The past 12 months has seen a significant shift in fortunes for BlackRock World Mining Trust (BRWM), which appears decisively for the better. The team’s long-running investment thesis – of investing in miners which show capital discipline and a willingness to reward shareholders with dividends – is paying off. Commodity prices have remained firm during 2020, and in most cases seeing gains with a background of supply constraints.
On the demand side, despite the pandemic induced economic slowdown, global demand for commodities seems rosy. Thanks to several themes identified by the managers, this looks set to continue for the short to medium term. As we discuss in Portfolio, amongst these are the stimulus-led synchronised global infrastructure spend in the offing. A further boost for BRWM is the apparent focus by governments to use stimulus to accelerate the decarbonisation of economies, which will mean a significant increase in demand for copper and other metals if it transpires. In the team’s view, inflation is also a likely prospect, which historically has been supportive of commodity prices and related equities.
Relative to the reference index and broader equity market, BRWM’s Performance during 2020 has been strong. BRWM is a specialist trust which aims to maximise total real returns. However, of ever-increasing interest – especially in an environment where income sources elsewhere are under pressure – is the Dividend component. The trust structure enables illiquid investments including debentures and unlisted royalties which are clearly contributing strongly towards helping BRWM achieve its yield objectives.
With a renewed interest in commodity related investments, the Discount has narrowed decisively. Over the past three years, the average discount has been 12.3%, compared to the current premium of 0.8%.
The convergence of several powerful themes that underpin BRWM have resulted in a swift narrowing of the discount. In our view, BRWM’s structural features fully justify the positive attention in what appears to be a bullish environment for the strategy.
BRWM appears to be in a strong income position in the current environment, with lowly geared underlying companies and supportive commodity prices. Whilst certainly a lasting recession would not be good for BRWM, over the short to medium term there appear to be a number of tailwinds which make BRWM attractive, including to investors focussed on income. Based on published information, the dividend for this year could be a maximum of 20.4p, representing at least a 7% reduction from 2019. If paid (and there are no guarantees), this represents a yield of c. 3.5%.
As regards capital, the team’s adroit asset allocation positioning during 2020 has clearly been a key driver of returns, and enabled a strong performance both relative to the reference index, but also wider equities. The mining sector has historically been significantly more volatile than broader indices. However, in our view BRWM offers some highly attractive attributes which the managers expect to be the beneficiaries of structural tailwinds. They are increasingly bullish, and the discount moving to a premium of 0.8% suggests that investors share their view. Whilst risks to the discount widening remain, we believe BRWM’s attributes relative to open-ended competitors mean the current level is justified.
|Large liquid trust in a specialist sector, using the structure's flexibility to the full
||Single sector portfolio means NAV is likely to be impacted by changes in global economic growth
|Prospects for attractive dividend yield
||Dividend yield (both underlying, and that of the trust) is not progressive
|Structural tailwinds to the investment case look well set
||Discount is narrow in historic context, presenting risks of it widening should sentiment turn
BlackRock World Mining (BRWM) is a specialist trust, with an objective “to maximise total real returns to shareholders through a worldwide portfolio of mining and metal securities”. The team behind it at BlackRock are one of the best resourced globally and, before 2020, have been seemingly ploughing a rather lonely furrow, with a wide discount reflecting investor disinterest in the sector. However, 2020 has seen what the managers believe is the start of a bullish phase for the sector and the trust. The long running thesis that underpins their confidence is simply that for many years now management teams in the mining sector have shown much stronger capital discipline and a greater focus on profitability. This means that all around the world production and supply of mined commodities is relatively tight.
In the managers’ view, 2020 has fired the starting gun for a protracted expansion in demand for these commodities – for a number of reasons that we explore below – which will likely extend for a further three years, or potentially longer. This view has been reflected in commodity prices this past year which, perhaps confounding expectations during the covid-induced economic slowdown, have increased dramatically. The immediate price rises are partly a reflection of one of the key themes that BlackRock see as underpinning the sector – that of supply tightness. Since the peak in global mining capex spend in 2012, capital spending across the sector fell by ~50% by 2016, and has barely increased over ensuing years. Aside from significantly strengthening balance sheets in the sector, the managers note that, globally, miners are not in a position to increase supply. Copper and iron ore are a case in point, with production estimates down 4.3% and 4.9% over 2020 compared with expectations. Global inventories of copper are around half of what they were in 2017, again pointing to a tight market.
