Chris Beer takes a bar-bell approach to picking resources stocks. That is, he’s allocated about half of the $328.1-million RBC Global Resources Fund to blue-chip players such as Suncor Energy Inc., Companhia Vale Do Rio Doce and Rio Tinto PLC, which happen to dominate the fund’s top 10 holdings. But the other half of the fund is comprised of up-and-coming growth stocks in the energy, materials and alternative energy subsectors.

“Over time, we have generated a fair bit of [outperformance] by selecting names that are not covered by Bay Street or Wall Street,” says Beer, 42, vice president and senior portfolio manager at Toronto-based RBC Asset Management Inc. “We may have a strong view that there is a lot of upside.”

The small-cap bets in the 65-name fund are limited to about 1% of assets. “We’re not willing to risk a 2%-3% weighting in small caps that have a lot of time to play out,” he adds.

Consider Plutonic Power Corp. The Vancouver-based renewable energy firm has obtained rights in British Columbia to develop so-called “run-of-river” power generation systems that exploit the natural flow of rivers without constructing dams that usually cause environmental damage. “Unitholders always ask us about alternative energy forms, but there are few that have a solid business model,” says Beer, who shares manager duties with Brahm Spilfogel, vice president at RBC. “This one is tried and true.”

Backed by a $470-million loan from GE Financial Services, Plutonic is building its flagship operation — known as East Toba Montrose — that will produce 196 megawatts by 2010. The company has an additional 33 projects on the horizon with the capacity to generate 1,700 megawatts.

“What we look for is a management team, a project and the ability to finance it. Plutonic has shown that,” Beer says. “Within a few years it will have strong cash flow. More important, it is first in the queue with all these projects.”

Beer acquired the stock about two years ago, at $1-$2 a share; it recently traded at $7.70 a share.

In a similar vein, he likes Lignol Energy Corp. The Burnaby, B.C.-based firm has received a US$50-million grant from the U.S. government to convert pulp into ethanol. “It can use pulp, grass — anything with cellulose — to turn into fuel,” says Beer. “It’s a better process than converting corn because it uses much less energy.”

Acquired around two years ago at 50¢ a share, the stock recently traded at 82¢ a share.

Beer’s barbell approach has paid off. For the five years under his tenure, the fund has been a top-quartile performer. The fund returned 25.1% for the 12 months ended Feb. 29, vs 16.2% for the median fund in the natural resources equity category. Over two, three, and five years, it reported average annual compound returns of returns of 34.3%, 33.7% and 33.5%, respectively, vs 14.4%, 19.1% and 25.6%, respectively, for the median fund. Morningstar Canada gives the fund a five-star rating.

Although Beer tries to keep the barbell evenly weighted, he believes that some of the lesser-known names have the potential to become big winners. One such company, Petrobank Energy and Resources Inc., has already done so. “It has grown from the small-cap side of the barbell to what we believe is an industry leader.”

Beer bought it at about $5 a share three years ago and is still buying it at $50 a share.

Petrobank has three distinctive businesses. First, the company has developed a patented extraction process that uses oxygen to force bitumen from the oil sands. “It could revolutionize the oil sands industry by dramatically lowering capital expenditure costs,” says Beer. The firm’s Whitesands pilot project in Alberta is producing 2,000 barrels a day, at a cost of $10,000-$20,000 to build one barrel of oil capacity. In contrast, conventional systems that use steam-assisted gravity drainage processes cost $100,000 a barrel of capacity. “Even if Petrobank is off by 20%, it’s still a viable process,” he adds.

Second, Petrobank is benefitting from the Bakken play in southern Alberta. There, it is exploiting a thin layer of sediment to extract light sweet crude oil that fetches premium prices. “The area had been ignored by the senior producers,” he says. “The profitability from those wells is quite attractive.”

@page_break@Finally, Petrobank has an 80% majority interest in Petrominerales SA, a Columbian firm that has conventional and heavy oil deposits. “The royalties and taxation levels that the government imposes are also quite attractive,” Beer says.

