Questor: Glencore has room to run higher even after its 26pc gain since our tip

Falling share prices prompt uncomfortable questions for investors. Should they sell existing holdings that are now trading at a loss? Or should they stick with loss-making positions in view of the potential for long-term recovery?

It is a quandary that this column has at times faced with mining company Glencore since it was tipped as a buy in July 2017. Although it now trades 26pc higher than at the time of our recommendation, and has outperformed the FTSE 100 by 25 percentage points, its shares have spent much of the intervening period in the red.

Now, though, the company has an increasingly upbeat outlook. Notably, it is shifting focus from fossil fuel assets such as oil and coal to commodities that are poised to play an integral part in the world’s low-carbon energy transition. It plans to direct around 75pc of its future capital expenditure to assets including copper, cobalt and nickel, which are used extensively in renewable energy projects and electric vehicles.

They are likely to be required for the world to meet its twin goals of reducing carbon emissions and addressing growing energy demand, which is forecast to rise by 19pc within the next two decades. Furthermore, long lead times on new mining projects and reduced exploration in recent years may inhibit future supply growth.

As Glencore has exposure to a wide range of commodities and geographical areas, unlike many of its pure-play rivals, it seems well placed to benefit from the ambitious net-zero targets of the world’s major economies and the population growth that is largely behind a surge in energy demand.

Encouragingly, the company’s latest production report stated that it was on track to meet full-year guidance. A further update is scheduled for release on Wednesday, while annual results are due on Feb 15.

The company’s shares could also be boosted by the rapidly evolving global economic outlook. America is experiencing its highest level of inflation since 1982. Since commodity prices have historically been positively correlated with a rapid rise in the cost of living, shares in mining companies could experience a fillip as inflation is widely expected to increase further in the current year.

Meanwhile, the outlook for global economic growth remains relatively upbeat. The IMF forecasts a figure of 4.4pc this year. Although this represents a 0.5 percentage point reduction from its October prediction, the emergence of omicron accounts for a large part of the downgrade. 

As the pandemic enters its endgame (we hope), an improving economic outlook and lessened chance of operational disruption could benefit Glencore’s financial prospects.

Even if commodity prices come under pressure, the firm’s improving financial position suggests it has a growing capacity to overcome them. Net debt declined by around 10pc in the first half of its current financial year and it now has a net-debt-to-equity ratio of less than 100pc. 

Furthermore, the company’s shares trade on a forecast price-to-earnings ratio of around 9. This indicates that they continue to offer a margin of safety should the firm’s prospects deteriorate in the short run.

Of course, the company’s decision to continue to operate its coal mines, rather than following many of its rivals in disposing of them, could be considered a red flag among investors increasingly focused on environmental, social and governance (ESG) matters. 

Meanwhile, ongoing investigations into the firm’s past practices, as well as the impact of tighter monetary policy on interest payments and the wider global economy, could inhibit its future performance.

However, in Questor’s view Glencore’s improving financial standing and switch to commodities that are likely to be crucial to meeting the world’s climate change targets suggest it has a sound long-term foundation from which to grow. 

Moreover, its low valuation, diverse asset base and a high global inflation rate mean its shares continue to offer a favourable risk/reward opportunity.

Questor says: buy

Ticker: GLEN

Share price at close: 393.25p

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