Matthew Bullock: Hello and welcome to the latest edition in the Global Perspective podcast series. My name is Matthew Bullock. I’m the Head of Portfolio Construction for EMEA and APAC here at Janus Henderson. And today I’m lucky to be joined by two different guests. Firstly, starting with Tal Lomnitzer, Senior Investment Manager for Global Natural Resources, and Michelle Dunstan, Chief Responsibility Officer.

So, Michelle, we’re here to talk about natural resources and you are the Chief Responsibility Officer. And those two things naturally don’t sort of feel like they fit. So, I mean, I grew up in a coal mining town and you know, I just remember holes in the ground, chimneys, polluted water and the air had that nice little tang to it. So why are we, why am I talking to the Chief Responsibility Officer about natural resources?

Michelle Dunstan: It’s a really good question and we get it a lot. And what I would say is a lot of people say: “Well, I don’t use commodities, I don’t use natural resources. I never go and buy iron ore or anything like that. Why are these things necessary?”

They think of commodities and mining natural resources in particular as very old economy, passé, going away – and that’s just not true. I mean, if you look around where we are today, almost everything here is made of commodities, whether it’s the microphones, the table. What did you bring with you today? You’ve got a cell phone, you’ve got a watch on, you’ve got a pen. All of that is commodities. How did you get here? Did you take the tube? Did you take a car? Again, built with commodities and most likely powered by commodities. So, commodities are a necessary part of the world today and tomorrow, and we all use them.

We don’t necessarily go and buy them ourselves, but they’re in almost every product around us. And we think about the future of the world, a future that is probably going to decarbonise and look slightly different. Commodities are actually a big part of that. So, only 25% of the world’s oil actually goes into passenger vehicles. So even if we move to 100% EVs tomorrow, and that’s not likely, we’re going to need oil for decades to come. It goes into chemicals, paints, a lot of other products that we use. And what powers your electric vehicle and what creates that energy transition? It’s buying commodities. Lithium, cobalt, manganese, copper. Those are all things that go into electric vehicle batteries, solar panels, wind turbines, again, made with commodities. These are products that we actually need. So as responsible investors, we need to actually invest in things that are going to enable an energy transition, but very cognizant, aware of how the companies themselves are extracting and behaving behind that.

Bullock: So, Michelle, your background is also sort of different to everyone else I’ve met in the sort of world of responsibility because correct me if I’m wrong, you were a metals and mining analyst before you moved into this sort of role.

Dunstan: I was. I’ve been in the investment management world for over 20 years now and the vast majority of that time was spent as a portfolio manager and analyst focusing on mined commodities. So, like Tal, and Tal’s rock samples, here, I visited a lot, I visit a lot of mines around the world. But when I think about these things, as I said, they’re necessary, but ESG [Environmental, Social and Governance] or considering the financially material, environmental, social and governance aspects was part of how I tried to make money for clients.

So, when you’re looking at commodities, a lot of the valuation is predicated on price, but too on growth. So being able to permit that new mine or drill that next new oil well. And, if you’re polluting the local water table, you’re not going to get your permit. If you are not treating the local communities well that are going to be around that mine, you’re not getting that permit. If you are endangering your employees through, you know, poor health and safety, you’re not getting that permit. And we’ve seen it time and time again where there are mines that have been on the table for years, if not decades, that aren’t built because the companies are not behaving responsibly. Mines that are expropriated because the companies aren’t behaving responsibly. Fines levied in some cases these are billion-dollar fines against companies who are not behaving well.

So, it’s not just a ‘nice to have’ that the company is doing things well. There actually is a financial consequence to either ability to grow production and valuations cost of capital. So, this was something that I had incorporated in the way I thought about investing in mines for years. And, you know, in the – call it 2010 to 2015 timeframe – as the term ‘ESG’ emerged it was a logical next step to help design and help investment managers think about, well, how do I think about incorporating these financially material consequences? Because it was something I viewed as just fundamental to being a good investor.

