How Natural Resources Can Help Build Emerging Markets

Emerging markets and the case for natural resources.

By: Courtenay Wolfe

BRICs:A term coined by Goldman Sachs economists almost 10 years ago referring to the rapidly industrializing countries of Brazil, Russia, India and China.

Over the past 10 years we have seen the BRICs make their mark on the world’s economic stage. During their first decade they contributed to over a third of world GDP growth and grew from one sixth of the world economy to almost a quarter.

By all future projections, this trend is expected to continue in the coming decade. A recent Goldman Sachs report projected that the BRICs, as an aggregate, would overtake the United States by 2018, and in terms of size, India and Russia will individually be larger than Canada by 2020.

There’s no doubt that the dramatic run-up in commodities over the last number of years has been spurred by a massive expansion of the supply of money and credit by major central banks and fractional reserve banking systems worldwide.

But acting in tandem with this factor was, and continues to be, the industrialization of the BRICs and their continuing need for energy and other natural resources to fuel their growth. The gradual liberation of world trade highlighted the competitiveness of emerging economies in providing goods and services to the developed economies.

In the case of China, clearly the leader in growth among the BRICs over the last decade, the combination of these two factors led to a flood of investment dollars into the country in hopes of participating in the ongoing expansion of ultra low-cost capacity to satisfy the world’s hunger for inexpensive goods.

As U.S. dollars flowed into China, the People’s Bank of China purchased those dollars with newly printed renminbi in order to maintain its currency peg. So while consumers were getting the Chinese goods they wanted, and investors were getting the Chinese investments they wanted, the renminbi money supply grew rapidly, and the People’s Bank of China amassed a large reserve of U.S. dollars.

Some of these dollars were recycled into U.S.Treasury securities, but a material portion was allocated towards funding the industrialization and urbanization of China, which was still at a relatively early stage of development.

A substantial segment of China’s immense population consisted of subsistence farmers, and these individuals were slowly moving to the cities and entering the industrial workforce.

A colossal expansion of the country’s infrastructure was needed to handle this transition. Such an expansion is highly energy and industrial metals intensive (for example, steel and wiring).

Along with the industrialization of the BRICs comes a shift in socioeconomics. The growth of the BRICs over the past decade has given rise to a new BRICs middle class. Hundreds of millions of people were added to this middle class category, classified as those with incomes between $6,000 – $30,000.

With this trend set to continue over the next 10 years, we’ll undoubtedly see an acceleration not only in demand, but in the types of products the BRICs import. In December 2009 the new cell phone subscribers in China and India alone had reach over 30 million per month. This continued increase in other high value-added imports, such as cars and technology, will most surely occur.

CANADA’S ROLE

The time and resources required to fully develop China’s infrastructure is enormous. Furthermore, India and other BRIC countries are following in China’s footsteps.

This has driven the BRIC’s insatiable appetite for natural resources and, by extension, their insatiable appetite for natural resource projects and companies. In aggregate, the demand for commodities such as crude oil, copper, nickel, coal and iron ore is awe inspiring and a trend we believe will continue well into the future.

As the BRICs look for resources to sustain their growth over the next 10 to 20 years (and beyond), they’re looking right into Canada’s backyard. And Canada has responded, specifically in regards to oil.

Canadian oil companies have begun to actively court China, whose consumption of Albertan oil has increased dramatically in the last five years. In August 2009 PetroChina bought a 60 percent stake in two oil sands properties held by Athabasca Oil Sands Corp. And in the latest of a number of Chinese investments in Albertaoil sands, Penn West Energy Trust has sold a 45 percent stake in a Canadian oil sands project to China Investment Corp for C$747 million.

This same logic also applies to base metals and other resources. If we continue to see growth in China and the other BRIC countries, metals located in Canada and around the world will continue to appreciate.

This trend bodes well for firms focused in natural resource investing.

Courtenay Wolfe is President and CEO of Salida Capital, one of Canada’s leading investment management firms in the natural resource space, focusing on precious metals, base metals, agriculture and energy. Salida currently manages several hundred million dollars for a growing global client base of family offices, high net worth individuals and institutions. Salida takes an active, opportunistic management style when investing in private, small, mid and large cap resource companies. For more information, visit www.salidacapital.com.