Non-Correlated Assets Can Buffer Turbulence

by: Emmet Kodesh

August 8 demonstrates the merits of the title's point, particularly in regard to PMs (precious metals). Sentiment on this sector has been extremely negative YTD which has suppressed prices despite positive fundamentals. The result has been to create excellent value and growth buys with a low 'r' (correlation) to the primary asset classes. The belated surge in PM miners today, with most companies showing gains above 6% (and many above 9%) indicates the worth of value and contrarian buys generally and of having low-correlation assets in your portfolio. This is true whatever the macro context and the global situation today is replete with snares.

Many potential crises and organic problems challenge global economies, currencies, trade and, thus, individual portfolios. Despite upbeat narratives about growth and employment, the job and real income picture in America is poor: hours/week (for those who are working) have been steadily dropping as creation of part-time jobs with no benefits far outpaces full-time hires YTD. Asset levels in the primary classes, stocks and bonds are inflated by POMO (permanent open market operations) also known as QE or the Fed's daily purchases of $.5 - $5.8 billion in Treasury debt and MBS. Europe teeters between contraction and sluggish growth and its jobless levels invite social unrest, political upheavals and ongoing demographic disasters. This last issue looms over all four major blocs: Europe including Russia where for five years birth rates head toward extinction, America, China and Japan. The proportion of those with full time jobs to those without or retired sets new highs every week. Geopolitical maneuvering has seeded the world with simmering crises.

In times of crisis and uncertainty from fiscal policies to geopolitics, it is wise to hold assets non-correlated with typical market trends. Tuesday August 6, a day when rising taper talk led to broad market decline in every sector and asset class, revealed a few companies or commodities that generally do not correlate with their sectors or the markets as a whole. Several of these have shown strength during the recent red days and that have distinct merits as mid to long-term holdings. Among the two hundred+ companies I monitor daily for my writings, I want to examine a few that for this year have shown strength when the markets gasped.

Many of these non-correlated assets are commodities, a sector suffering secular pain. A notable number were in the ME (media-entertainment) complex which, as often, is roiled by short term squabbles about licensing and fees, currently involving CBS and Time Warner Cable (TWC). On August 8, the deep value and mid to long term growth buy, Barrick Gold (NYSE:ABX) highlighted the thesis, +7.35% as of this re-writing.

Several of the assets I will review in this piece are long-term buys aligned with socio-economic and monetary-commercial trends: others also are good value, income and growth plays.

The company that has stood out best recently is Freeport McMoRan (NYSE:FCX). I have written focus articles on FCX and mentioned it often because its diversification into American oil & gas in my view greatly increased its growth potential and diminished its reliance on copper, gold and molybdenum in overseas venues. Moreover, by annoying fund managers, analysts and shareholders who had used it as a proxy for copper (and, thus, for global growth), the share price of FCX that first week of December 2012 was driven down 28% making it a great value buy with a large dividend (currently 4.3%) sustained by a $5.1 billion cash flow on $18 billion revenues likely to rise with its new oil & gas segments. Additionally, head of the oil & gas unit, James Flores, previously principal of Plains Exploration & Production (NYSE:PXP), in June and July made two large purchases of FCX shares totaling over $45 million. CEO James Moffett purchased $21 million shares. In a June 19 article, Street Authority termed FCX a buy with a 12-18 month target price of $43. It is up 4.86%, 25x the DJIA and 11x the S&P as I write.

Two other key points on FCX: while the price of copper has dropped 33% since 1Q 2011 and is now about $3.10/lb, FCX production costs are about $1/lb. It is a remarkable growth, income and value play with global reach and massive reserves and it straddles the commodity and energy markets. This should help it outperform its sectors and be free from constraints hitting copper or gold, or rare earths, etc. To me it is a top pick for a low 'r' asset and a strong buy below $32. It closed August 7 at $29.43 having paid its quarterly dividend August 1. In the August 6 decline FCX rose +.48%. Today's news that China's imports of iron ore rose 17% in July over June and +26% Y/o/Y add to the many positives for FCX and other major mixed commodity miners I have noted as value and income buys like Rio Tinto (NYSE:RIO).

For contrast in market cap and focus, consider a junior Canadian commodity miner, Reservoir Minerals (OTCPK:RVRLF) linked to FCX via a promising joint venture and as a company highly non-correlated both with its commodity sector and the markets generally. As the indices fell about .45% August 6, RVRLF rose 4.65%. It closed August 7 at $3.26/share, up another 3.29% as the indices fell. It is up a further 5.58% as I write.

RVRLF is 45%-55% partner with FCX in developing very high grade copper, silver and gold veins at Timok and Bor in east central Serbia. Bor is at the northwestern end of a rich vein of metals that runs from northern Greece into west central Romania in both of which places Eldorado Gold (NYSE:EGO) has developing and producing sites. With copper concentrations 9-16x typical grades, RVRLF has traded mostly up, with lots of back and forth since 3Q 2012 when news of initial sample quality emerged. YTD it has traded from $2.10-$3.45 with both the high and low in mid-April. Enter near $2.50 and hold long term. Or watch for a while to familiarize yourself with its weekly swings and low market correlation.

