Why Commodities Are Still an Inflation Hedge: GMO Portfolio Manager

  • Lucas White says commodities are trading at such cheap levels that it’s not too late to buy.
  • The short and long-term environment suggests that demand for commodities will continue to increase.
  • Commodity prices don’t have to remain elevated forever in order to hedge or even see gains.

April’s Consumer Price Index, a measure of the average change over time in the prices of goods and services, came in hot at 8.3%, a rate unseen in 40 years. While the

Federal Reserve

attempts to douse the flames with interest rate hikes, investors are trying to salvage what assets they have left. 

Lucas White, a portfolio manager at the investment management firm GMO, says the firm has always looked at inflation and economic depression as the two big risks to long-term investors.

At this juncture, it’s easy to assume investors may have missed the opportunity to hedge against inflation. White says no: since commodity producers are trading at such cheap levels, it’s not too late to respond. 

“It’s kind of a neat opportunity to take advantage of something that’s already occurred,” White said. 

On one hand, if the commodity prices that have led to inflation stay high, investors can still get extremely strong returns. On the other hand, if commodity prices drop, those investments may suffer in the short term, but they would still be a hedge against inflation, he noted. 

The short-term environment suggests supply will remain tight relative to demand. Shutdowns due to the pandemic meant producers had supply disruptions and labor shortages, while economic stimulus increased demand on a global scale. Then, the war in Ukraine further disrupted supply. 

Russia produces roughly 10% of the global supply of oil. The country is also the world’s largest gas exporter and nickel producer, while the Black Earth region that spans Russia and Ukraine produces about 30% of the world’s wheat. 

As for a longer-term outlook, White says there are three overarching factors that would cause a further uptick in demand. 

The first is population growth. The second is the development of emerging markets, which is a commodity-intensive stage. Finally, the push to transition to clean energy, which can’t be done without natural resources. 

Investors have always hated the resources sector because of the tremendous amount of uncertainty it carries, White said. Betting on this industry means you need to combine numerous moving targets, including price variations of commodities, oil spills, mining accidents, and dam collapses. Then, consider cyclicality and


. If that’s not enough to spoil the enthusiasm, the last 5-10 years have thrown in ESG investing and sustainability issues, White added. 

However, he argues that the lack of interest in the sector is hugely disconnected from what really underpins the entire global economy. Investors seem unaware of just how critical materials are, even for clean energy solutions, he said. You can’t get wind, solar, and electric vehicles without copper, lithium, nickel, and cobalt.

“You couldn’t name one major significant piece of the economy that can function without energy, without metals, without agriculture, without water,” White said. “You need all of these things in order for the world to function.”

When things aren’t sold, they go on sale

Investor disdain for commodities is expected, White noted. The last nine years have been abysmal, with negative real returns for resource companies, all while the broad equity market was humming along, generating very strong returns.

Yet, it also means there are tremendous opportunities. There are companies that are cranking out up to 30% free-cash-flow yields, White said. Those yields are relative to their enterprise value. So they could pay down all their debt and buy back all their shares in three or four years at current commodity prices, he noted. 

“That just kind of tells you that commodity prices don’t have to be elevated forever for this to be a huge boom for these companies,” White said. 

GMO’s Resources Fund, which is co-managed by White, invests in the equities of companies in the natural resources sector and has outperformed its benchmark over five- and 10-year periods, per Morningstar. It combines companies in energy, industrial metals, and agriculture, and its top holdings include Shell (NYSE: SHEL), Kos mos Energy Ltd (NYSE: KOS), and Petroleo Brasileiro SA (NYSE: PBR) in the fossil fuel industry. Bradespar SA, Glencore PLC, and Fortescue Metals Group Ltd make up the bulk of the diversified metals and mining companies. 

“The amazing thing is you don’t have to look too far,” White said. “I can name smaller-cap companies or less well-known companies, but you can just look at major players like Shell. It’s one of the world’s biggest oil and gas companies, trading at six-and-a-half times forward earnings.”

Shell’s stock price tumbled by almost 60% to about $25, at the start of the lockdowns in March 2020. To date, the stock has seen a gradual but steady recovery back to its pre-COVID averages. As of Wednesday, it was trading at about $60. 

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