Natural Resources Flashcards
What do natural resources comprise of?
Commodities and raw land used for agricultural purposes, specifically farming and timber.
By investing in natural resources, institutional investors often seek to fulfill their ESG objectives.
Farmland, timberland, and raw land are similar to real estate investments in that they are unique, illiquid assets with distinct geographic locations and features, where the latter two characteristics have an influence on the value of the resource itself. They involve forms of ownership capital (claims to residual cash flows) and there may also be steady cash flow streams (lease, royalty)
What are differences between real estate and raw land, farmland and timberland investments?
Unlike real estate, there is limited or no focus on the physical improvements of the land. It is not the value of buildings, construction, and development that matters but, rather, the quality of the soil, climate features or geology. In real estate, it is the improvements that determine the value.
How can investors who don’t have the required knowledge invest in timberland?
Rely on timberland investment management organizations (TIMOs), which are entities that support institutional investors by managing their investments in timberland by analyzing and acquiring suitable timberland holdings.
Describe the factory and warehouse functions of timberland.
Timber can be grown (factory function) and easily stored by simply not harvesting the trees (warehouse). This offers the flexibility of harvesting when timber prices are up and delaying harvests when prices are down.
Farmland has little flexibility in production since the crops have to be harvested when ripe.
Farmland is highly sensitive to unexpected weather changes and climate developments that can easily destroy crops and eradicate revenue. This makes agricultural prices difficult to predict. That is why agricultural commodity futures contracts can be combined with farmland holdings to generate an overall hedged return.
An indirect benefit from farmland and timberland investments is that these natural resources consume carbon as part of the plant life cycle and their value comes not just from the harvest but also from the carbon offset to human activity.
Commodities themselves do not generate cash flows but usually incur costs, such as those for transportation, storage, and insurance for physical commodities. Investors seek to benefit from commodity price appreciation in excess of carry cost based on their future economic value rather than the actual use of the underlying asset.
Which three broad commodity categories are there?
Precious and base metals (gold, silver, platinum - copper, aluminium, zinc, tin)
Energy products (oil, gas, electricity)
Agricultural products (grains, stock, livestock)
Others are carbon credits, freight, forest products
The majority of commodity investing is implemented through derivatives. Physical commodities often generate unwelcome tax obligations and costs arising from storage, insurance, brokerage, and transportation. Additionally, physical commodity markets lack price transparency. Therefore, forwards or options are used.
What are ways to invest in commodities?
Through exchange-traded products which can be suitable for equity-seeking investors.
Investing with commodity trading advisers. CTAs are managed future funds that make directional investments primarily in futures markets based on technical and fundamental strategies.
SMAs.
Specialized funds investing in specific commodity sectors.
Commodities form a good inflation hedge and a source of portfolio diversification.
