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Profiting from high commodity prices and inflation

Profiting from high commodity prices and inflation

The Bank of England’s downbeat economic outlook has sent a wake-up call to investors that the central bank’s monetary tightening cycle could lead to material demand destruction and tip the economy into recession. Having lost credibility by failing to tighten policy in the belief that the inflationary blip would be transitory, rate setters look hell bent on returning core inflation back towards the central bank’s 2 per cent target at all costs.

Given that the UK consumer accounts for more than 60 per cent of GDP, this does not bode well in the absence of a fiscal response by government. I am not holding my breath, nor are currency traders.

The prospect of weaker economic growth has sent sterling to a two-year low against the US dollar, a fall of 13 per cent in the past 12 months. The depreciation will further fuel domestic inflation as it feeds into import prices. With stagflation a real possibility, it pays to focus on investments that offer a hedge against inflation and benefit from sterling weakness, too.

Royalty instruments are particularly attractive during inflationary markets as they retain exposure to inflationary driven upward commodity price movements, but remain insulated from associated inflationary pressure on operating and capital costs.

Trident delivers record revenue

  • First-quarter royalty receipts rise fivefold to $2.2mn
  • First receipts from gold offtake agreements acquired in January 2022
  • Analysts upgrade valuations to factor in higher metal prices

First-quarter results from commodity royalty group Trident Royalties (TRR:48p) highlight the substantial progress the group has made in the past 12 months.

Having made four royalty acquisitions in 2021, and subsequently completed the US$69.75mn (£56.4mn) acquisition of offtakes covering seven producing gold mines operated by five counterparties across six countries, Trident now has 22 investments of which 12 are producing income. In the latest three-month period, Trident realised profits of $1.6mn from its gold offtake portfolio, $0.5mn from its Mimbula copper royalty in Zambia and A$0.2mn from its Koolyanobbing iron ore royalty in Western Australia.

Given that supply for most commodities is extremely constrained, and there is significant demand pull from the transition towards renewable energy, then Trident is well placed to benefit. The group’s gold exposure offers investors a hedge against inflation as well as a play on sterling weakness, while end-user demand for both copper and lithium are being fuelled by the insatiable growth for battery metals and green energy.

In particular, Trident holds a valuable royalty over the Thacker Pass Lithium open mine project in Nevada, one of the largest known lithium deposits in North America. The group has also acquired the right to buy a 50 per cent share in the royalty over the Sonora Lithium Project, an advanced development stage asset in Mexico jointly owned by Bacanora Lithium and Ganfeng Lithium. Bearing this in mind, the lithium carbonate price has almost doubled to $75,000 per tonne since the start of 2022, prompting analysts at Tamesis to upgrade their five-year forecasts to $70,000 per tonne, the key driver behind the 18 per cent uplift in their unrisked net asset value (NAV) to 79.6p. At spot prices, unrisked NAV is substantially higher.

Moreover, analysts expect Trident to deliver $15.9mn of revenue and cash profit of $13.9mn this year, surging to $25mn and $23mn, respectively, in 2024. Current year forecast free cash flow of $7.3mn is predicted to more than double to $18mn in 2024.

I first advised buying Trident’s shares, at 37p (Alpha Report: ‘A lowly rated commodity and green energy inflation hedge’, 1 November 2021), and reiterated that advice at the current price (‘Profit from the deal of the Millennium’, 4 February 2022). Expect the 40 per cent share price discount to NAV estimates to narrow as Trident’s royalty receipts and free cash flow ramp up. Buy.


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