Among energy issues I track, there was one notable gainer on August 6: Vanguard Natural Resources, an oil and gas exploration and development LLC that adroitly shifts its weightings based on relative pricing and acquiring distressed but rich properties. It pays a 9% dividend distributed monthly and routinely trades between $27 - $29.50/share. An abrupt two-day plunge late in June reflected negativity about its offering of senior notes but it soared back in a V-rise to its usual range and hefty payout. It carries long-term debt typical of its class but has a solid quick ratio of 1.43. It is an excellent low 'r' high-yielding asset. In the August 6 drop it rose .67%.

Consider Dominion Diamond (NYSE:DDC), formerly Harry Winston Diamond a different kind of precious metal holding uncorrelated to its sector or the indices. Its $230 million cash & equivalents are 3x its total debt, it has a fine 1.0 quick ratio and a total debt/equity of only .11. It pays no dividend and is not volatile relative to its sector, having a 52-week trading range of $13.20-16.80. Note that while its $598 million cash flow and $525 net income are fine, the latter 21% of revenues, it has negative 40% revenue growth. An interesting holding, it is not among my top five picks of uncorrelated assets despite the merits that may make it appealing to many investors as a low 'r' hedge.

Three of the best performers August 6 were in the ME sub-sector. In my August 2 piece I explained why I believe these companies should be viewed as distinct from Consumer Discretionary because of their role in cultural definition and links to governance. In any case, mega-cap Disney (NYSE:DIS), News Corp (NASDAQ:NWSA), which separated June 28 from its Fox film media and entertainment sectors and Netflix (NASDAQ:NFLX) were strikingly strong August 6, rising 1.56%, 1.12% and .81% respectively. While I view all three as strong buys I would not enter them now because they are at elevated levels at a time of significant macro snares for equities (and bonds). Discovery Communications (NASDAQ:DISCA) which alone among the ME group is not very near the top of its 52-week range, bucked trends by showing modest gains both August 6 (+.19) and 7th (+.17%). FOX, DTV and NWSA, respectively up 4.40%, 1.92% and 1.69% led many of this sector's out-performers August 8.

Commodities hold some of the most interesting low-correlation values after a difficult year. Corn (NYSEARCA:CORN) and Wheat (NYSEARCA:WEAT) have been making new 52-week lows and are strong contrarian plays with high growth potential tied to demographics and climate. Tied to them, Global X Fertilizer ETF (NYSEARCA:SOIL) is at a 52-week low and while this year's crop is expected to be bountiful, the sector has the same thesis for growth. CORN, WEAT and SOIL rose August 6 .11%, +.48% and +.55% respectively though they gave up their gains August 7. August 8, in diverse ways they showed their low 'r': CORN and WEAT were slightly down while SOIL rose 2.92%, 12x the DJIA. The commodity that continued rising in these modestly red days was the DJ-UBS copper index (JJC), +.15% August 6, +.39% August 7 and +2.89% August 8. It has risen 9% off its recent 52-week low though the outlook is for copper prices to stabilize as it is correlated and tied to challenged global growth. I believe that uranium (NYSEARCA:URA) has a strong mid to long-term outlook as does Nuclear Energy (NASDAQ:NUCL). URA is +4.23% as I write.

In my watch list of major Producers and Suppliers of basic materials like steel, energy, chemicals, electronics, aerospace and defense and transportation the results August 6 were uniformly dismal. Though there are many great companies there, e.g. United Tech (NYSE:UTX) that will thrive even in difficult times, they have shared this week's decline. Showing a breakdown in the "classic" inverse correlation of USD strength to precious metals, the DXY index fell throughout the day August 7 as did most PM companies that opened strong but fell with the dollar as the afternoon waned.

Depressed PM prices make the sector a strong value play whose action is volatile and often divorced from relevant fundamentals. The best mid-cap gold play is EGO and in silver, First Majestic (NYSE:AG). The least challenged by debt among the major players is Goldcorp (NYSE:GG) as noted in my previous article. They were among sector leaders August 8, up 8.38%, 5.48% and 5.94% respectively. The best low 'r' juniors, Fortuna Silver (NYSE:FSM) and McEwen Mining (NYSE:MUX) were +5.45% and 8.99% respectively at 2PM August 8. Also notable is mid-tier IamGold (NYSE:IAG) which I often have mentioned as a trading vehicle. It is +12.8%. It has a great quick ratio, 3 and now yields 5.7% on a high 41% payout ratio. At this price it is a reasonable low 'r' income and growth as well as a value play.

For non-correlated assets in volatile times, first is FCX for its combination of value, income, growth and sustainable strengths. With a low 'r' as criterion, VNR is the best mid-tier play for income. The junior buy-and-hold is Reservoir Minerals. CORN, SOIL and WEAT should improve and you could choose one or two of them depending on your view of commodities. They now are values and will diversify most portfolios. I believe that the ME group will both out-perform and pull away from other assets barring changes in culture and governance and I don't see trend reversals in these areas. What will change is the world monetary system so I would include some of the precious metal companies noted above for non-correlation, value at current levels and a high probability of significant mid-long term growth.

Disclosure: I am long DISCA, GG, FOX, IAG. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.