How to invest in commodities despite sector challenges

Investing in commodities can be a challenging endeavor for investors looking for predictable returns and little volatility.

The most recent commodity report from RBC, for example, shows commodity price index average year-over-year changes of −32.7% (2015), −4.4% (2016) and 16.5% (2017) for the past three years.

In June, RBC reports that its commodities price index fell 1.2% after gains in April (3.3%) and May (4.1%).

The decline reflects widespread weakness across sub-indices, says the report, including a 1.6% drop in energy products, reflecting a 3.7% decline in average crude prices.

Read: Where oil prices are headed, and why

Finding a catalyst

In a recent blogpost, Amar Pandya, senior investment analyst and associate portfolio manager at PenderFund Capital Management, shares his approach to investing in energy.

“Since we have no idea where the oil price is going, we focus on opportunities where we hold an investment edge and where we can take advantage of market inefficiencies,” he says. He looks for hidden assets or special situations where the catalyst to unlocking value doesn’t depend on the underlying commodity price.

The firm’s holding of Athabasca Oil Corp. exemplifies this approach.

Athabasca ran into trouble with the collapse of oil in 2014-2016, which drove down its share prices more than 90% from the IPO price in 2010.

“We came across Athabasca after screening for out-of-favour energy companies and, as we started to dig further, we found many attributes which increased our interest in the company,” writes Pandya.

Those included new management and a new strategy that diversified away from heavy to light oil.

Management also found creative ways to raise capital, such as selling royalties that kick in only at a certain oil price level. Athabasca also made a favourable acquisition, which included several infrastructure assets.

Read: Why foreigners have been exiting the oil patch

Despite these developments, share price continued to languish, which Pandya ascribes to market inefficiencies.

“There is a tendency for investors to avoid or overlook an investment they were previously burned by, disregarding sell-side research as the bankers and brokers who had previously promoted the company have lost credibility,” he says.

Earlier this year, Athabasca’s management announced it would aim to monetize its newly acquired infrastructure assets, with proceeds likely going to debt repayment or capital return, “which should be a catalyst for a correction in the share price,” says Pandya.

Though Pandya is clear that the holding comes with risk, he says, “Even with oil prices remaining flat or declining moderately, we still see several catalysts ahead, which could unlock value in Athabasca’s share price.”

For more details, read the full post from PenderFund Capital Management and the report from RBC.

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