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The great migration

In the next 40 years, the staggering total of over 400 million people will move from the country to the city in China

Joanne Warner
Joanne Warner

Demand for commodities is driven by demographic trends and rising income levels in emerging economic power houses such as China, Brazil, India, Indonesia and Russia.

Despite short-term cooling in demand from the developed world, with China gaining market share, raw materials volumes have stayed relatively robust. We believe the stage will be set for strong demand fundamentals in the sector when the global economic outlook becomes clearer and growth re-emerges elsewhere.

While resource companies are concerned about long-term cost pressures, limited access to debt and the more complex and lengthy process of greenfield developments, merger and acquisition activity in the sector remains healthy due to attractive valuations.

We also see positive developments in the soft commodities sector, which is showing signs of a long-term, demand-driven trend similar to the one experienced by the hard commodities and energy sectors during the past decade.

As populations in emerging economies become more affluent, consumption patterns change. They typically increase consumption of food and broaden their diet towards higher-protein foods, such as meat and dairy products. This leads to an increased demand for grains and oilseeds, as protein production is grain-intensive.

Demand for natural mineral resources, such as aluminium, copper and iron ore, tends to rise in line with the average level of household income through the process of industrialisation and urbanisation. Increases in wealth lead to sharp rises in energy consumption, with more being spent on air conditioning and electronic equipment.

The urbanisation of the biggest emerging markets shows no signs of abating. A recent report by the United Nations forecasts in China alone in each of the next 40 years more than 10 million people will move from the rural regions to the cities, driven by the desire to earn more. This will require infrastructure to accommodate that migration. It is estimated that so far in China’s history about 300 million people have moved from rural areas to the country’s urban centres, which almost equals the whole population of the US.

However, the prospect of higher returns from opportunities in global resources comes with higher risk as the sector can be quite volatile. This means it is more suitable for investors with longerterm horizons.

To manage potential risks of investing in global resources stocks more effectively, our team takes a conservative investment approach by focusing on world class, low-cost companies with production growth and proven management. Importantly, this approach does not require taking short-term directional views on commodity prices, which are highly unpredictable.

Recent market volatility has provided some investment opportunities, as valuations become attractive against the background of generally good profit margins and sound balance sheets.

Market sentiment has turned particularly sharply against many of BP’s peers after the Gulf of Mexico spill, especially those with operational exposure to that area. Cameron International, a manufacturer of oil field blow-out preventers, was a recent addition to the fund, which was made on share price weakness following the BP incident.

Over the longer term, we believe Cameron is set to benefit from the tougher regulations that will require many companies to more frequently upgrade the kind of equipment that the company produces. The fund has also increased its exposure to North American onshore oil producers, such as Concho Resources and Crescent Point Energy, where the operational risks are lower and growth profiles are also attractive.

The fund remains heavily invested in best of class, large companies with strong balance sheets and cash-generating abilities. We have also selectively retained and built positions in a number of higher-growth, smaller companies where they have addressed balance-sheet risk.

Joanne Warner is manager of the First State global resources fund

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