Key Macro Considerations

Rising GDP Despite COVID-19 Challenges: For the June 2021 quarter, Australia witnessed significant growth of 9.6% PcP and 0.7% QoQ GDP growth. With easing restrictions, the gross value added jumped by 10.3% PcP and 1.0% QoQ and reinforced business confidence.

Favourable Terms of Trade: Surge in export prices for mining commodities translated to a 7.0% sequential incline in terms of trade, delivering 3.2% growth in nominal GDP in the June 2021 quarter. Gross operating surplus plus gross mixed income inclined by 3.2%, primarily driven by upward commodity prices, partially offset by reduced production.

Robust Investment Contribution: Public investments surged by an astonishing 7.4%, primarily driven by local and state government infrastructure projects. Private investments surged by 2.0%, with an incline in both housing and business investments.

Key Statistics on Copper:

Growth Drivers: Widespread of net-zero emission targets by countries urged increased investments in low emission technologies. This accentuated demand for copper. Pick-up in battery storage and renewable energy and electric vehicle transition are key growth levers. The increased government spending on infrastructure in advanced countries, particularly in the US, is likely to keep the momentum.  

Consumption and Exports: Global copper consumption is likely to clock 4.4% growth in 2021, reaching 26 million tonnes. Australia is likely to see volumes resurgence on the back of capacity upgrades by miners and notable pipeline projects such as the Copper Hill project by Golden Cross Resources, KGL Resources’ Jervois project and Kalkaroo project by Havilah Resources. For the full-year FY21, exports reached $11.4 billion, up from $10.0 billion posted in the prior year. An increase in copper prices and encouraging copper exploration likely to hit export values of $14.4 billion by 2022-23.

Figure 1: Healthy Export Pace of Copper:

Source: Based on Office of the Chief Economist Data, Analysis by Kalkine Group

Critical Updates on Energy Segment

Australia’s LNG Segment Remains Broadly Stable: Australia’s LNG export volumes have been remained stable despite the COVID-19 pandemic. Over the last two years, quarterly export volumes have wandered between 18 and 21 million tonnes. Australia’s LNG exports in June 2021 quarter totalled 18.8 million tonnes, 5.8% down QoQ and 1.1% down PcP.

High Price Volatilities Witnessed in FY21: Electricity spot prices dipped in all regions but Queensland, ranging from $45/MWh in Tasmania to $72/MWh in NSW. In NSW, South Australia, Tasmania, and Victoria, the prices fell lowest since FY16. In addition, the financial year witnessed a considerable increase in negative price volume, reflecting growth in solar generation and lower demand.

Growing Potential in Mineral Exploration to Support Energy and Infra Segments

Robust Export Values: In September quarter 2021, the Office of the Chief Economist’s Resources and Energy Export Values Index surged by 49% PcP, witnessing an astonishing 47% incline in commodity prices and a 3% surge in volumes. Exports are forecasted to strike $349 billion in FY22, up from $310 billion in FY21. With a consistent incline in volumes, price momentum is expected to determine changes in export earnings.

Fall in Mining Production due to External Factors: In June 2021 quarter, mining production declined by 1.3% QoQ, primarily driven by a 4.8% dip in oil and gas extraction due to unplanned and planned maintenance activities and a 0.8% decline in coal mining due to production, logistic and weather challenges, partially offset by favourable production in iron ore.

Mineral Exploration Exhibiting an Upward Trend: Despite COVID-19 challenges, the mining industry’s exploration activities stood resilient and consistent. In June 2021 quarter, total expenditure in exploration activities inclined by 3.7% and stood at $878.3 million. Existing mineral deposits surged substantially by 24.7%, and new deposits stood up by 23.1%.

Figure 2: Upward Trend in Total Expenditure in Mineral Exploration:

Source: Based on Australian Bureau of Statistics Data, Analysis by Kalkine Group

Index Performance:

The ASX 200 Materials Index (GIC) Index posted 2-year returns of ~+19.97% compared to ~+11.47% by the ASX 200 Index. Increasing public infrastructure spend, transition to electric vehicles, battery storage and renewable energy generation, upward trending exploration activities and resurgence in industrialization have contributed to the sector growth.

Figure 3: The ASX 200 Materials Index (GIC) outperformed the ASX 200 Index in the past two years by ~8.5%:

Source: REFINITIV as of 21 October 2021

Key Risks and Challenges

The potential risk of decline in investment growth may prevail as growth in total investments dipped to 3.2% in June 2021 relative to 5.5% in March 2021. Electricity prices have nosedived considerably due to reduced demand and increased use of solar energy generation. Chinese demand for LNG may decline marginally as pipeline imports and domestic supply ramp-up. Prelude FLNG, a Royal Dutch Shell owned liquified natural gas platform, went through significant production disruptions and stood offline between Feb 2020 and Jan 2021, building a potential supply backlog. Australia’s copper mine production is affected by lower processing rates at several sites.

Figure 3: Key Risks and Challenges:

Source: Analysis by Kalkine Group

Outlook

Improving Commodity Prices: Positive momentum in commodity prices have substantially supported the operating surplus plus gross mixed income (GOSMI), which surged 3.2%, despite low production levels.

Potential for Higher Private Capital Expenditure: The Australian Bureau of Statistics estimates the new private capital expenditure to clock $127.70 billion in FY22, 12.5% higher than the previous estimate. Consequently, expenditure in mining activities is estimated to clock $39.78 billion by FY22.

Favourable Prospect for LNG Export Earnings: Australia’s LNG export earnings are revised by $6.7 billion in FY22 and by $4.5 billion in FY23, reflecting higher oil-linked contract prices and LNG spot prices.

