Transcript Northern Trust

2009
FALL FOCUS
INVESTMENT CONFERENCE
Basic Materials
Edward Trafford
Senior Investment Analyst
© 2009 Northern Trust Corporation
northerntrust.com
The Cycle – What to Own
Peak
Fundamentals
(Late Cycle)
Industrial Gases
INDUSTRY FUNDAMENTALS
Staples Packaging
Commodity Chemicals
Const. Machinery
Gold
Agriculture
Normal
Agriculture Machinery
Mining Equipment
Specialty Chemicals
Coal
Construction Materials
Paper
Diversified Miners
Steel
Today
2
2009 Fall FOCUS Investment Conference
Aluminum
Trough
Fundamentals
(Early Cycle)
Recommended Weighting


3
Moderate Overweight

US economy is troughing

The basic materials space has historically outperformed

‘Outperformance’ could be magnified this cycle

China growth engine

Investments in infrastructure

Shortage / tightness of supply

US$ depreciation

Demand needs to spread beyond the restocking
and infrastructure / construction projects in China
Portfolio Construction – barbell approach

Pseudo-basic materials

Higher beta commodity names
2009 Fall FOCUS Investment Conference
The Big Picture

Multi-Year Outlook

Commodity Prices – violent up tick in pricing as
global demand returns

Operating Leverage – underestimated

Production Costs – down 20 - 40% yoy

Vertical Integration & Inflation – own hard assets

Debasing Fiat Currency – global trend toward
the devaluing of fiat currency as the governments
‘print money’

Leverage – In a downturn, less leverage
(both b/s and operating) is preferable and vice-versa

Restocking

4
US apparent steel consumption has declined to levels
last seen in the 1950s
2009 Fall FOCUS Investment Conference
What to Look For

5
Key Factors in the Commodity Space:

Levered to FAI

Peaking inventory levels

Lack of new supply

Barriers to new supply coming online

Demand troughing

Supplier consolidation

Rational behavior

Leverage to global GDP
2009 Fall FOCUS Investment Conference
Significance of China

The Significance of China
 Vale
– China made up ~67% of iron ore consumption volumes in 1h’09
Inland Cities – Steel consumption at 215kg per capita vs 525kg
in the coastal (developed) regions
 Chinese
Commentary – inline with ours – Chinese demand for steel
doubling over the next 15 years
 BHP


Buy what the Chinese are Short
 Own
those resources that Chinese must import
 M&A
– Own those companies that China wants a stake in
Chinese Sovereign Wealth Fund – $800b
 China
is the largest foreign holder of US treasuries
 Expect
continued diversification into basic materials, energy
and power infrastructure
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2009 Fall FOCUS Investment Conference
Sector Themes

China’s Fundamentals – August Data
 Power
consumption – up 35% yoy
 Vehicle
 China
production – up 40% yoy
FAI – up 43% yoy
Property Inventory Levels – peaked at 26 months;
at ~10 months now
 China
 China
Real-Estate Investment – up 38% yoy
 Chinese

Land Pricing – troughed in q1’09
Durability in Chinese Demand
 SRB
– stockpiles built; yes
 Fundamental
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demand – it is there
2009 Fall FOCUS Investment Conference
Our Playbook

How We See This Playing Out

Japan as our Proxy
 Acquisitions – purchased Australian and global assets
through the ’70’s and ’80’s
 Rationale – available capital & desire to become
increasingly self-sufficient
 Today – ~50% of their copper and ~30% of their iron
ore requirements fulfilled
 Implications for China – we estimate that China would
need to triple the level of investments spent thus far
 The
SRB
 Inventory to be Consumed? or…
 Inflation Hedge / Store of Value
 Risk
of a Fall / Winter Lull
 High probability – We peg above 50%
 Short Term vs. Long Term Investors – play this differently
 Sequential Imports – down -20%
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2009 Fall FOCUS Investment Conference
Inflection Point – Today

Production Growth – Back in vogue

The Risk
 Inflection
Point
Production will tick-up just as China steps out of the market
 China’s
Track Record
Impressive track record of buying / stockpiling when prices
are low and exiting as prices move up
 BHP
Management
Similar view; Chinese momentum trade to lose momentum
through q4

Our Stance
 Short
Term – Cautious
Term – Resolutely positive due to LT thesis –
bottlenecks, fixed supply, escalating demand,
industrialization of the BRICs
 Long
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2009 Fall FOCUS Investment Conference
BHP Billiton (BHP) – 1/B

Thesis – Unchanged and Intact
 Best
commodity portfolio
 Diversified

asset base
The B/S – We are comfortable
– ~$900mm in debt coming due in 2010
and ~$1.9b in 2011
 Debt
 Acquisitions
– “opportunistic”
IRON ORE (China)
Last
83.00
75.89
$/Ton
1W
1.2%
-0.8%
1M
-24.9%
1.8%
1Y
-32.5%
1.3%
200
80
150
60
100
40
50
20
0
Mar-07
Sep-07
Mar-08
Sep-08
Mar-09
Projects – 2010-2012 – attractive returns
 Western Aus
 Low
 Rio
Iron Ore JV with Rio Tinto
Cost Capacity Expansions
Tino Acquisition – shows management discipline
Management’s Macro Outlook – not exactly bullish; we prefer conservatism.
 “Economic
indicators remain weak by past standards and any assumption of a quick return
to historical trend growth may be premature."
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2009 Fall FOCUS Investment Conference
YTD
5.1%
26.7%
Mtons
100
Company-Specific Drivers
 Growth

6M
25.8%
16.7%
70
250
Source: Bloomberg, J.P. Morgan

3M
10.7%
7.2%
69
0
Sep-09
Freeport McMoRan (FCX) – 1/B
COPPER

The Commodity – copper is one of our most
preferred commodities. We see the longer-term
s/d outlook as compelling and bolstered by the
acceleration of China’s infrastructure buildout.
Breakout – Over 60% of copper is
consumed in infrastructure-type applications
 End-Market
Last
6,183.50
370.61
$/MT
1W
-3.4%
1.6%
1M
2.1%
8.3%
3M
25.0%
10.2%
12
6M
57.8%
-31.9%
13
10,000
8,000
6,000
4,000
2,000
0
Sep-01
Sep-03
Risk to Copper Pricing – we do NOT
Source: Bloomberg, J.P. Morgan
believe there is significant downside risk to the
copper price as at $1.50 ~20% of global production is BELOW cash cost.
 Downside
Sep-05
Sep-07
1Y
-12.7%
70.2%
YTD
103.3%
-0.1%
'000 MT
1,400
1,200
1,000
800
600
400
200
0
Sep-09
Share – While not an oligopoly; we would like to highlight the consolidation in production
amongst the top 3 producers all of which we would depict as disciplined and rational.
 Market
(IMMEDIATE) cycle – FCX has direct / immediate leverage to commodity pricing and we
therefore believe it will be one of the early beneficiaries of a stabilization / uptick in the global
economies.
 Early

Co-Specific Drivers
 Optionality
– FCX has significant optionality due to its steep cost curve.
Costs – FCX could drop its lifting costs to 0.66/lb in q1 vs $1.06 YOY (q1’08) and $1.04
sequentially (q4’08).
 Lifting
 Low
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Cost Volume Growth – “the free option”
2009 Fall FOCUS Investment Conference
2009
FALL FOCUS
INVESTMENT CONFERENCE
Thank you.
Edward Trafford
Senior Investment Analyst
© 2009 Northern Trust Corporation
northerntrust.com