Combined with tight supply conditions, the managers believe that a synchronised global infrastructure spend is in the offing, the result of a need to stimulate post-covid economies. The announced numbers are quite staggering, but of course it remains to be seen if and how this stimulus is spent. That said, within the US and Europe, the stated intention is to use this opportunity to generate jobs and spur the transition to a sustainable economy through focussing on renewable energy and decarbonising transport. It is this focus on “building back better”, which the managers view as a huge opportunity for the mining sector, given that copper, lithium and other metals will be needed in huge quantities if economies are to decarbonise by adopting renewable power and electric vehicles.
With all the stimulus spending, BlackRock are also cognizant of the risk of inflation finally creeping into the global economy. They point to a recent Morgan Stanley paper which shows that, during 11 periods since 1998 in which inflation was “sharply rising”, commodity prices tend to be positively correlated with inflation expectations. As a result, mining equities have in the past performed strongly both on an absolute and relative basis on average during these periods. Past performance is no guide to future performance, but it does highlight that, unlike broad equities and bonds, inflation could be a positive for BRWM. Aside from the strong tailwinds that the team see for their sector, they highlight three main risks to their bullish outlook, which include a more protracted pandemic, China and US tensions escalating, as well as the potential for underlying management teams to become less disciplined.
Led by Evy Hambro and Olivia Markham, the natural resources team at BlackRock tend to run a highly concentrated portfolio for BRWM when compared to typical equity funds. However, when compared to diversified mining companies such as BHP and Rio Tinto which investors may hold directly, BRWM can be seen as offering a significantly more diversified exposure. As the table below shows, c. 56% of the trust’s portfolio is invested in just ten companies (through equity and debentures/royalty investments). In total the team tend to run the portfolio with around 60 holdings, with smaller investments typically represented by more growth-oriented bottom-up ideas. Evy’s focus on the ‘majors’ is a long-running theme.
TOP TEN HOLDINGS
% of Total assets
|Vale (equity & debenture)
|Wheaton Precious Metals
|Oz Minerals (royalty & equity)
|First Quantum Minerals (equity & debt)
Source: BlackRock, as at 30/12/2020
As we discuss in Performance, the team have ample flexibility to shift allocations between commodities depending on their view at the time, which they see as a key tool to enable long term outperformance – and a smoother trajectory – when compared to the diversified global miners. One of the big drivers of the strong returns relative to the sector this year has been the significant position that the team took in gold miners over a year ago, which has been ramped up from 17% as at the end of January 2019 to c. 35% in the latter half of 2020. Since then, following the strong performance, exposure has been reduced to c. 26%. The team believe that gold has strong inflation protection properties, and with negative real interest rates expected to persist for the foreseeable future, it is an attractive ‘currency’ to hold.
Aside from the positive tailwinds identified by the managers and their active approach, we believe that BRWM has specific attractions to investors which distinguish it from competitor open-ended funds. A strong driver of returns over the past few years, more particularly on the income front, is the team’s ability to use the structural advantages that BRWM can use. This includes the use of Gearing (which amplifies returns, helpful in 2020, but does also present risks), but also the ability of the team to invest in less liquid instruments (Vale Debenture) and unlisted investments (Oz Minerals Brazil royalty contract). The former has seen significantly increased distributions since the team upped their stake in early 2019, thanks to a strong iron ore price. The royalty investment has recently been written up in value by the board from $23.6m to $30.1m, representing an increase of 28%.
The original royalty investment was $12m in 2015 and, so together with the income received since the investment was made, so far represents an over 200% return on the original investment. Aside from total returns, this royalty has provided a helpful boost to the income generated by BRWM, which as we discuss in Dividend, means that the trust continues to deliver an attractive level of income to shareholders.
