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Part 2

Commodities and Individual Companies

Commodity spikes, supply interruptions and logistics issues, and curtailment of capacity (which can reduce benefits of scale) can all eat into auto-industry profitability quite quickly.

Game of Chromes (Signal From Noise) 9/1/22

For any given commodity, price fluctuations affect not just the companies that produce that commodity, but also the companies’ suppliers and customers up and down the line. The price of steel is of considerable interest to not just steelmakers, but also the car makers who buy steel and the coal companies who sell to steelmakers. The ripple effects spread across entire economies.

Given this, under normal circumstances, it is difficult and risky to use commodities price fluctuations – whether anticipated or ongoing — to predict which stocks will go up (or down).  But under extraordinary circumstances and in conjunction with other considerations, commodities can enable an astute investor to identify promising tactical and situational stock opportunities.

We highlighted one such scenario in two recent installments of Signal From Noise: The first, “Five Stocks for Geopolitical Tensions” was published on February 24, 2022, soon after Russia’s invasion of Ukraine. It was clear that the conflict between the two countries would have a major impact on markets for oil, natural gas, and grain – and possibly steel, palladium, and other metals.  

As you can see, when many believed that Ukraine might be quickly overrun, we suggested that volatility in commodities markets might be of benefit to a company that makes its money from energy derivatives: the Chicago Mercantile Exchange. We also suggested Baker-Hughes ($BKE), a diversified oilfield services company. This second one should be of particular note because we had cited its attractive fundamentals even before anxiety over a potential invasion had ramped up. Baker Hughes is an excellent example of a stock opportunity in which fundamentals-related attractiveness was reinforced by an anticipated trend in the commodities markets.

On March 11, 2022, when the chances of an extended war became more evident, we published “Five Stocks For An Extended Commodity Shock.” Although we cited four companies that were directly tied to commodities production, the fifth one also serves as an excellent example of how to think about developments in commodities markets: Union Pacific Corporation ($UNP), a railroad company. At the time, we wrote:

Union Pacific is a stalwart American company that is indelibly tied to the movement of commodities of all types across the North American continent. We believe that in the event of an extended commodity shock, the supply chains will have to adapt and Union Pacific will be a key beneficiary of this activity. The railroad industry is an effective oligopoly and Union Pacific has a very strong competitive moat. Furthermore, the company has a strong dividend and a track record of rewarding shareholders through good times and bad. This stock is a good one to have in your portfolio in the event of persistent inflation.

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