Mickey Fulp: Race to Rare Earths Heats Up
Source: Interviewed by Karen Roche, Publisher, The Energy Report (1/21/10)
Mercenary Geologist Mickey Fulp says that 2009's "flavor of the year"—rare earth elements—will sport that same label in 2010 in this exclusive interview with The Energy Report. Mickey likes the integrated mine-to-market players, and is bullish on uranium, too, but finds it scary to see likes of Kazakhstan emerging as the world's top supplier.
Mickey Fulp: The markets were so beat up in 2008 that I think equities became a place of safe haven. A lot of cash—itchy money, if you will—sitting on the sidelines poured into equities. In times of financial duress you'll see times where equities become the preferred investment vehicles. It surprised everybody, I think, but 2009 turned out—especially in our junior resource sector—to be one of the best years on record.
TER: And what do you think 2009's performance means for 2010?
MF: I don't want to venture there right now. I am still digesting things that happened in 2009 and trying to make up my mind about where I see things going. Maybe we can talk about that the next time we talk.
TER: Certainly. You specialize in finding undervalued junior resource companies and clearly there were a lot of them at the end of '08. How does that picture shape up going into 2010?
MF: I don't see a lot of undervalue, except that the uranium sector is still pretty beaten up. There's not a lot of undervalue in the other sectors I follow—mainly precious metals and rare earths—so you have to start looking for specific companies that haven't reacted yet or have catalysts pending. There are a few of those I'm looking at.
TER: Would you say the market's overvalued at this point?
MF: The market is valued at what the market says; it's oftentimes driven simply by psychology, and those are touchy-feely things that are hard to get a handle on. The junior resource sector is certainly valued a lot higher than it was last year. Will it go higher or lower or will we see a correction? I think a lot of that depends on the price of gold.
TER: In your last Mercenary Musing, you wrote about how we are led to believe things from trusted sources such as Santa Claus and the Easter Bunny. More relevant, you discuss the government talking about organizations that are too big to fail that we have to bail out, and pundits telling us that gold prices will climb to multi-thousands of dollars per ounce. As an investor yourself, what are you hearing that really can't be trusted?
MF: I mitigate the risk of promotion with very detailed due diligence and research. As a retail investor, you need to do your own due diligence and your own research on anything you consider, looking at the three key criteria—share structure, people and projects. If you follow my investment philosophy, you're looking for stocks that have a strong chance to double within 12 months. Everything and everyone gets promoted. You can reduce your risk by doing your own research and figuring out what's real and what isn't.
TER: Last October, you talked to us about rare earths as the "flavor of the year." We're now in a new year, a new decade. Will they continue to be the flavor of the year in 2010?
MF: I'll answer that with an emphatic "yes." The U.S. government is partly behind this through the green technology economy, which creates additional demand for rare earths. Rolling Stone came out this summer with an article about Goldman Sachs called "The Great American Bubble Machine." Goldman Sachs is involved with rare earths. Molycorp, owner of the Mountain Pass Mine, is a private company, and Goldman Sachs is a large shareholder.
MF: So I foresee that the rare earth sector will continue to be promoted. Demand certainly will increase. The Chinese are continually making news about curtailing exports. A few weeks ago, The New York Times wrote about the heavy rare earths ionic clays in China, the environmental damage that has gone along with that and the decreasing supply as they enforce environmental regulations., I see increased demand with some supply coming on board in North America or Australia in the short to midterm. I'm still very bullish on the rare earths sector.
TER: Is it a supply-demand issue that's causing rare earths to go up or the fear that China is going to minimize exports and force production in China?
MF: I think both. But I don't see that China will be able to supply the world with rare earths. I recently saw a chart that showed increased Chinese demand and rest of worldwide demand.
TER: So we do have a supply issue. A lot of people are talking about China restricting exports.
MF: They're doing that because they see their own internal demand increasing and they want to take care of their own.
TER: When you look at rare earths, do you have preference over either the light or heavy earths when they're going into production?
MF: The prices for heavies are so much higher than the prices for the lights. The lights trade at generally less than $10 per kilogram and some of the heavies trade in the hundreds of dollars a kilogram. From that viewpoint, the dollars per ton of a heavy rare earth deposit is worth more than a light rare earth deposit. But that said, the heavies are rarer and are contained in much lower concentrations. I think you need to look at good companies with the best deposits, whether those deposits are light or heavy.
TER: What are some of the companies that you are particularly focusing in on now?