In the managers’ view, the trust’s underlying income attractions are strong, with their underlying businesses having strong balance sheets and management focussed on providing investors with a strong dividend flow. This puts them in a strong position relative to the wider equity market, many areas of which are highly indebted and have had to cut dividends. In this way, BRWM would appear to us to be set fair for the foreseeable future, and the managers are bullish on the trust’s prospects. They note that valuations in the sector remain low relative to other areas of the equity market. The team note they are able to maintain a quality bias in the portfolio with a focus on companies with stronger balance sheets and lower costs, without sacrificing potentially strong returns should commodity prices remain strong.
BRWM typically employs gearing to help it achieve its objectives, currently 12.6% of NAV. However, the team generally use gearing to keep equity exposure close to 100%, and use borrowings to diversify the sources of revenue through investments in bonds, debentures or royalties. Gearing is provided through a flexible facility which the trust can draw down or repay at any time, and is limited to 25% of NAV.
As the graph below shows, the trust’s gearing measure has generally been in the low teens for some time. We understand that the spike seen in early 2020 was down to market movements rather than any specific decisions to add gearing by the managers. That said, it does highlight one of the issues of having gearing, which can increase during sharp market movements downwards. This is only a problem if this forces a manager to de-gear at low valuations, rather than as was the case with BRWM where the managers were able to hold their nerve and enjoy the recovery in markets.
BRWM offers a highly actively managed exposure to the metals and mining sector. The management team behind the trust is one of the most experienced specialist investment teams in the world and, with the huge resources of BlackRock behind them, we think they are in a good position to manage investments on a global basis in an industry sector that is also truly global. In this regard, the BlackRock team aim to deliver returns with a smoother trajectory than that granted by holding a single (albeit diversified) mining company. They aim to achieve this by taking advantage of the trust’s ability to be more flexible and nimble than a diversified miner could be as regards allocations to specific commodities or metals.
It is this active management that has enabled BRWM to benefit from the strong performance from both copper and gold over the past 12 months which, as we discuss in the Portfolio section, are currently the biggest underlying exposures. The team anticipate that the extraordinary expansion of central bank balance sheets will (finally) create inflation, and that gold miners will benefit from a sustained (and possibly rising) gold price. As a result, the team decisively increased the weighting over H1 2020, resulting in exposure peaking at c. 35% in late 2020. Since then, the exposure has been reduced slightly to the current level of 26%. These asset allocation moves would take time periods in the years, or even decades for a miner, and so the outperformance of the sector index as shown below can be at least partly attributed to the team’s adroit positioning and moves between commodities.
Over the 12 months to 29/01/2020, BRWM has delivered a NAV total return of 33.6%, significantly ahead of the benchmark return of 23.4% and the S&P 500 return of 9.1%. In the charts below we also include the old ‘reference’ index used by the board, the EMIX Global Mining Index, which was replaced at the start of 2020 by the MSCI ACWI Metals and Mining Index.
Past performance is not a reliable indicator of future returns
In the graph below we illustrate the past five years. Returns have been very strong relative to wider equity markets, but it is important to note that some of the returns represent a bounce-back from 2015, which was a very poor year for the mining sector (see the calendar-year total return graph further below). The very strong period of performance latterly is, we believe, a function of a confluence of themes which are converging to the benefit of BRWM.
Past performance is not a reliable indicator of future returns
The graph below illustrates calendar-year returns against the new reference index and global equities. It serves to highlight the very volatile period for the trust (and sector) during 2015 and 2016. This occurred against a backdrop of growing concern over systemic global risk from an overextended Chinese economy and a tightening of global monetary conditions from the policies of the Federal Reserve. The Fed’s reversal in early 2016 caused a rapid reversal in the relative fortunes of commodity miners on anticipation of global reflation, with seismic U-turns in market expectations. From an investment perspective, the volatile times the sector experienced have put a lot of people off, and are one reason why mining shares have been so under-owned by institutions over the past few years. That said, the unique investment environment that 2020 has provided has shown the mining sector in a more attractive light to generalist and thematic investors alike.
