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Commodities: Once Bitten, Twice Shy?
Tradeable | 16 January 2013
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By: Louis Kent Lee
Articles (199) Profile

It is no surprise that the commodities sector saw blood in 2012, in terms of valuation, this sector is trading at a historical low. Notable earnings’ shockers hit the market, and double digit slips in share prices can be seen in big counters such as Wilmar International (Wilmar) and Olam International (Olam).

Wilmar saw its shares pummel 36 percent last year as it struggled with losses at oilseeds and grains from a continued difficult operating environment in China, lower plantation profits and prices, and a drop in production yield and higher production costs.

Olam, on the other hand saw its share price take a 28 percent nosedive, which was exacerbated by the accusations of Muddy Waters, about the company’s financial health and debt levels.

A comparison between the Straits Times Index (STI) and the S&P GSCI (A global commodity index representation) on the chart below shows how the commodity index (orange line) has been underperforming the STI, for the past 12 months.

But didn’t this sector used to do fine and was one of the favourites to look at? What Happened?

High Volatility And Excessive Expansion
As mentioned earlier, things have taken a turn for companies in the commodities sector. Profit growth is no longer as brilliantly amazing as it used to be as the commodity prices are subjected to higher than ever volatility, perhaps due to uncertain global economic outlook, which in turn places a worrying impact on overall earnings.

In a bid to secure commodity supply and improve their margins, large commodities companies have invested fervently in assets over the past few years. In the face of slower global commodity demand, it is believed that the higher overhead costs, which include things like interest expense have been a continuing factor adding pressure to the overall earnings position.

The realisation of the taxing nature of such investments on their sheets have prompted the big players to slow down on such asset investments. In the context of Olam, such asset purchases will be under more scrutiny especially in light of the Muddy Waters episode, therefore, it is possible that its strategy pertaining to asset purchases might have to be recalibrated.

Still Looking Cheap
Although it is not very likely that the commodities sector will be given a lift and be re-rated in the short term, it is important to note that the prices of stocks in this sector remains attractive (e.g Noble Group). It might not be too bad of an idea if you are looking to park an early position in this sector as this sector still play a very important and relevant role in the longer-term.

Before anyone decides to write off the commodities sector, naysayers need to remember that commodities flow into Asia is expected to rise as population grows and cities develop. It is still too early to put a black mark on the commodities sector for 2013.

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Louis is a qualified accountant with the ACCA, and is the Research Editor at Shares Investment magazine.

Please click here for more information about this author.

Olam Int'l  1.820 -0.020 -1.09%   
Business: Co is engaged in sourcing, processing, packaging and merchandising agricultural products. [FY18 Turnover] Food staples & packaged foods (47.6%), confectionery & beverage ingredients (23.4%), industrial raw materials, infrastructure & logistics (14.9%), edible nuts & spices (14.1%).

Insight: May-19, 1Q19 revenue rose 16.7% due to increased t... Read More
Wilmar Int'l  3.870 +0.01 +0.26%   
Business: Co's integrated agribusiness model encompasses the entire value chain of the agricultural commodity processing biz, from origination and processing to branding, merchandising and distribution of a wide range of agricultural pdts.

Insight: May-19, 1Q19 revenue fell 6.2% to US$10.4b driven ... Read More

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