Petrobank trades at more than 90 times earnings. “All growth companies have high multiples, until they either grow into their earnings or screw up,” says Beer. Many skeptics say that the firm’s process will not work on a large scale. But, he notes, many were similarly skeptical about Syncrude in the 1970s: “It’s not a 10% position; it’s been, at most, 4%-5%. So, we’re being prudent as the stock has moved up. To put a price tag on what its process could do in revolutionizing the oil sands is a tough one. It could easily be a $100 stock. We’re half way there in validating the process with the pilot plant. The next thing would be to scale it up to modules of 10,000 barrels a day.”

Although Beer and Spilfogel are mainly bottom-up investors, they begin with a top-down macro-economic view that emerges from regular meetings with RBCAM’s 25-person investment team. They also develop top-down views on different commodities. “We focus on areas that could potentially provide opportunities for the fund,” says Spilfogel.

“We were originally heavier in oil stocks, as they tended to be more defensive,” says Beer, “whereas metal stocks have higher [market volatility].” Lately, though, the fund has underweighted energy stocks; they account for 45% of the fund vs 62% in the benchmark, which is a blend of the energy and materials components in the MSCI World index. There is also 52% in materials vs 38% in the blended benchmark. On a geographical basis, Canada accounts for 47% of the fund, with 18% in the U.S. and 27% international markets. There is about 7% cash.

Traditionally, Beer argues, the U.S. has been the driver behind the consumption of metals such as copper and steel. In 2001, China emerged as the dominant buyer. It currently consumes about 25% of the world’s output of copper. That’s why Beer believes that even if the U.S. slips into a mild recession (or at best avoids recession), China is driving the appetite for natural resources.

“Historically, a slowdown in the U.S. has hurt commodities,” he says. “But we’re not saying this time there is a de-coupling with China. Most of our studies show that China was never ‘coupled’ with the U.S. to begin with.” With the exception of oil, the U.S. has not been a contributor to commodity price increases for about two years. “But China has been the driver of demand growth globally.”

That’s why he believes that current market volatility and worries about a global slowdown will subside eventually. “Our medium and long-term view is still quite positive.”

A native of St. John’s, Beer is a geologist by training. After graduating from Memorial University in 1987 with a BSc in geology, he worked for Noranda Inc. He did a brief stint in the air force and then returned to Noranda. In 1991, Beer went back to school and earned an MBA from University of Toronto in 1993. He landed a job on the sell side as a resources analyst at Levesque Beaubien.

In 1996, Beer moved to RBC Dominion Securities Inc. “I can sympathize with bank analysts today,” he says. “We had quite a severe bear market in resources from 1996 to 2000.” In late 2000, he joined RBCAM as an analyst and portfolio manager. “No one wanted to run the resource fund,” recalls Beer. He took over in March 2003.

Spilfogel, a native of Montreal, has been in industry since 1991, when he graduated with a bachelor of finance from McGill University. He began working at Royal Trust as a private-client portfolio manager. In 1996, he moved to Toronto, joined RT Investment Counsel and managed bond fund pools. In 2001, Spilfogel was hired by RBCAM as a natural resources analyst. Besides working on RBC Canadian Equity Fund and RBC Balanced Fund, he was part of the natural resources team. In 2007, he was appointed co-manager of the global resources fund.

Beer is confident that the bull market has several years to run: “The cycle is over when many of the projects that we wouldn’t invest in, get built. There are a lot of projects out there, but you can’t get the people and you have to wait 48 months for a processing mill to build a new mine.”

When investors look back after the current crisis, Beer says, they may realize that consumption of copper and oil continued to increase during the malaise. “Maybe down the road, people will say, ‘We’ll pay up for resources stocks.’ When we start to see multiples on giants such as Rio Tinto PLC fetch a premium, I’d say, ‘Yeah, supply has been built up.’ That’s what happened in the previous cycle in the 1960s, when Japan was building its infrastructure. I would argue that the Chinese economy is far more vibrant and open today than the relatively closed Japanese economy.”

Dan Hallett, president of Dan Hallett & Associates Inc. in Windsor, Ont., recognizes that the fund has had a strong run. “It performed especially well in 2006 and 2007,” says Hallett. “Beer has been fortunate to be operating in a very positive environment.”

But he also reminds advisors that over the past 30 years the category has seen its share of ups and downs, and took a particularly bad hit in 1998. The RBC fund was lucky as it was launched in December 2000.

“At the end of the day, this is not for conservative investors,” says Hallett. “These funds can suffer losses, too. You have to be cautious and look at the long-term history.” IE