DISCRETE CALENDAR-YEAR NAV RETURNS
Past performance is not a reliable indicator of future returns
In our view, income is one of the key attractions of the mining sector and is likely one of the key contributors to the discount to NAV having moved in during 2020 (see Discount). A long running investment thesis of the management team has been that the mining ‘majors’ will remain disciplined on funding capex for new speculative projects. This has enabled them to first pay down debt, but also to pay out excess cash flows as dividends. This year has seen some important developments in this regard, with key commodity prices rising dramatically on expectations of significantly higher (stimulus-led) demand and constrained supply. As many generalist investors have noticed, this has put the sector (and BRWM) in good stead relative to the wider market and equity income trusts.
BRWM does not itself have a progressive dividend policy, but the board has committed to pay out substantially all of the trust’s income in dividends. Accordingly, shareholders should note that there is no certainty that any historical level of income will be maintained. BRWM’s managers and board have been focussing on diversifying the sources of revenue from which the dividend is paid, which is part of the reason for the trust’s investments in royalties and debentures. BRWM’s exposure to royalties (which directly benefit from rising commodity prices) will have boosted revenues this year. We expect an updated breakdown when BRWM publishes its annual report to 31/12/2020. The graph below (showing data from the previous year) illustrates the point, and that equities provide around half of the trust’s portfolio revenues. Within this we note that large, diversified miners also do not have progressive dividend policies, and have in many cases made it explicit that they will only continue to pay dividends that can be covered by income.
BRWM has paid three quarterly interim dividends (4p per quarter) so far this financial year, with a final balancing payment in May. BRWM announced the 31 December 2020 NAV including current period income, and without. By deducting one from the other, income accrued but not paid out for 2020 was 8.41p per share. The board has committed to pay out the majority of income earned in any one year, and so it would seem that 8.4p is the maximum they might consider. If the board pays this entire amount out as a final dividend, the potential dividend payable for the current year is therefore 20.4p per share, although it is by no means guaranteed. Indeed, the board may see it as prudent to retain some income to build up reserves once again. If paid in full, a 20.4p dividend compares to the prior year dividend of 22p, representing a c. 7% reduction in the full-year dividend – not a bad result given the fact that it would be fully covered (by definition) and thinking back on the income carnage that has occurred in other sectors.
A 2020 full-year dividend of 20.4p (which is by no means certain given the final figure is yet to be proposed by the board), would equate to a dividend yield at the current price of c. 3.5%. On a headline basis, this is broadly in line with the Global Equity Income average of 3.8%. However, it is worth remembering that BRWM’s yield represents current income, whilst many equity income trusts will be supporting dividends with reserves. We therefore believe that relative to other equity income sources, BRWM’s dividend yield is attractive and, if 20.4p was achieved, it would represent a return to the levels of dividend paid in the earlier parts of the last decade.
HISTORICAL DIVIDEND PER ANNUM (2020 = estimate)
Past performance is not a reliable indicator of future returns
Whilst the board has committed to pay out the majority of income earned, it does have reserves to fall back on in the future. Based on the historic annual dividend of 22p, we calculate that revenue reserves were 0.62x (as at 31/12/2019). Although no formal plan is in place regarding the use of reserves in the future, reserves do provide a degree of reassurance for shareholders in the eventuality that the current momentum is not maintained over the short term.
Evy Hambro is co-lead manager on the trust and has been part of the BlackRock natural resources team since the trust launched in 1993. Olivia Markham was appointed co-manager in 2015. She joined BlackRock in 2011 from a role as head of commodity research on the sell side at UBS. Prior to this she worked at BHP in the M&A team.
The co-managers are supported by a team of four additional investment professionals within the natural resources team. As we discuss in the ESG section, the team also lean on the BlackRock Sustainable Investing and Investment Stewardship teams. Both provide guidance on best practice within investee companies, which the team can use when evaluating investment opportunities. In total, the natural resources team manage $23.3bn of assets.
As we note in the Performance section, 2020 was a strong year for the mining sector, with the trust and the benchmark outperforming wider equities by quite a considerable margin. As we also make reference, the income generating attributes of the mining sector – which has been in a protracted period of capital discipline – have likely burnished its attractions. But at the same time, commodities role in protecting in an inflationary environment and the central role copper will play in the energy transition mean that it now appeals to many different groups of investors.
