Emerging markets will fuel commodity boom, says fund manager

(February 18, 2004) The development of full-scale market economies in China and India will create a commodity pricing boom the likes of which has never been seen before, predicts a senior BMO fund manager.

Donald Coxe, the Chicago-based chair and chief strategist of Harris Investment Management — a U.S. subsidiary of BMO — says about three-quarters of a billion people in those two countries will move out of poverty and into the middle class during the next two decades, stimulating unprecedented demand for oil, natural gas and metals.

“I call it the Asian affluenza. It will be a gigantic, gigantic change in trend,” says Coxe, who manages the BMO U.S. Value Fund.

Today, just 2% of India’s and China’s populations are classified as middle class. But over the next two decades, more than half of them will move up to that category, he projects.

“There will be a transformation of freedom for hundreds of millions of people. That will require enormous resources. This is Economics 101, simple supply and demand,” he says, noting these people will have electrified homes, indoor plumbing and cars for the first time.

“This is going to be one of the hinges of human history. People will look back on this 20 years from now and say, ‘That’s when the world changed.’ It will make the market crash a few years ago look like a tiny event,” he says.

Ultimately, the shift in class structure will increase the demand for all sorts of metals. And it will replace the usual one- or two-year bull market with the first long-term cycle in the mining industry in nearly 50 years, Coxe believes.

“I’ve long maintained I wouldn’t recommend mining stocks until we had a quarter of a billion Martians come to earth with middle-class incomes. Now we have those Martians,” he says.

“The last time we had a boom led by metals and mining was in the 1950s. Once people back then got cars and plumbing, there was a great surge in demand for metals,” he says.

Coxe says China had just 60 passenger-carrying vehicles in the entire country 20 years ago (to put that figure in perspective, he says you’d have to go back to 1898 to find a time when there were so few automobiles in Canada). Today, domestic manufacturers churn out that many in three minutes. In addition to becoming the number-four car market in the world, China has also emerged as the top consumer of steel.

These wholesale shifts in demand could also create significant investment opportunities. Coxe says the commodity sectors currently represent 9% of the S&P 500, a weighting he predicts will double in the next six to seven years.

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“Which means if you have a representative portfolio of good oil and mining stocks (today), I think you will substantially outperform any stock index in the world,” he said.

Coxe says the best way to play commodities at low risk is to load up on a diversified portfolio of high-quality producers, such as Suncor, BP, Exxon Mobil, Alcan, Alcoa, Noranda, Inco, Teck-Cominco, as well as the best oil and gas royalty trusts, such as Freeport McMoran and BHP Billiton.

To protect against the downside, Coxe recommends buying put options for large, sophisticated accounts. For retail investors, he says cash, mid-term Canadian bonds and gold shares would work well to reduce overall portfolio risk.

Coxe says investors should be greeting news about the growth in China and India with joy rather than fear that more North American jobs will head offshore.

“You shouldn’t be afraid of people obtaining liberty,” he says.

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Geoff Kirbyson is a financial services writer based in Winnipeg.

(02/18/04)