Collins St view: Playing the uranium trade, and looking for growth in ‘ESG pariahs’

Michael Goldberg is the founder and managing director of Collins St Asset Management. The fund is consistently in the top three performers Australia-wide, based on quarterly data collated in the Mercer Investment Survey. In this Stockhead series, Goldberg provides his unique insights on broader market trends, investment ideas and which sectors the Collins St fund is allocating capital to.

Global markets

What’s my view on the current juncture in post-COVID markets?

Broadly speaking, I don’t have a view because markets at these levels scare me more often than not, and by some metrics it looks expensive.

But when push comes to shove, our core investing approach never changes and that’s looking for quality companies that are unloved or sliding under the radar.

I look at the market right now and it’s trading at about 21x earnings. Sure, rates are low and that may explain some of it but against a 14x historical average — it’s a little uncomfortable.

But again, I’ve been uncomfortable since 2017. And if your solution to expensive markets is to run for hills and hide, you’ll miss out on a tremendous amount of great opportunities.

The uranium trade

Speaking of 2017, that’s the year we made our first investments in ASX uranium stocks.

Over the last 12 months, that basket of stocks accounted for some of the biggest moves in our portfolio, but at the time the sector was extremely unloved.

In fact, we started buying around the same time an HBO mini-series Chernobyl aired in the US about the long-term problems associated with radioactive waste storage!

But our investment thesis wasn’t that complicated. We recognised that around 11% of the global grid at that time was powered by nuclear energy.

So we didn’t see uranium going out the back door, and in terms of market fundamentals we picked it well, although it wasn’t profitable straight away.

At the time, we saw spot prices around US$18-$19 per pound, and producers like (Canada-based) Cameco were cutting production by 20%.

Can you imagine what would happen if OPEC cut production by 20%? You’d see oil prices go ballistic. Yet spot uranium prices hardly budged.

We understood there’d been some delays in orders by large US utilities and a general cloud still hovered over the sector. But we said if global production costs are around US$40/lb and spot prices are around US$20/lb – something’s got to give.

Either miners shut up shop and uranium becomes a thing of the past, or a compromise will be found.

Ultimately, we assessed that spot prices would converge much closer to what the global cost of production is.

So we took a bit of a top-down view to get exposure to the broader cycle, and built a basket of around 10 uranium stocks based on that.

All of these companies did nothing for around three and a half years. Then we blinked and six months later, some of them are up 300-400%.

So the fund has done really well and we’ve exited most of those trades, except we still hold a position in Vimy Resources (ASX:VMY).

We think uranium stock prices are starting to reflect a spot uranium price of around US$60-$70 per pound.

And if we’re assuming that now and it’s already baked into the share prices, then the upside is less clear.

But if you look at the dimensions of that trade, it’s not rocket science. It’s about finding individual businesses that are cheap for one reason or another.

For at least a generation, the view on uranium has been it’s scary and dangerous. Only now is it getting more love amid the push for zero carbon emissions.

So sometimes when you find these sectors that are massively unloved, you can find a wealth of companies that are exceptionally cheap.

We’ve moved on from uranium, but where we’re currently looking is stocks in sectors that we call “ESG pariahs”.

Our favourite ‘pariahs’

For us, oil & gas is a sector that looks a bit unloved amid the global ESG shift.

Here’s an industry that’s finding it hard to get new funding, while the narrative has shifted towards moving away from fossil fuels – especially in oil & gas. And it’s creating this massive vacuum.

Commodities tend to be cyclical. As prices go up competition comes in, which pushes prices down and the cycle begins again.

So what’s going to happen if new projects can’t get funding? It means you’ve got supply coming off in anticipation of falling demand.

Yet from all of the research I’ve been able to do and from all reports I’ve read, it seems to me demand for oil is not going down. In fact, it’s probably going to go up until at least until 2030.

To us, that raises the prospect of a mini super cycle in ESG ‘pariah’ industries, where supply has been sucked out and demand remains strong.

MMA Offshore Ltd (ASX:MRM)

To get exposure to that thematic, one company we’ve invested in is MRM.

In the oil sector people tend to think of, say, BP as a company that owns its rigs and drills its own holes. Actually, they do nothing but own the exploration rights, and they bring in service companies to do every part of the project.

MRM owns a fleet of ships – tugboats, drilling ships, transport ships – and they ferry people and products to offshore drill projects.

They also have one of the youngest fleets in the world which means their maintenance costs won’t be as high.

This is a company that trades on 5x cash flows and 35% of NTA (net tangible assets). In other words, it looks cheap.

And it’s not a ‘made up’ NTA. They could sell those ships at book value — these kinds of businesses have been wound up in the past.

They’ve also got about 20% of their business focused on offshore wind farms, which gives them exposure to the clean energy thematic.

It’s a business that hasn’t had any love for a long time, and I expect that will remain the case for a while until it gets some sort of catalyst or sector recognition.

But we quite like it and it makes up a material amount of our portfolio weighting.

Beach Energy (ASX:BPT)

BPT is one of the four major producers on the ASX next to Woodside, Santos and Oil Search. Then you’ve got a bunch of smaller companies.

But we like Beach for a similar reason to MRM – it just looks cheap.

They’re trading on a multiple of around 5-6x earnings. And the main reason for that stems for a trading update in May where they reported about a 4% reduction in net reserves.

I think the broker consensus was that would result in a cut to EPS (earnings per share) going forward in the low teens, percentage wise. But their share price got smashed from $1.70 to ~$1.

A popular metric to value oil & gas companies is enterprise value (EV) to barrels of oil equivalent (production).

BPT is now trading at an EV/production ratio of 113. The next cheapest is Santos, which trades at around 197. Oil Search is up around 380, and Woodside is around 260.

So we think it’s a situation where focus is on Woodside as the market behemoth, and the merger talks with Santos and Oil Search.

After BPT’s production downgrade, it’s almost like the market’s assuming that all their projects are going to get downgraded and to us, that’s absurd.

They‘ve had a 4% production decline translate into a 60% fall in the share price.

And if you asked me whether I could buy into a $2.4bn company on 5x or 6x earnings in an industry I think has tailwinds, I’d say that’s a bargain.

Following the crowd

As an investment fund, we like it when the broader market has the alternate view on a sector company because that makes it easier to test our thesis and get a sense of whether we’ve missed something

Don’t get me wrong — there’s been occasions where we’ve acquired shares then had conversations with people in industry who highlight a risk we didn’t see, and we adjust that position accordingly.

We don’t set out specifically to be contrarian, but as an investor you don’t always want to follow the popular public opinion.

Human psychology is such that most people would rather follow the crowd and be 99th out of 100 than first or second. For investors, that’s particularly dangerous.

If you’re prepared to do the work to get comfortable being uncomfortable, there’s tremendous upside.

So what the market likes, we normally stay away. And what the market doesn’t like is what grabs our interest.

That doesn’t necessarily mean we’ll invest, but those are the companies and sectors that grab our interest.

Michael Goldberg is the founder and managing director of Collins St Asset Management. The Fund has consistently delivered over 23% annualised returns over the last 3 years with zero fixed management fees. As Australia’s leading and award winning Value Fund we seek to preserve capital as well as generating superior returns for our investors over the medium to long term.

For more information on The Fund visit Collins St Asset Management

This article was developed in collaboration with Collins St Asset Management, a Stockhead advertiser at the time of publishing.

This article does not constitute financial product advice. You should consider obtaining independent advice before making any financial decisions.