MF: I'm a long-term committed shareholder of Avalon Rare Metals (TSX:AVL), which has heavy rare earths in the Northwest Territories and Rare Element Resources Ltd. (TSX.V:RES) with the Bear Lodge light rare earth deposit in Wyoming. It's had very good drill results recently and other drill results pending. Quest Uranium Corporation, a heavy rare earth company in northern Quebec, is drilling an exciting new discovery called the "B" Zone at Strange Lake with thick intercepts and good assays. Quest also announced a new discovery at Misery Lake, which is another heavy rare earth occurrence. I've been to all these deposits just mentioned: Avalon's Thor Lake, Rare Element's Bear Lodge, and both Quest projects.
TER: How close are these projects are to production?
MF: Avalon will have a pre-feasibility study out toward the end of the first quarter. We could expect production in perhaps 2013 or 2014. Rare Element is in an advanced drill program stage on a light rare earth deposit. Although it's a little bit further behind Avalon's timeframe, Rare Element is progressing nicely and I'd expect a pre-feasibility study sometime within the next year or so. Quest Uranium is a new discovery. They have finished the first drill phase; it could be huge.
TER: Any others on your radar?
MF: Some other companies that may be up-and-comers include Tasman Metals Ltd. (TSX.V:TSM), which is drilling for the first time on its deposit in Sweden. It gives you a little geographic variety in this sector. Hudson Resources Inc. (TSX:HUD) has a light rare earth carbonatite-hosted deposit in Greenland. Hudson drilled its first holes in August and September in Greenland, so will be gearing up for a second phase in the Greenland summer.
Another company I follow is Neo Material Technologies, Inc. (TSX:NEM), a Toronto-based integrator-processor-manufacturer of rare earths. Neo Material and Molycorp are likely to be the two companies that venture into the mine-to-market scenario.
TER: What leads you to believe that?
MF: Molycorp, with the Mountain Pass Mine, which will be coming back into production and is currently processing ore stockpiles, was the world's sole integrated rare earths producer from 1952 to essentially 1990-1991. They controlled the world's supply of rare earths. Combined with an environmental liability, they were forced out when the Chinese cut prices in the early '90s. Molycorp was an integrated mine-to-market company in the past and you would expect them to be again. Neo Materials, having a downstream end now and being a robust cash flow-positive company, is a likely candidate, in my opinion. Rare earth explorers and developers are going to need off-take contracts and perhaps Neo Materials has designs to become a mine-to-market company.
TER: Speaking of off-take contracts, some are speculating that major users of rare earths—let's say Toyota Motor Corporation (NYSE: TM) (see related article) for example—will start to acquire either shares or actual mines. Do you think that's going to be a major trend and how will that impact companies like Avalon, Rare Element and Quest?
MF: I do think this market will evolve to sales through off-take contracts. It will be analogous to the uranium market, where the major amounts of metal are tied up through long-term off-take contracts by specific users. Beyond that, a spot market will serve a minor part of the business as supply and demand ebb and flow.
Certainly, Avalon would be very attractive to car manufacturers; they need heavies for magnets in hybrid cars. Rare Element is different because its deposit resembles Mountain Pass. I'm just speculating here, but perhaps Rare Element would be a takeover candidate by a company that needs light rare earths or has processing facilities and sees increased demand for them. Even a heavy rare earth company that needs some lights might be interested. But the off-take contract concept, I think, is the most likely scenario for Avalon.
TER: What does that mean for long-term investments in rare earths? Is this really more a short-term play while things work their way through or do you consider this a long-term opportunity?
MF: I'm committed to a long-term investment, in particular companies in the rare earth sector. Although it is a bubble being built that will become overvalued and deflate at some time, I personally think that the rare earths are a long-term investment play. I've chosen six or seven companies as the likely candidates to succeed for various reasons. I have a mixed portfolio and I'm looking long term in this sector.
TER: At the San Francisco Hard Assets Investment Conference in November, Jack Lifton indicated that the real race is who can bring rare earth mining into production first. He says that the next two or three companies to get to production can satisfy the rest of the world's demand; so those that are much further behind would not be as good as investment opportunities. How do you feel about that?
MF: I think there's validity to that. It doesn't mean, though, that some of these companies that are just starting out won't be good investments. We don't always need to make mines to make money in the stock market. We can mine the stock market, too.
TER: But that requires a bit more timing.
MF: Yes, it does.
TER: You brought up uranium in the context of off-take contracts. With the green focus that everyone talks about, many say nuclear energy is poised to resurge. However, the Obama administration hasn't really embraced it. Do you expect uranium to make a comeback in 2010 with more nuclear energy on the horizon, or is it a longer-term play?
