Ian Cowie: 6% income on offer for a sector that’s wise to back

A 10-month high in the oil price, with Brent Crude briefly hitting $95 per barrel this week, is bad news for most businesses but a mixed blessing for shares in the ‘Commodities and Natural Resources’ sector.

Better still, for bargain-seekers who have left it a bit late in the day to get their ‘buying boots’ on, this corner of the Association of Investment Companies (AIC) universe continues to yield an average of 6% dividend income and trades 13% below its net asset value (NAV).

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The explanation is that many food and fuel businesses generate large amounts of cash but, partly because commodities tend to lack a moat against competitors, often trade at lowly valuations. However, prices can and do rise rapidly when the supply of vital - or at least difficult to replace - fungible assets are restricted, as is happening right now with the black stuff.

Saudi Arabia’s decision to cut oil production by one million barrels per day until at least the end of this year has tightened the squeeze that global markets have experienced since sanctions were placed on Russia, another major producer. No wonder Brent Crude has soared by 30% in the last three months.

But investment trusts such as BlackRock Energy and Resources Income (LSE:BERI), where the American oil giant, Exxon Mobil (NYSE:XOM), is the biggest asset, are lagging behind that upward curve. BERI’s share price is still down 4.9% over the last year, yielding 3.7% and trading at a 9.5% discount to NAV.

Longer-term total returns, as measured by independent statisticians Morningstar, demonstrate both the ability of this sector to deliver growth - and its cyclical nature. BERI shareholders nearly doubled their money over the last five years, gaining 95%, but only delivered 88% over the last decade.

A diversified portfolio of blue-chip businesses help to smooth out some of the shocks of the stock market. The world’s biggest miners, Glencore (LSE:GLEN) and BHP Group (LSE:BHP) are BERI’s second and third-biggest holdings, with Shell (LSE:SHEL) also in the top 10. Forward-looking assets include NextEra Energy (NYSE:NEE), which claims to be the world's largest wind and solar power producer, plus Albemarle (NYSE:ALB), a leader in lithium production for batteries.

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But today’s feast is often tomorrow’s famine in the commodities sector. This is because higher oil prices tend to depress demand. So energy investors might consider Geiger Counter (LSE:GCL), which is the top performer in the AIC ‘Commodities and Resources’ sector over the last five years with a total return of 133%.

As its name suggests, GCL invests in the exploration, development and production of uranium to supply the nuclear power industry. The disaster when a tsunami flooded the Japanese nuclear reactor at Fukushima in 2011, left this form of power generation under a cloud of suspicion for more than a decade.

So it is remarkable that GCL managed to double shareholders' money, soaring 100% over that period, albeit ending the last year only 1.4% up. Underlying holdings include Cameo, the Canadian uranium miner, plus the self-explanatory Uranium Energy Corporation (AMEX:UEC) and Fission Uranium Corp (TSE:FCU). GCL yields no income and trades at a 15% discount to its NAV.

However, it is only fair to point out that less hi-tech commodities have proved more profitable so far in this cycle. For example, BlackRock World Mining Trust (LSE:BRWM) - the ‘big brother’ of BERI, with total assets of £1.35 billion compared to the latter’s £198 million - is the sector leader over the last decade and one-year periods, with total returns of 114% and 6.2% respectively. Cyclicality is evident, once again, in the five-year return of 124%.

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As its name suggests, BRWM’s top holdings are the mega-miners Glencore and BHP, with their rival Rio Tinto Registered Shares (LSE:RIO) in third place. Most importantly for income-seekers, BRWM yields a sector-leading 6.6% with dividends increasing by an eye-stretching annual average of 21% over the last five years. No wonder this nimble giant, which is preparing to celebrate its 30th anniversary in December, trades at a modest discount of 1.9% to its NAV.

Commodities and resources companies tend to get overlooked when technology shares are soaring, but it is hard to imagine a world without oil - if only for making plastics - or copper or steel. So some exposure to these sectors for growth and income seems wise, whatever happens to interest rates and the economy in the months and years ahead.

Ian Cowie is a freelance contributor and not a direct employee of interactive investor.

Ian Cowie is a shareholder in BHP Holdings (BHP) and Exxon Mobil (XOM) as part of a globally-diversified portfolio of investment trusts and other shares.