Investors, Don't Push the Panic Button on Rare Earths
Commodities / Rare Earths Sep 05, 2012 - 06:30 AM GMT
Lisa Reisman describes herself as a "classic libertarian," but the managing editor of MetalMiner.com nonetheless believes government has a role to play in protecting and developing domestic supplies of critical metals. In this exclusive Critical Metals Report interview, Reisman argues for private/public partnerships and explains why today's low prices don't phase her—or surprise her.
The Critical Metals Report: Lisa, many of the companies in the rare earth elements (REE) space are trading near 52-week lows. Has the bubble burst or is this a consolidation?
Lisa Reisman: To some extent, the bubble has burst. But this is true for a number of commodities, not just REEs. The current lows are directly related to the same policy changes that caused the upswing in the first place. When China, the 800-pound gorilla in the sector, shifted to a policy limiting exports, buyers tended to hit the panic button and bought forward for a long period of time. Prices got a boost at the time, but those large buyers were then out of the market while they subsisted off their stockpiles. Thus, we would expect the stocks of the REE producers to fall a little bit.
TCMR: The MetalMiner IndX on MetalMiner.com tracks a number of markets, such as aluminum, raw steel, rare earths, precious metals, renewables, copper, automotive and construction. By far the worst performing index is REEs; it has lost almost half of its value. Why?
LR: There is an adage that goes "nothing kills high prices like high prices." When things begin to get frothy, people get nervous and sell. Investors use the opportunity to take some profit.
The REE prices got too frothy. This is a spot market; the published prices tell you what current demand looks like. And it is looking dour. The same is true for other metals. For most of them, the slope in the aggregated chart is down to the right.
Also, when people start to panic over export controls, they start to look for product substitutes and alternative materials. That cannot be done across the board or quickly in all cases, but where it can be done, it is done. This creates demand destruction. To some extent, that is what we are seeing in REEs.
TCMR: How much of a role does China's economic slowdown play in REEs' price weakness?
LR: It plays a significant role. Many of the large buyers, like the original equipment manufacturers (OEMs), have bought or are buying forward. Once the big companies are taken care of, who is left in the REE spot market? The companies that did not plan ahead, often smaller companies, are the only ones buying in the spot market right now.
TCMR: The U.S., the European Union and Japan are quietly fighting with China through the World Trade Organization (WTO) over China's export restrictions. What do you think is the likely outcome?
LR: I think the WTO will rule in favor of the Western nations by finding that some of the export restrictions, or perhaps the way China has implemented them, violate WTO rules. But China is holding fast and makes some valid points in its defense. The environmental factors, China asserts, are a legitimate rationale for export limitations.
TCMR: If that happens, will China change the way it does business?
LR: It might not be business as usual for China, but China will look for other levers to manipulate and it will attack the problem from a different direction. China is enough of a player in every market that when it decides to buy or not, it will affect pricing.
The real question for the WTO goes beyond REEs. It hears cases over steel and aluminum quite often. In general, China does not play by the same set of rules as everyone else. That has to come to an end at some point.
TCMR: How are manufacturers that use REEs responding to supply risk?
LR: The largest OEMs—the Boeings, Apples and HPs of the world—have very extensive supply-risk management strategies in place. They track, rank and rate all the materials they buy. The aerospace sector has been brilliant in identifying sources of supply around the world. The Toyotas of the world are looking not only at the supply end, but also on the recycling end to bring materials back. They are rethinking the whole supply chain.
Things get a little more dicey among the middle-market and smaller firms. Some of them face tremendous risks for not thinking through the supply options for REEs. For example, I spoke at an event over a year ago on base metals markets. But peoples' questions centered on REEs. It was obvious that REE price spikes were making these companies frantic and export price controls put tremendous strains on their businesses because they were not prepared with alternative sources.
It's not a clean division by company size, but you see different levels of sophistication amongst companies in terms of how they handle supply risk.
TCMR: Do you believe REE prices will stabilize where they are now or is there room for more downward momentum?
LR: When I look at the REE trend line, I do not see a floor. A floor would be a flat line for a couple of months. Instead, we see a steady descent with a little upward blip in April and May. Since May, the numbers have continued to fall. I am not suggesting prices will move down again in September, but the fact that we have not seen a floor tells us that further weakness remains.
TCMR: Will the heavy rare earths (HREEs) find the floor faster than other REEs?
LR: That is possible. The place to look, particularly with HREEs, is their end-use applications: the wind energy industry or the magnets used in hybrid electric vehicles. Some of those end-uses look good; the U.S. auto market for electric vehicles seems to be holding its own from a demand standpoint. However, the energy tax credits for the wind industry in the U.S. are set to expire, which may decrease HREE use.
TCMR: Other critical metals are experiencing price corrections or price weakness—tantalum and manganese, for example. What is happening with their prices?
LR: A lot of what has happened with tantalum prices is the result of the Dodd-Frank Act. The Dodd-Frank financial reform legislation contains a clause that requires firms to show that they are not obtaining certain minerals from "conflict regions." The minerals include gold, tin, tungsten and tantalum. And the "conflict regions" are not necessarily entire countries, but can be regions within a country.
Now that the rules have been published requiring third-party formal audits (e.g., attest services), the market for these metals will begin to stabilize. Uncertainty forced companies to stop sourcing these minerals from the DRC altogether. Purchasing behavior shifts as a result of policy changes, but now that the rule has come out, companies know where they can source materials and we suspect prices will stabilize.
A company can buy tantalum from the Democratic Republic of Congo (DRC). It just cannot buy tantalum mined in a conflict region within the DRC. Prior to the publishing of the rule, the company may have panicked and decided to source its tantalum from Brazil or China. That starts to create havoc with pricing. By changing companies' behavior, Dodd-Frank has had an effect on tantalum prices.
