Which investments have outperformed gold and silver in the last five years? A lot of investors are currently investing in precious metals, and gold and silver are especially popular. While this is in our view certainly a smart move, we feel that investors need to look beyond gold and silver and broaden their investment horizon to look for investments that might even outperform precious metals in the years to come.
In my view, the fertilizer industry is one area where a lot of value is being built in coming years and where investors can find attractive long-term investment opportunities.
Among the most important things in investment research is to identify global structural changes and the value drivers created thereof. Of course, investors can also make profits by short-term trading, but during my investment career I have not seen many traders consistently making profits this way. While I certainly do think that investors have to look at short-term opportunities, I strongly believe that in order to generate superior returns, one has to identify global structural changes in the world economy.
That’s what our team is doing every day. We have a true passion for analyzing structural economic changes and positioning our investments so that they will benefit from such changes. That means that our investment allocation is usually centered on a few core themes and therefore is usually less diversified in terms of industry allocation.
However, our investment allocation is spread among many countries, currencies and among a broad based strategic asset allocation. Investments in fertilizer companies seem to offer compelling investment returns which are tied to a very powerful long-term industry cycle that is relatively unaffected by short-term volatility in global economic growth. Also this is an industry group which has been able to outperform gold and silver over the last five years.
We think because of a further increase of global population, and therefore the need to feed more and more people, the fertilizer industry is poised to benefit significantly in the years to come. A growing demand for food will continue to drive prices and farmers around the globe will have a strong incentive to increase production. The higher prices for agriculture commodities will allow producers to spend more on fertilizer and crop protection, which will support higher prices. This should result in high and sustainable business growth for the potash and fertilizer companies going forward and we believe this is currently one of the most interesting sectors in the market.
According to a recent study of The World Bank, global demand for food is expected to grow by up to 40 percent until 2030 while world population growth is expected to grow by 23 percent, from currently 6.9 billion to around 8.5 billion people. The large increase in projected food demand is primarily coming from increased demand from emerging markets where an increasing part of the population is moving up to middle class and, because of a better lifestyle and higher income, will be able to spend more on food and many other products.
The chart below shows the anticipated growth in world population, with the yellow line being the most realistic scenario. An increase of global population by another 2 billion in the next two decades will have a number of very significant impacts on the world economy and will also increase the potential for geopolitical tensions given the fact that food and commodities in general will be scarce.
The recent crisis in the Middle East and Northern Africa show that a rapid increase of basic goods like food and energy will increase the conflict potential significantly. People might be able to accept a weak and corrupt government or even a dictatorship, but when people are starving they are willing to stand up and take control. This has been a very important driver behind the recent problems in countries like Egypt, Tunisia and Libya.
*Source United Nations
So if the assumptions and projections regarding population growth are more or less accurate, one of the biggest challenges for our planet will be to increase world food production by 40 percent in the next two decades. This is challenging, but not impossible.
According to various studies, productivity growth in the agriculture sector has increased by about 150 percent in the last 40 years and it seems likely that this trend will continue in the future, but probably at a slower rate. Also, the world’s reserve for agriculture land is relatively limited. While there are still land reserves in Latin America and certain areas in Southern Africa, it’s going to be difficult to expand the amount of agriculture land significantly, especially when additional factors like climate change and scarcity of water supplies are taken into consideration.
This points to the obvious fact that the largest increase to the world’s food production has to come from increased productivity that can only be reached by additional use of fertilizer products, crop and seed protection and the further industrialization of farming. This is in the eyes of many a real horror scenario, but the fact is that by only growing fruits and vegetables organically, we will not be able to solve the problem of a possibly severe future food shortage.
It is obvious that this creates a true super cycle for companies that are doing business in this area, and fertilizer companies, especially, will be able to significantly benefit from this development. On top of the very promising outlook for the industry comes the fact that the global fertilizer market is dominated by a small number of companies. Eight companies make up more than 80 percent of annual production which will give these companies good pricing power going forward.
Since the barriers for entry in this sector are very high and the fact that potash, the base ingredient for fertilizer, can only be found in certain parts of the world, future price increases could be very significant. The chart below shows that potash production only takes place in a relatively small number of places.
Currently, annual production is about 60 million tons and is expected to reach about 75 million tons in 2016. Today’s production is currently high enough to cover demand, but this could change in the latter half of the current decade and it is estimated that by 2020 global production will just be enough to meet demand. The outlook for the declining production overhang—and with that for rising prices in the future—has also resulted in additional takeover activity in the sector.
The recent bid of Australian based BHP Billiton for Canadian-based Potash Corporation and the acquisition of Potash One by Germany-based K+S are strong signs that the outlook for the industry is very promising.
Stocks of fertilizer companies have been doing well in the past two years, with many of them doubling or even tripling in price. The chart below shows how some of the major companies in this sector have performed over the last five years. Most major markets have been flat over this period of time. In light of this, their performance is even more remarkable. Over this five-year time period, most of these companies have even outperformed gold and silver.
However, despite current valuations that look a bit rich based on commonly used ratios, the outlook for strong future profit growth, strong structural value drivers and the factors mentioned above should make investments in fertilizer companies an excellent option for years to come. Because of the growth prospects and as a way to protect the purchasing power of money, like gold and silver, investments in fertilizer are also linked to a commodity super cycle, which will not come to an end in the foreseeable future.