Global demand for LNG to Incline: Global LNG trade is forecasted to incline by 2% in 2021, primarily driven by continued imports from the Asia-Pacific region and export growth from North America. Trade is further expected to surge by 7.8% in 2022 and 1.5% in 2023.

Positive Commercials for Copper Prices and Exports: Copper prices have increased in 2021 and are expected to stand by the pace of most recent gains. Export volumes are expected to increase marginally to 909,000 tonnes in FY23.

II. Investment theme and stocks under discussion (EWC, CCZ, ORG, BPT)

After understanding the sector, let us now look at four companies listed on the ASX. The price potential of the companies under discussion has been analysed based on TTM valuation and ‘EV/Sales’ multiple methods.

1. ASX: EWC (Energy World Corporation Ltd)

(Recommendation: Speculative Buy, Mcap: A$234.73 million)

EWC is engaged in the production and distribution of power and development of LNG projects.

Valuation

The stock of EWC gave a positive return of ~54.896% in the past year. On a TTM basis, the stock of EWC is trading at a Price/Book Value multiple of 0.2x lower than the industry median (Utilities) of 2.1x, implying undervaluation. Considering binding development agreement, the potential for improved LNG prices in FY22, and TTM valuation, we give a “Speculative Buy” recommendation on the stock at the current market price of $0.090, as of 21 October 2021. However, investors with a high-risk appetite should evaluate this stock given the technical support and resistance levels and consider associated risks such as high financial write-offs and potential competitive threats.

Technical Overview:

After a long price consolidation, EWC stock price broke the downward sloping trend line by an upside on 11th October 2021 and recently took support of the same downward sloping trend line. RSI (14-Period) is hovering at ~62 level indicating strong price momentum for the stock.Further, a 21-day SMA golden crossover over 50-period SMA has been formed indicating prices is trading in a positive trend. Immediate support levels are AUD 0.085 and AUD 0.080 while immediate resistance levels are AUD 0.103 and AUD 0.120.

2. ASX: CCZ (Castillo Copper Limited)

(Recommendation: Speculative Buy, Mcap: A$55.81 million)

CCZ is engaged in the exploration of base metals such as copper, nickel, and cobalt.

Valuation

The stock of CCZ gave a negative return of ~14.286% in the past year. On a TTM basis, the stock of CCZ is trading at a Price/Book Value multiple of 2.9x lower than the industry average (Basic Materials) of 409.3x, thus seems undervalued. Considering surge in demand for lithium, favourable copper price movements, and TTM-based valuation, we give a “Speculative Buy” recommendation on the stock at the current market price of $0.041, as of 21 October 2021, at 10:30 AM (GMT+10), Sydney, Eastern Australia. However, investors with a high-risk appetite should evaluate this stock given the technical support and resistance levels and consider associated risks such as absent top-line and high liquidity risk.

Technical Overview:

CCZ's s prices recently broke a downward sloping trend line by an upside on the daily chart, indicating an upside direction for the stock. The leading indicator RSI (14-period) is moved from mid-point to ~60.30 levels, supporting an uptrend. Now the crucial support level for the stock is at AUD 0.035 while resistance is at AUD 0.049 level.

3. ASX: ORG (Origin Energy Limited)

(Recommendation: Hold, Potential Upside: High Single-Digit, Mcap: A$9.05 billion)

ORG is engaged in distributing electricity, natural gas, LPG, and green power products to Australian homes, businesses, and industrial customers.

Valuation

Our illustrative valuation model suggests that the stock has a potential upside of 8.24% on 21 October 2021. Moreover, we believe that the stock might trade at a slight premium compared to its peers’ average EV/Sales (NTM Trading multiple) given ORG’s strategies to maximise value and well managed operating cash flows. For the said purposes, we have taken peers such as AGL Energy Ltd (ASX: AGL), Delorean Corporation Ltd (ASX: DEL), Titomic Ltd (ASX: TTT), to name a few. Considering the improved cash flow position, potential resurged in energy prices, and valuation, we give a “Hold” recommendation on the stock at the current market price of $5.180, up by ~0.778% on 21 October 2021. In addition, the stock has delivered an annualised dividend yield of 3.89%.

4. ASX: BPT (Beach Energy Limited)

(Recommendation: Hold, Potential Upside: High Single-Digit, Mcap: A$3.28 billion)

BPT is an Australian-based oil & gas exploration and production business. It primarily operates in the exploration, development, and production of hydrocarbons.

Valuation

Our illustrative valuation model suggests that the stock has a potential upside of 8.08% on 21 October 2021. Furthermore, the stock might trade at some premium compared to its peers’ average EV/Sales (NTM trading multiple), given the well-diversified oil & gas production portfolio and favourable production expectations from Perth Basin & Victorian Otway. For valuation, peers such as Senex Energy Ltd (ASX: SXY), Whitehaven Coal Ltd (ASX: WHC), Santos Ltd (ASX: STO) are considered. Considering cash flows and top-line at elevated levels, increased investment avenues, and valuation, we give a “Hold” recommendation on the stock at the current market price of $1.435, down by ~0.348% on 21 October 2021. In addition, the stock has delivered an annualised dividend yield of 1.38%.

Note: All the recommendations and the calculations are based on the closing price of 21 October 2021. The financial information has been retrieved from the respective company’s website and REFINITIV.  

Investment decisions should be made depending on the investors' appetite on upside potential, risks, holding duration, and any previous holdings. Investors can consider exiting from the stock if the Target Price mentioned as per the valuation has been achieved and subject to the factors discussed above.

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