Bullock: So, Tal you’re not in quite a bit there, but I have got a question for you. But before I do that, I have another one, which is to do with the bag that you brought. And I know it’s hard for a podcast, but some people are watching it as well on YouTube. You bought a bag of rocks?

Tal Lomnitzer: I don’t travel anywhere without them.

Bullock: I usually see either see pictures of you with sort of a hard hat or carrying a bag of rocks. But tell me about the passion that you have for, you know, working in this space, this sector.

Lomnitzer: Look, it goes back to what Michelle said. This sector is utterly essential for their development and improvement of living standards globally. Not just looking back, but looking forward, we see huge opportunity in the energy transition, in order to provide what the world needs to get us to that place where we want to be, which is enjoying our living standards with less of a carbon footprint.

That means electrifying. And that is going to require enormous amounts of commodities that in some cases we’ve been producing for 100 years plus, like copper. In some cases, commodities which are really coming into their industrial usage only in the last 20 or 30 years, like lithium, which is now commonplace in batteries. So, it’s the opportunity that lies ahead.

But I’m also really excited about changing the perception of mining. The words responsibility and sustainability are not natural bedfellows with the mining sector. You don’t often see them used in the same sentence. That also applies to other areas of resources in which we invest, like timber or agriculture, which also have had some negative externalities. It doesn’t have to be that way. And the message is that things have changed dramatically over the last few decades.

You used to need three permits to build a mine in Canada. You now need almost 30 permits. It takes between five and eight years to get a new mine permitted and built. That’s because the timelines have extended, because of the number of social contracts that you need to put in place, the number of environmental assessments that you need to put in place. So, we think that the future is bright for the mining sector, for the resources sector in general, and that’s something that’s generally underappreciated by the investment community.

Bullock: Would you say, so you say about the investment community, are you talking also about end investors? So, you know, is there still a hesitation to go into the world of natural resources?

Lomnitzer: Yeah. Look, mining is seen as a cyclical sector and there’s no doubt that the macro cycle does impact mining stocks on a near-term basis. We’ve done studies that look on a much longer-term basis that show that the mining sector marches to the beat of its own drum when you look in three-, five- and then 10-year horizons, such that, actually, it can very effectively diversify a portfolio, because it has quite a low correlation with other parts of the market.

And quite often, when other parts of the market are not doing so well, this sector is doing well because it’s when prices are going up and you get inflation that this sector protects you against that inflation. While other companies are perhaps seeing their margins being crunched by higher costs, this sector is actually doing a little bit better. And there are growth dynamics that play out over long horizons partly because of the capex cycle of these companies. They haven’t been spending for a long period of time, since the end of the China super cycle as it was – the so-called super cycle. We’ve seen that lack of spending now come to bite as we’re going to need a lot of new commodities going forward. We’re just not seeing the investment required to bring those commodities to market.

Now what we focus on in when we look at companies is trying to find companies that produce these commodities with the least environmental impact, produce the lowest carbon footprint copper that we can find. For example, I’ve got a rock here from a mine in the Congo which is producing some of the lowest carbon footprint copper on the planet. A mine in Quebec that produces iron ore, which is the lowest carbon footprint iron ore on the planet. And then a mine that produces graphite, which is going to be utterly essential for making batteries as we go through this energy transition.

Bullock: And am I right then that in this space a number of sectors are sort of dominated by companies that are based or do a lot of business in China, Russia? So, if I come to sort of the broader geopolitical picture and I sort of I’ll go with you, Tal to begin with. But Michelle, if you’ve got an opinion, do jump in. How do companies navigate that sort of, you know, the geopolitical pressure and how do they survive?

Lomnitzer: Look, geopolitics is a very funny thing to get your arms around in our space because it comes in the funniest and strangest of places. And by that, I mean quite often places that can be seen as very low risk can suddenly raise taxes on a mining company, which we saw happen in Nevada, for example, just a few years ago where they raised mining taxes on the gold producers there. Or as we saw in the North Sea the Chancellor of the Exchequer had a habit of dipping his hand into the pockets of the oil and gas companies.

