"I never let my schooling interfere with my education”
- Mark Twain
We aren’t taught to take risks in school. Health class, in particular, frowns on it. Schools often view relying on the work of others as cheating. Grading rewards an understanding of details, complexities, and exceptions. Big topics are assumed as background, insufficient by themselves.
But life in capital markets ain’t school. Investing is built on risk taking. Reviewing and extending the work of others is essential for adequate scope. Sophisticated analysts often suffer with excessively complex models while relative idiots dance to positive alpha. Getting the “big stuff” right is very hard.
Back to the Industrials Grind…
In our Industrials and Materials investment process, we look to get either the industry specific cycle right or a broader secular change right. This is step one for each Best Idea. If we get that part right, we’re likely to get a lot of other thesis elements right. And we’ve had our share of tangos with positive alpha.
Consider an investor long copper into a global industrial contraction. That asset manager is doomed to underperform no matter how carefully the c-suite was vetted or prudently the valuation was assessed. Perhaps the poor performance can be blamed the Federal Reserve in the investor letter. Maybe the individual can add ‘detail oriented’ to a refreshed resume. The reality will be that the investor got the big stuff – the cycle in this case - wrong.
While less common than an economic or industry cycle, broader secular changes are oddly impactful and pleasantly uncorrelated. China’s emergence and fixed asset investment boom in the aughts is a great example. Within reason, it didn’t matter where a miner’s iron ore deposit fell on the cost curve or how empty the buildings in third tier Chinese cities were. The shares of iron ore miners worked as longs. Heck, even CLF was a great long for a few years… and a very damaging short to those skeptical of the iron ore boom and CLF’s cost position. If you got the Chinese fixed asset investment bubble right, you got commodities right. That trend was the prime mover, gobbling up many marginal ferrous rocks.
What’s the big thing in Materials now? It is probably the emergence of electric vehicles. At some expense, our Hedgeye team runs a regular survey of consumer interest in purchasing electric cars. Consumer interest shot up from around 64% to 90% in the first half of 2021.
Why? Insert your own narrative, but I am going with the electric Ford F-150, big auto advertising…and amazing zero-to-sixty times. EV’s have long been the domain of subsidy and regulation. That’s changed. Consumers almost universally want them. We will explore this topic in more depth tomorrow at 10AM EST.
The implications of broad EV adoption are profound, if gradual. An internally consistent view of a world with, say, 10% EV penetration reveals some unresolved stresses. The incremental copper consumption would be irrelevant (<1% of capacity). For lithium, however, it would take ~85% of the current capacity to supply that conservative penetration level. Society will still need mood stabilizers, phone batteries, and CO2 absorbers. Lithium-based batteries and rare earth magnets are also needed for non-automotive markets. The cumulative deficit looks sizeable.
Given the lack of lithium and rare earth production to supply EV demand, product prices will have to rise to attract new capacity. Otherwise, customers won’t get their Taycans and Mach-Es. Automakers from BMW to VW to Ford have been committing $10s of billions to battery and motor sourcing. Those OEMs have also been building production facilities for EVs, often using (Best Ideas Long) ROK’s expertise in electric vehicle manufacturing automation. EV platform introduction from larger auto OEMs will continue at a brisk pace, with Stellantis going next on July 8th.
For those excited about EV charging plays, our survey suggests that only 25% of owners plan to recharge outside the home or work. That compares rather unfavorably with ~100% of gasoline powered vehicles fueling outside the home and work. OEMs are developing sophisticated charging networks that leave little remaining TAM for the BLNKs and CHPTs. Undeterred, we think these companies will remain laser focused on their stock promotions.
Returning to metals, some will say that rare earth elements aren’t rare. They’ll point out that lithium is widely distributed, even if only the 33rd most common element on Earth’s surface. But building mines and processing facilities is different from quoting relative abundances. Again, take iron ore in the 00’s as an example. Iron ore is common and offers high metal content. It is so easy to find and process iron ore that Iron literally had its own Age starting around 1200BC. Lithium hydroxide and NdPr are nowhere near as easy to discover, extract, store, and process.
Won’t marginal cost pricing force down lithium and NdPr margins? Eventually, perhaps. The cure for high prices is often high prices. But we think this short thesis would be a decade early. The only thing worse than missing the “big stuff” would be to bet against it too early.
Doesn’t everyone already believe that EVs are going to take share from internal combustion engines? Some do. But beliefs aren’t supply chains. The emergence of broad, unsubsidized interest in electric vehicles is not consensus. Insofar as valuation is an opinion, neither MP nor ALB share prices suggest the market sees the demand. Getting the multiyear surge in demand right is what is likely to matter. The rest is academic.
If you would like to learn more about my research team's in-depth investing research please reach out to .
Lastly, our Macro team is hosting our Q3 Macro Themes call today LIVE at 11AM ET @HedgeyeTV. Ping our team at for access.
Immediate-term Risk Range™ Signal with @Hedgeye TREND signal in brackets:
UST 10yr Yield 1.42-1.61% (bullish)
UST 2yr Yield 0.15-0.29% (bullish)
SPX 4175-4279 (bullish)
RUT 2 (bullish)
NASDAQ 13,903-14,234 (bullish)
Tech (XLK) 139.73-144.45 (bullish)
Energy (XLE) 52.14-57.02 (bullish)
Financials (XLF) 35.01-38.50 (bullish)
Utilities (XLU) 63.54-66.09 (bearish)
Shanghai Comp 3 (bearish)
Nikkei 28,001-29,710 (bullish)
VIX 14.49-20.22 (bearish)
USD 89.45-92.56 (bearish)
EUR/USD 1.181-1.228 (bullish)
Oil (WTI) 69.53-74.08 (bullish)
Gold 1 (bearish)
Silver 25.31-29.10 (bullish)
Have a great day out there,
Jay Van Sciver
Industrials analyst
