partnerships in the U.K. and Trinidad and Tobago.

The company makes nitrogen primarily using low-cost U.S. natural gas, making it one of the lowest-cost nitrogen producers globally. “CF's plants are connected to its main customers in the U.S. Corn Belt by an extensive distribution network of pipelines, rail, and barge, giving the company a transportation cost advantage over foreign competition without pipeline access,” says a Morningstar equity report.

As one of the largest nitrogen fertilizer producers in North America, CF's fortunes are closely tied to U.S. corn planted acreage. “Nitrogen fertilizers are key to achieving higher yields in corn, as the crop, unlike soybeans, does not produce its own nitrogen,” says Goldstein who pegs the stock’s fair value at US$55.

On a brighter note, low gas costs in North America relative to the rest of the world have “made CF and other North American producers more competitive compared with overseas rivals, which rely on higher-cost natural gas or coal-based feedstock,” Goldstein notes.

Natural gas accounts for nearly 50% of production costs.

CF is also investing in carbon-free ammonia, which is expected to see increased demand as an alternative fuel to hydrogen. “This represents an incremental ammonia demand source at a premium price as ammonia is a low-carbon fuel,” says Goldstein.

Cameco Corp 

 

Ticker

CCO

 

Current yield:

0.34%

 

Forward P/E:

-

 

Price

$23.27

 

Fair value:

$24

 

Value

Fairly valued

 

Moat

Narrow

 

Moat Trend

Positive

 

Star rating

***

Data as of June 21, 2021

Cameco (CCO) is one of the world's largest uranium producers. Forced to by years of weaker uranium prices, the Canadian company has reduced production, instead purchasing from the spot market to meet contracted deliveries. In the long term, the company has the ability to increase annual uranium production by restarting shut mines and investing in new ones.

“Uranium offers a rare growth opportunity in metals and mining,” says a Morningstar equity report, noting that while China's structural slowdown could put an end to a decade-long boom for most commodities, it won’t impact uranium.

Uranium prices have been declining for years, due to supply glut, but this situation is unsustainable as much of existing production would be unprofitable at these prices. “We expect global uranium demand to rise roughly 40% by 2025, a staggering amount for a commodity that saw next to zero demand growth in the past 10 years,” says Morningstar sector director, Kristoffer Inton, who forecasts new reactor capacity to drive the strongest uranium demand growth in decades.

His growth projections are based on a quadrupling of China's reactor fleet and new reactors in India, South Korea, and Russia. These reactors are expected to produce nuclear energy rather than relying on conventional means such as coal.

As a result, mined supply of uranium will struggle to keep pace amid rising demand and falling secondary supplies. “These shortfalls should begin to affect price negotiations in the next couple years,” says Inton, who appraises the stock’s fair value to be $24, and projects significant earnings growth in the long term, supported by higher uranium prices and demand growth.

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Securities Mentioned in Article

Security NamePriceChange (%)Morningstar Rating
Cameco Corp26.92 CAD-3.93
CF Industries Holdings Inc83.08 USD-2.58Rating
Nutrien Ltd95.77 CAD-6.43Rating

About Author

Vikram Barhat

Vikram Barhat  Vikram Barhat is a Toronto-based financial writer specializing in investing, stock markets, personal finance and other areas of the financial services industry. He also writes for CNBC, BBC, The Globe and Mail, and Toronto Star.

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