Mining companies, resources companies don’t vote, which makes them easy targets when prices are high for having surprising taxes levied on them. But putting that aside, I think the geopolitics that we’re all thinking about now is much more how the world is changing.

The Ukraine-Russia conflict is a really strong example of how a conflict in one part of the world can have enormous consequences elsewhere in the world. Not only do we see gas flows to Europe disrupted, which caused a spike in electricity and energy costs, which then negatively impacted both consumers as well as energy intensive industries, but we’ve seen flows of timber from Russia dry up, which has impacted packaging and paper companies. We’ve seen aluminum flows disrupted. We’ve seen wheat and fertilizer flows disrupted. These are utterly essential commodities which have gone up in price or had to have the logistics chains reoriented. So, what we look for is companies that are able to rejig their logistics supply chains. We look for companies that might benefit from that rejigging of supply chains.

So where one company loses, often another company will gain. In this case, US gas producers made a lot of money on the back of the rising gas prices. US producers of nitrogen fertiliser made huge surplus profits as a result of a lot of this. So, you know, we don’t know where this is coming from. We diversify a portfolio. We do a lot of research before going in. We’ve not made a lot of investments because of concerns over geopolitics. For example, we had no investments in tin producers.

One of the richest tin mines in the world is in the Northeast Congo, an area which unfortunately recently has been experiencing an increase in conflict as the M23 rebels funded by Rwanda went in there. Now we had no exposure to that because of our concerns around the fragile military situation there. But elsewhere in the Congo, we have got investments with, you know, this is over 1000 kilometres away, a very stable area close to the borders with Zambia and South Africa and one which is much safer and has seen absolutely no disruption to production there. So, it’s a there’s a lot of new ones here when we look at geopolitics – and with risk often comes opportunity.

Dunstan: Yeah. And it’s interesting because commodities are kind of unique. They are where they are. You have to extract them where they occur. You can’t just change the production to a different country because of labour costs or tariffs or other conditions and it’s an accident of geology or in some cases, literally an asteroid or a meteor striking the Earth where things are located. And they’re not distributed equally. So, for instance, I think people are well aware there are vast reserves of oil in the Middle East, in Russia and the US. Chile produces over a third of the world’s copper for instance. The Congo or the DRC produces about 70% of cobalt and over 90% of what are called the rare earth minerals come out of China.

So, you can’t just go and say, well, I’m just going to mine it somewhere else. It just doesn’t exist. So, like Tal said, you have to be very conscious of saying, okay, first of all, which metals or minerals are attractive? Where is their growing demand? And a lot of that growth and demand today is driven by a climate transition. And then how do I want to play that? Where can I be sure that I’m going to get that volume and that producer? And you have to think about things like geopolitics. Am I going to be expropriated? Are there going to be rebels invading my mine? What is the taxation regime and what is the political climate towards exporting? Because in some cases, what we’re seeing is a retrenchment where some minerals are being declared as security issues or a vital asset, and exportation from that country is less likely.

It really means going down the mines. Tal clearly does to get all your mine samples. But understanding the context, the situation and the very local area and not just geopolitics. But you know, you mentioned we keep talking about the Congo. A lot of copper, a lot of cobalt, a lot of tin comes out of that region of the world. It’s also at the mercy of climate change. So, they have been rolling blackouts for a lot of the copper mines in the region. Are you going to be impacted or not? So, it’s that knowledge, that active management and that research that you need of, not just, okay, what’s copper going to do, but what does this mine going to do? What are the vulnerabilities to this particular mine in this particular company?

Bullock: So, then as part of that, because some of these areas are also very sensitive to areas like drought and so water shortage can be a problem also water pollution, as a result of some of these activities. So, I mean, tell if I start with you, but again, Michelle, jump in, how do you see companies trying to manage the impact of water pollution?

