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5 funds to catch the electric wave

Glenn Freeman  |  13 Apr 2018Text size  Decrease  Increase  |  
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Each of these Australian-domiciled funds hold positions in companies providing raw materials for the expanding lithium battery segment.

Global demand for lithium carbonate is expected to double over the next decade, particularly from electric battery applications in transportation and energy storage--such as South Australia's world-leading mega-battery project.

The world's largest lithium producer, SQM, is a South American company operating in Chile's Atacama Desert--home of the world's largest lithium reserves. It also operates joint ventures in Argentina and Australia.

Lithium demand by end applications (2013-25)


chart
Source: Deutsche Bank; Industry data

Along with its largest competitors Albemarle, FMC and Sichuan Tianqi account for around 80 per cent of global lithium supply.

Australian Securities Market-listed companies Pilbara Minerals (ASX: PLS), Syrah Resources (ASX: SYR) and Galaxy Resources (ASX: GXY) occupy smaller but important positions within the sector--given Australia is the largest lithium producer.

Morningstar's lithium price forecast of US$10,250 per metric ton in 2017 was up from US$9,000 per metric ton a year earlier.

In addition to lithium carbonate--the best known and largest mineral used in modern battery technology--manufacture also requires graphite, and cobalt--of which Australia also holds large deposits.

Morningstar doesn't currently provide direct research coverage on any of the companies mentioned above--Pilbara, Syrah and Galaxy have market caps of $1.3 billion, $930 million and $1.2 billion, respectively.

However, the following actively managed funds with Morningstar gold, silver and bronze medal ratings hold lithium exposures of more than 1 per cent, one as high as 3.6 per cent.
BT Wholesale Smaller Companies (2725) holds a Morningstar gold medal, and has a track record of consistently outperforming its benchmark, the S&P/ASX Small Ordinaries Accumulation Index.

Key companies must have scores of between 75 and 100 and market caps of at least $300 million; core companies must score between 60 and 75. The companies the fund's portfolio managers deem as "emerging" have market caps below $100 million and score between 40 and 60, according to Morningstar senior manager research analyst, Ross MacMillan.

Grant Samuel Tribeca Alpha Plus (15451) holds a bronze medal, and is a long-short fund following an approach combining quantitative and fundamental research.
"Returns have exhibited a profile of feast or famine. Investors need a long-term mind-set here to benefit from this strategy," says Morningstar analyst, Elliot Lucas.
He also notes the fund has a performance fee, which makes it expensive. "Investors are paying for high active share, but we believe that this is a well-run strategy that should pay off for investors seeking a differentiated flavour of Australian equities exposure," Lucas says.

Ausbil Australian Emerging Leaders (10601) is, according to Morningstar analyst Sara Fox, "a compelling option for Australian mid-cap exposure".

Though she notes its "growth tilt and bias to mid-cap names" can see it underperform "when small caps run".

"That said, the strategy has performed strongly and consistently over the long term. Supported by a reasonably structured fee," Fox says.

Silver medal fund, Ironbark Karara Australian Small Companies (14111) also has something of a growth bias, which currently means it holds high exposures to technology stocks--though it was also been overweight mining and consumer staples in mid-2017.

"Although top-down themes are unlikely to ever dominate, the team does look to anticipate cyclical or secular trends that affect earnings," says Morningstar's MacMillan.
"Given the comparatively under-researched nature of small-cap investing, such anomalies can prove very profitable."

Though this discussion concentrates on actively managed funds, exchange-traded funds tracking various indices--including the above-mentioned S&P/ASX Small Ordinaries Accumulation Index--can provide exposure to companies within the lithium and related space.

The iShares S&P Small Ordinaries ETF (ISO) offers a low-cost, passive approach to small-cap investing. "However, we continue to believe active managers have an edge in this space," says Morningstar manager research analyst, Anshula Venkataraman.

"Still, for those who want passive exposure, iShares is well qualified as the largest exchange-traded fund manager in the world. ISO aims for full replication and keeps tracking error to a minimum.

"Sector exposures have fluctuated over time with the index. For example, materials exposure has fallen from a high of 44 per cent in 2010 down to 19 per cent by late 2017. Unlike large-cap indexes, ISO is more evenly distributed, with the biggest name less than a 3 per cent weighting and a long tail of tiny positions."

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Glenn Freeman is senior editor, Morningstar Australia.

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