Companies in search of safe supplies are buying forward or on contract, or they are buying less. There is no more spot buying from Joe Trader. That puts pressure on prices.
TCMR: Are there similar problems with manganese?
LR: To some extent, yes, although manganese is not a conflict mineral. It is, however, mimicking the REE markets because China also closely controls manganese supply. Because the U.S. is not producing a lot of these metals, we are beholden to Chinese policies. China of course wants prices to be higher.
TCMR: Do you believe the U.S. government should get involved in developing domestic supplies of critical metals?
LR: As a classic libertarian, I do not want government involved in much of anything. However, to the extent that some of these metals play a role in national security, the answer is yes. There is a compelling reason for the government to get involved. The U.S. needs to make sure it has clean lines of supply.
Domestic mining is one great solution because we are sitting on some of these minerals. But I also support identifying alternative sources of supply and opening up other channels. We should be creating closer private/public partnerships with junior mining firms in Canada and other friendly regions.
The government certainly could be more mining friendly. For example, American Manganese Inc. (AMY:TSX.V; AMYZ:OTCPK; 2AM:FSE) has mines here in the U.S. From a strategic and military standpoint, we ought to foster the development of a junior mining firm like American Manganese so it can get to market faster.
And it goes beyond manganese. The steel producer Nucor Corp. (NUE:NYSE) had to cope with complicated and uncoordinated rule making and different agencies in the permitting process at its DRI facility in Louisiana.
The federal government needs to create more streamlined rules. I do not mean we should skirt environmental laws—just make them more effective. Rather than taking a "why should we do this project" approach, the Environmental Protection Agency could shift its attitude to "is there any reason why we should not do this project."
TCMR: Are there other companies that could benefit from government taking a more active role in fast-tracking projects or declaring certain metals strategic assets for development?
LR: The American Resources Policy Network uses a pyramid to illustrate the priorities for each strategic metal. Once you've located the metal in the pyramid, you need to look at the companies in the space. For example, Commerce Resources Corp. (CCE:TSX.V; D7H:FSE; CMRZF:OTCQX) comes to mind as a tantalum miner. We have next to no domestic supply, but Commerce Resources is pretty far along in its process. It would benefit from streamlined rules and public/private partnerships. Dozens of other junior mining firms would also benefit.
That approach is popular in Canada and Japan. The Japanese government brought together junior mining firms from Canada with the largest Japanese end-users and paired them up, like a matchmaker. The U.S. government does not do that.
TCMR: The sector's biggest player, Molycorp Inc. (MCP:NYSE), recently announced it will raise almost $600 million through equity and bond financing. But it recently missed the Street's Q2/12 targets by a fair margin. What happened there?
LR: Wall Street's expectations do not always reflect what is happening in the industrial market. The Street is unhappy because it invented earnings targets for Molycorp based on last year's frothy price scenarios.
Molycorp is sitting on the most amazing book of business of any metal producer in the U.S. Everything it produces is booked out and sold going forward. Molycorp is in an envious position compared to other producers.
TCMR: Will Molycorp's struggles keep investors away from the sector?
LR: That is a different question and the answer could be yes. Molycorp has been the golden child of the REE industry. If you look back a few years, the green economy has not quite developed as people had expected. In the last four years, natural gas production has been the biggest winner, not wind energy. With the expiration of the tax credits, people are not buying and building windmills in the same volume as they were two or three years ago. Other trends are not exactly on target either—the move to hybrid electric vehicles and small cars, for example. I think Molycorp is modeling what is happening with all these trends. But overall, it remains in a great position.
TCMR: Why should investors in companies that are developing critical metals assets or projects remain optimistic?
LR: Investors in general focus on the short term. When they see low REE prices, they hit the panic button. That is why they might be more negative on the sector.
We look at the world in terms of control of these key metals. Do we want to be beholden to one country, and a communist country at that? When you see countries controlling more than 90% of the global supply of something, to me that is a no-brainer. It tells me just how important it is to support these junior mining firms.
You also need to look at the domestic end-use need. Yes, we all like our iPhones and our iPads and such. But we also need REEs for weaponry, satellite systems and for our national defense. That is why I am focused on the long term. We need to stay optimistic and not be so sensitive to what the prices do next quarter.
Ultimately, the passage of these rules will create a more level playing field among producers and suppliers of these minerals. Legitimate and legal sources of supplies coming from locations outside of the prohibited conflict zone stand to gain (or have already seen some benefit) as companies have already started to shift supply sources. Those that would have received an immediate benefit will already be in the production phase of their projects. Newer projects may also see some lift, particularly if metal shortages ensue though we don't see material shortages for these materials in the short term.
TCMR: Lisa, thank you for your time and your insights.
Lisa Reisman is co-founder and executive editor of the highly acclaimed metals website MetalMiner with over 36,000 monthly readers. MetalMiner provides sourcing and trading intelligence for global metals markets and publishes over 30 original pieces of content on a weekly basis. MetalMiner has been referenced in a wide range of publications including The Financial Times Blog, The Wall Street Journal Blog, CNN, Forbes, The Christian Science Monitor as well as American Metal Market and a range of metals trade publications. Earlier this year, MetalMiner launched its global metals pricing service, MetalMiner IndX(SM), which includes over 600metals price points in an easy-to-use web interface.
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Disclosures:
1) Brian Sylvester of The Critical Metals Report conducted this interview. He personally and/or his family own shares of the following companies mentioned in this interview: None.
2) The following companies mentioned in the interview are sponsors of The Critical Metals Report: American Manganese Inc. and Commerce Resources Corp.
3) Lisa Reisman: I personally and/or my family own shares of the following companies mentioned in this interview: Nucor. I personally and/or my family am paid by the following companies mentioned in this interview: None.
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