Lomnitzer: Well, there’s two aspects to that. I guess when we when it comes to water pollution, I think mining is not a big offender here where you get big accidents from tailings, dams, breaches. So, basically mining uses water in two ways. First is processing. So, you take the rock, you crush it, you put it into a slurry, and you then float off the metal. You’re then left with a slurry of water and sort of residue of rock that is then pumped often to a tailing storage facility. And we’ve seen, sadly two examples in the last 15 years where tailings facility has breached because of various seismic conditions. The material has liquefied, breached the damn wall and then flowed into, in one case into a river, causing some environmental damage and water pollution there, and also loss of life, tragically.

Now the mining industry has responded to that, partly as a result of investor pressure. We’ve been very actively engaged in a collaborative group of investors to come up with a new sort of tailing standards that have been agreed to by the mining sector in conjunction with the UN. Those standards are now being applied across mines globally.

Another way of dealing with it, as well as how you construct tailings dams and monitor them, is a move to what’s called dry stack tailings, where you extract the water before you locate the tailings in their ultimate storage facility, which has got numerous advantages. It means that you’re recycling water in your process. It means you’re just less need less energy to transport the tailings to the facility. You ultimately are left with a smaller area of solid tailings that can then be easier to remediate when the mine is finished and there are a lot of benefits there.

The other aspect is access to water, and this is really key, because about 20% of mines are located in areas that are considered high stress areas. And the example of Chile that Michelle gave for copper is a really good one. Chile has been experiencing a drought since 2010, a very long and enduring drought. Now mining only uses 9% of the water in Chile, about 70% is used for agriculture to make all those fine wines that everyone likes to drink and so on. But a lot of that mining is located in extremely arid areas. It comes to the high levels in the Andes. The Atacama Desert is one of the most arid places on earth. And whilst mining companies often have rights to extract water from aquifers or surface sources of water, a lot of the companies that we’ve been looking at and invest in have taken the proactive decision to spend billions of dollars building desalination plants on the coast and then pumping that water up to elevations of up to 4,000 metres in order to use it for processing. And, therefore, they’re not competing at all with the at local aquifer, freshwater, river water and avoiding any potential conflict with indigenous populations, local communities and so on.

Another example would be of a company in Peru, Freeport, who has the Cerro Verde mine, where they’ve built a large wastewater facility where they treat sewage. Half of this that water goes back to the for the use of the city and half of it is used by them for processing. Now they’re basically getting rid of a sewage problem. They’re accessing water that is called grey water, but it’s not fresh water. And they’re putting some, you know, really positive benefits into the community as well as for themselves. So, that’s a real example of a win-win situation where companies again proactively not using fresh water, not accessing what is an increasingly scarce for its production.

Dunstan: Yeah. And what Tal’s saying is absolutely true. And as investors, we want to understand this because there’s costs. If you’re pumping water, seawater, up from the Pacific Ocean to the Atacama Desert or to the Andes above that, that costs money. If you’re desalinating it, it costs money to build a desalination plant. If you’re using seawater and you’re processing, there’s extra cost of stainless steel and you’re not getting the same recovery rates and some of your byproducts. So, none of this is free.

And it extends beyond just that. If we think about water more broadly and mining, we have a lot of glacier legislation being acted around the world. Barrick, one of the big gold companies, spent almost US$6 billion on the Pasco Lama mine on the Argentinian-Chilean border. It’s never run. It got shut down partly due to the glacier legislation that cost them US$6 billion without a, you know, a dime made on that. You’re also seeing a lot of issues with permafrost. A lot of mines the structural component of it is permafrost, with the permafrost melting in more water. You’re also seeing, you know, existing mines having to backfill and spend money and really do different things for new mines.

We’ve actually done a lot of research into water, not just for mining but for a lot of other things. Mining is one of the more water intensive industries, but there’s a lot of others out there. We’ve looked at food and beverage. If you think about beer and alcoholic beverages, for instance, a bottle of beer, one litre of beer, it takes about seven litres of water to produce one litre of beer. And that’s just the production. If you back up to the value chain, including the agriculture, it’s a lot more than that. So, obtaining clean water for that process is vital.

