In recent weeks, high-priced tech stocks have been selling off, while stocks in the commodities space have done relatively well. Commodity stocks were some of the best performers in 2021, after underperforming for much of the past decade.
The bounceback in demand from the pandemic has been strong, while the new U.S. infrastructure bill and global demand should only increase the need for more metals and energy. That's why Goldman Sachs analyst Jan Hatzius recently predicted last year's gains mark the beginning of a 10-year "supercycle" in commodities, and not just a one-off surge.
That may seem odd, since the past decade has not been kind to commodities. But if Hatzius turns out to be right, here are three top stocks that should be in your commodity basket. At current prices, each looks like an extremely good value today.
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Glencore
Glencore (GLNCY -1.02%) is a diversified producer of metals, including copper, zinc, nickel, cobalt, and coal, with a tiny portion of the business in oil. This large-cap stock is up about 50% over the past year, far ahead of the market, but it still doesn't look that expensive, with a 2.1% dividend and trading at just 6 times 2022 earnings estimates.
Glencore derives an outsize proportion of its EBITDA from copper, which is a critical metal for a variety of renewable-energy solutions, including wind, solar photovoltaic panels, electric vehicles -- even hydropower and nuclear energy. And a smaller portion of Gelncore's profits comes from nickel, which will also be a crucial metal in the clean-energy revolution.
Sorry to stringent ESG investors, but Glencore does also mine coal, which makes up 27% of its EBITDA at today's spot prices. So it is not exactly a "pure play" on renewables growth for the coming years. Yet Glencore's coal business benefited handsomely this year as energy shortages coming out of the pandemic pushed coal prices to new highs.
Still, the path to a more renewable future won't happen overnight, and as we saw this year, coal is still a large, though declining, proportion of energy production that's needed today. Overall, Glencore offers a diversified asset base that will benefit from elevated commodity prices in the near and intermediate future.
Diamondback Energy
Oil is another no-go for many ESG investors, but after tepid investment among oil companies over the past few years, we are experiencing rising oil prices now, with EV penetration still in the single digits. Yet some of the lowest-polluting, lowest-cost oil in the world comes from the U.S. shale patch, where Diamondback Energy (FANG 0.88%) is a large player.
Oil companies had a fairly lousy decade, which forced many shale companies to consolidate, seek efficiencies, and alter their business models away from relentless growth and more toward shareholder returns. Diamondback is such a name, recently selling off its North Dakota assets to de-lever its balance sheet and focus on its core low-cost assets in the Permian Basin of Texas. That, combined with the recent surge in oil prices, has allowed Diamondback to pay down $1.3 billion of gross debt over the second and third quarters of 2021.
Now that Diamondback has sufficiently de-levered, the company will now return more cash to shareholders. Management recently put forth a new model to use 50% of free cash flow for further debt reduction and the other 50% to return to shareholders in the form of dividends, variable dividends, and share repurchases.
Seeking ever more operating efficiencies, Diamondback's breakeven oil price is just $32 per barrel. At an oil price of $80 -- lower than prices today -- Diamondback would be on track to generate $3.5 billion in free cash flow in 2022, versus a market cap of just $23 billion today, for a price-to-free cash flow ratio of just 6.5.
If oil prices stay at these levels, Diamondback is seriously cheap, but if we get an upward price shock from a lack of supply investment or a Russia-Ukraine conflict, the stock would only look cheaper.
Steel Dynamics
Finally, with the passage of the infrastructure bill this fall and the recent boom in demand for autos, steel prices have come back in a big way this year. Steel prices skyrocketed this summer, leading to windfall profits for many U.S. steelmakers. While prices have already moderated a lot, steel prices are still well above their pre-pandemic levels.
Steel Dynamics (STLD -2.29%) is a relatively new steel company, founded in just 1993 and dedicated to modern electric arc furnaces that use recycled scrap metal with the latest technology. Because of its environmentally friendly, low-cost business model, Steel Dynamics has achieved above-average utilization and positive free cash flow every year over the past decade except 2020, which was obviously an extraordinary year. Yet even 2020 would have been free cash flow positive had the company not been building its brand new flat roll mill in Texas.
By the way, that flat-roll mill, which took three years and $2 billion to build, just came online in the fourth quarter of 2021 and will increase Steel Dynamics' future production by about 25%. With increased steel capacity and those elevated capital expenditures now behind the company, look for Steel Dynamics to generate even more free cash flow than its recent past.
From 2015 through 2020, Steel Dynamics averaged $1.2 billion in free cash flow, adjusted for the increased investments in the new Texas plant. Through the first three quarters of the boom year of 2021, Steel Dynamics had already generated more than $2.3 billion in free cash flow and would have reached $3.3 billion had it not been for the final spending on the Texas plant.
That's against a market cap of just $11.7 billion today. And even though prices have moderated from their summer highs, Steel Dynamics still trades at only 4.7 times next year's earnings estimates. Meanwhile, the company is striking a nice balance between debt paydowns, share repurchases, and a dividend that currently yields 1.74%. However, on the recent conference call with analysts, CFO Theresa Wagler hinted that the dividend could be raised in early 2022, although she didn't commit to any specifics.