As a result of these bottom-up and top-down factors, BRWM’s shares have been in demand. As the graph below shows, the discount for much of 2019 was wider than 15%. Over the past three years the average discount has been 12.3%, but latterly the discount has moved decisively in, and BRWM now trades at close to NAV (and occasionally at a small premium).
In our view, this is encouraging for investors, although it does present risks should sentiment suddenly swing against the sector. The board has historically made buybacks when the discount is wider than 15%, although there is no specific target. This means that the share price will likely find little support. The discount risks are therefore to the downside, but it is also worth remembering that BRWM is the only liquid investment trust which offers specialist exposure to the themes we refer to above. It also uses many of the structural advantages available to it as an investment trust, which differentiates it enough from open-ended peers that the current rating could plausibly be sustained over the short to medium term.
BlackRock calculates that the trust’s ongoing charge is 1.0% of NAV (based on average net assets for the year to 31/12/2019). The annual management fee is based on 0.8% p.a. of gross assets. However, if the NAV decreases quarter on quarter, the fee will then be paid on the basis of net assets (i.e. a lower number) for that quarter. BRWM’s OCF remains more expensive than the simple average OCF for global investment trusts (which is 0.66%, according to JPMorgan Cazenove). At the same time, BRWM is a specialist mandate and uses many non-standard tools to boost returns for shareholders – including investing in debentures as well as royalty investments. The latest KID RIY figure is 1.59%, including 0.31% of portfolio transaction costs.
For the second year running, Larry Fink’s (BlackRock CEO) annual letter to CEO’s is heavily tilted towards the risks posed by climate change. Having last year identified an acceleration of capital allocation towards those companies which help the economy move to a more sustainable footing, he remarks that “in March, the conventional wisdom was the crisis would divert attention from climate. But just the opposite took place, and the reallocation of capital accelerated even faster than I anticipated”.
As one of the largest asset managers in the world, BlackRock has taken up the ESG cause with enthusiasm. Fink notes his “enthusiasm about the future of capitalism and the future health of the economy – not in spite of the energy transition, but because of it”. This enthusiasm is clearly shared by the managers of BRWM, who see the energy transition as a key theme which will drive prospects for many of the companies that they invest in. As we discuss in Portfolio, mining companies have a huge role to play in providing the raw materials that will enable decarbonisation of the economy to occur. BRWM’s board has also stated that it is encouraged by the even greater emphasis now being placed on ESG by the management team, and by ESG’s systematic integration into the investment decision-making and monitoring process for the trust.
That said, we believe it is unlikely that BRWM will suit investors who have a very strict interpretation of what makes an ESG fund or trust, and certainly the portfolio is unlikely to score very highly in absolute terms. Morningstar, for example, scores it “below average” relative to the Natural Resources sector, but such quantitative interpretations of ESG have been shown to have wide variations in outcomes across different providers. That said, the natural resources team at BlackRock believe that engagement with companies on their transition to a sustainable future is a better route than divestment. A long-running aspect of their approach to investment is to consider a company’s ‘social licence’ to operate a mine or asset in a country. The team observe that however profitable an investment opportunity looks, if it has a strong negative impact on people or communities, then this clearly presents huge risks and the team will avoid the investment. In this way, Evy’s team see ESG as a process, not a set of rules.
Evy uses Vale as a good example of the team’s approach. Whilst some investors would consider the company a candidate for divestment following the tailings dam disaster in early 2019, the BRWM team have approached this differently. The team have spent a lot of time talking to management, and are confident that steps are being taken to significantly improve all aspects of the company’s ESG credentials. By remaining invested, and engaging with the board and senior management, BRWM can hold Vale to account and encourage the company to improve. Evy’s team lean on the BlackRock sustainable investing and investment stewardship teams. Both provide guidance on best practice within investee companies. We understand that further information on the team’s approach and interpretation of ESG will be published in the 2020 annual report, due to be published in the coming months.