Other industries where you need a lot of water, semiconductors and data centers. So, this is an area that our central responsible investment and governance team has been co-conducting a lot of research and engagements with analysts in portfolio managers like Tal across sectors to try and understand what the implications are. So that our investment teams can leverage that in their investment process to make better decisions on behalf of our clients.

Bullock: So just to sort of finish off, you’ve given some good examples of what some companies are doing. All of this assumes that they continue to behave in a responsible manner. So, how do we monitor that? How do you ensure that the companies that are invested in continue to behave in that way?

Dunstan: That is a really good question. I’ll let Tal, you know, go into some more detailed examples. But when we think about it, it is an ongoing process. So, it involves active research and engagement. So, in terms of research, it is a partnership between our central responsibility team. We have subject matter experts in a lot of the environmental, social and governance issues that partner with our analyst and portfolio managers on the research.

We also have proprietary tool sets and data. So, for instance, ESG Explorer, which we’ve talked about in other podcasts, is really a phenomenal resource for investment teams. It brings a lot of different data sources to their fingertips so they can assess if there are issues with the companies and then there’s engagement. So, we have really good company access. We get to talk to the CEO, the CFO, or if you want to go on a mine visit, the mine managers, you know, whenever we want.

So, we engage for insight, to understand what the companies are doing and leverage that. And we also engage for action to encourage companies to take decisions that are in the best long-term interests of their sustainable cash flows. So, it’s not easy. It’s not like you can look at a report and say, oh, they’re doing this tick. Anyone can put anything in a report. It is really that behind-the-scenes knowledge that a firm like Janus Henderson has because we have 300 and some portfolio managers and analysts engaging with these companies, with these companies on a daily basis to monitor all this stuff, to assess, to encourage them to do things potentially better or differently. And then we get all that information to incorporate when we’re thinking about forecasting, we’re thinking about what the risks and opportunities are, and we think that makes better decisions for our clients. But Tal can probably really bring it to light in terms of how he thinks about it on the ground.

Lomnitzer: Yes, we’re, we’re extremely lucky. We have the backing of the firm to put aside the financial models and the spreadsheets and don a hard hat and steel toe cat boots and get down to site and really get under the skin of these companies. Not only are we, you know, talking to the C-Suite, we’re trying to get a level beyond that and really understand the culture of the company, talk to the less polished mine managers and the people with dirt under their fingernails and really understand what’s driving and making these people tick. Not just from an environmental perspective. Safety is a huge issue in the sector, which we which we try to keep on top of. And, and it’s only by going down-site that you can get a really strong feel for the culture of the business that goes beyond the, the glitzy messages that we get from CEOs and CFOs and so on.

So, in the last few years, the resources team has been to several uncomfortable and far-flung locations in order to do this on behalf of the investors in the fund. And really, it’s about mitigating risk from our perspective. A long in the tooth fund manager told me when I started in this industry 25 years ago that: “the first rule of making money is don’t lose money”.

And it’s really with that ethos in mind that we’re going out there and trying to find out what the risks are and get ahead of those. And when we see risks, we then engage with companies and try to understand how they’re going to mitigate those risks so that we can assure ourselves that they’re under control. And in the last few months, we’ve had conversations with some of the largest mining companies in the world, whether it be tech resources about water in Elk Valley coal, whether it be Freeport and how they deal with riverine tailings, which is not an ideal method for tailings disposal, but one that they do very well in the only place that they do it. One that they’ve committed not to carry on doing.

But you know, we understand that this is a lot often about trade-offs and there is no perfect company necessarily. And when we invest in a company, because we believe in the upside, we’re engaging with them and hoping that they’ll improve and, and, and engage in better practice.

Bullock: Well, Tal, I’d love to know more about the stories from the mines, but we’ll probably have to save that for another podcast, I think because we’re out of time. But Michelle, Tal, thank you very much – that was fascinating.

So, thank you very much to our audience for listening. If you have any questions about Janus Henderson’s investment views or any other questions at all, please don’t hesitate to contact your client relationship manager.

With that, I wish you a very pleasant rest of the day.