The overlooked investment in AI and energy transition

Imagine there was an investment that tapped into the artificial intelligence (AI) revolution and the energy transition in one place, but where the potential was barely recognised in share prices. It would sound like a no-brainer. Yet there is an argument that this is where the mining sector sits today.

Admittedly, the mining sector doesn’t sound like the first port of call for AI investment. Nor does it naturally fulfil a clean energy brief. Mining is a carbon-intensive, messy business. However, neither the energy transition, nor the adoption of AI, can happen without raw materials dug from the ground by mining companies.

The energy transition requires vast quantities of raw materials. Electrification requires copper, batteries require lithium, steel is needed for wind turbines. A recent report from the Energy Transitions Commission found that annual demand for lithium could increase by up to seven times by 2030. Copper demand is likely to increase by around 50%*.

In our recent podcast, Evy Hambro, manager on the BlackRock World Mining Trust, says: “Some of these metals are becoming increasingly strategic at a national level. We’ve seen lots of plans put in place by governments to secure supply for their own domestic needs, but also to encourage investment into production of new sources of supply for these commodities as well.”

Georges Lequime, manager on the WS Amati Strategic Metals fund, points out that mining companies have never had to plan for as vast an expansion in demand as that created by the energy transition. It takes 10-15 years to build a mine, and demand is already increasing. He says that the world is facing “very concerning” supply deficits in key materials in the near to medium term – as little as two years for some materials. This is likely to push up prices, which is good news for mining companies.

The link with artificial intelligence

AI is hugely energy intensive. Estimates suggest that generative AI systems use around 33 times more energy to complete a task than task-specific software **. At the moment, AI is only responsible for around 2-3% of global energy demand, but this is likely to increase substantially as adoption rises**. In energy generation, all roads lead back to the mining sector. It will increase demand for all types of energy, but particularly renewables.

Evy gives the example of copper: “Copper is one of those commodities that is likely to be a major beneficiary of AI spending. If we’re going forward into this digital world, there will be a rising dependence on cloud and semiconductors and data storage. We’re going to need more high-quality energy with lower levels of disruption and a lower carbon footprint to its production. Copper is going to be a major beneficiary of that spending.”

Mining companies are also using AI to become more efficient. Forward-thinking companies are helping companies extract more from their mines, and with greater efficiency. They can help identify exploration targets, and allow drilling to become more precise. They can help improve the lifespan of machinery and equipment by identifying problems early.

Lower valuations

This is all very well in the longer term, but the shorter term has been difficult for the sector. There was some exuberance in commodities pricing during the pandemic, and the adjustment has been painful. The MSCI ACWI Metals and Mining Index is up an anaemic 0.5% over the past 12 months, compared with a rise of 18.3% in the MSCI World index***.

Mining profits have also been impacted by higher inflation and a weaker dollar. Mining companies have been forced to cut their dividends as commodity prices have dipped. UK mining companies, for example, cut dividends by £2bn in the second quarter, leaving them a third lower than at the same time last year^.

The advantage is that this has left share prices looking very attractive. Evy believes that the sector’s valuation does not reflect its growth potential: “This rising dependence on materials is not reflected in the valuation or even the scarcity of some of these assets.” Georges says the discounts for mining companies are ‘frustrating’, but also believes it is a rare opportunity for investors.

The risk with the mining sector has always been its sensitivity to the economic cycle. It would boom when global economic growth was good, mining companies would expand supply, only to crash when global growth contracted. Evy says that companies have learned their lessons from previous cycles: “Mining companies continue to show strong capital discipline, which should ensure there is an appropriate split of available cashflow between shareholder distributions and growth.’

Some selectivity is needed. Evy points to areas such as nickel, which was considered a vital material for the energy transition. However, it has seen a slump in price on the back of unexpected new supply. Prices have stabilised, but the sell-off has been difficult for companies exposed to nickel prices.

Georges sees signs that the ‘despair’ that the sector was experiencing earlier in the year is coming to an end. The prices for copper and nickel are up since February, which now looks like the capitulation point. He believes the financial results for the mining companies will be good for the remainder of the year, which should be reflected in share prices.

The mining sector may lack the rock ‘n’ roll appeal of the technology or green energy sectors, but it is subject to a number of the same forces. It is an alternative route to take for exposure to some of these structural growth trends.

*Source: Energy Transitions Commission, July 2023

**Source: World Economic Forum, 22 July 2024

***Source: MSCI index factsheet, 31 July 2024

^Source: Computershare, UK Dividend Monitor Q2 2024