MF: I personally think we've begun to see resurgence already. If you're talking about prices, no, we haven't seen that, but demand for nuclear fuel for power plants is increasing. A lot of power plants are being built worldwide and those are demand reasons that the world will continue to use more uranium on a yearly basis. My views haven't changed.
You are right about the Obama administration. They talk from both sides of their mouths about nuclear energy, in my opinion. They won't embrace nuclear because that would offend far left wing Democrats, and they can't afford to do that.
TER: If an investor is watching spot prices of uranium, that doesn't necessarily integrate with the profitability of uranium mining companies, does it? How do you factor in the off-take contract element?
MF: You are right. The spot price does not necessarily factor in to profitability because most uranium mining companies have higher long-term prices on their off-take contracts. The average contract price now is somewhere between $60 and $70 a pound. The spot price this week is $43.50. Plus or minus 85% of the world's uranium is supplied on long-term contracts, but some uranium miners will sell on the spot market as utilities have increased demand or want to stockpile some uranium when the spot price is low.
Unfortunately, the uranium equities market trades based on the spot price. It doesn't make a lot of sense from an economic viewpoint, but what causes uranium companies to go up and to go down at times is this weekly spot price. The spot price is very nebulous because what happens is every week a few people look at whether any spot uranium was bought or sold on the open market in the last week and at what price. They'll compare short-term contracts and then publish a spot price for the week.
TER: So how can an investor decide whether to put our money into companies that are fluctuating based on a few people in a room or on a conference call deciding what the spot price is?
MF: That's a good question. I think you've got to look for uranium companies of value. Look for potential developers or explorers in the right part of the world and pick companies that are going to be viable no matter what the spot price does.
My two favorites are Hathor Exploration Limited (TSX-V:HAT) and Strathmore Minerals (TSX-V:STM). Hathor, which has the discovery in the Athabasca Basin, has been beaten down pretty badly. It was $1.70 stock for most of the early winter, but it's had about a 20-cent to 30-cent bump up with volumes up considerably since the first of the year. Hathor will be drilling at Roughrider when freeze-up occurs.
TER: How about Strathmore?
MF: Strathmore is my favorite U.S. uranium development company. I'm a long-term committed investor. There were two bidders on its Pine Tree-Reno Creek properties in Wyoming. Bayswater Uranium Corporation (TSX.V: BYU), the original bidder, matched the Australian company's offer. That's for $17.5 million up front, $2.5 million in stock, and a 5% net smelter return (NSR) Strathmore is doing a private placement that's under market price and is oversubscribed. This is a company of value. It has the two best undeveloped conventional uranium deposits in the U.S. in my opinion—Gas Hills in Wyoming and Roca Honda in New Mexico. Strathmore is undervalued compared to its peers.
TER: Any other comments on uranium?
MF: Sure, I'll give you some supply and demand ideas about uranium. The "Decade of the 'Aughts' ('00s)", if you will, saw uranium's spot price go from about $7 to about $45 a pound—so a 600% increase in a decade. Uranium production must grow because demand is increasing on a yearly basis, driven largely by China but there are many nuclear power plants on the drawing boards or under construction worldwide.
We are losing feed from the conversion of nuclear weapons into low enriched uranium. Deals with the Russians are running down, so with uranium demand increasing, mine production must increase.
A scary thing in all of this is the country that became the world's largest uranium producer in 2009 is Kazakhstan. In the Decade of the Aughts, Kazakhstan went from a 5-million-pound producer to a 36-million-pound producer, and is projecting production of 47 million pounds of uranium in 2010. Kazakhstan's government is very corrupt, and is not especially friendly to the West. Rumors came out early this month that Kazakhstan signed a uranium supply contract with Iran. In terms of production, Kazakhstan has basically become the Saudi Arabia of uranium production. But that production likely is not sustainable as these are ISR fields that will have fast decay curves.
TER: Is the scary part more who Kazakhstan is willing to sell to or that the large supply is in danger because the government is unstable?
TER: So how should an investor interpret this risk?
MF: It just makes me more bullish on North American prospects for uranium. As I say, I invest in uranium companies that are located in North America, that operate in stable parts of the world, and that are not involved uranium plays in Africa or Asia or Kazakhstan or other relatively unstable places. Although I am willing to invest in gold companies in countries with geopolitical risks, that is not the case for uranium.
Michael S. "Mickey" Fulp—aka The Mercenary Geologist—is a Certified Professional Geologist with a bachelors degree in Earth Sciences with honors from the University of Tulsa (1975), and a master's degree in Geology from the University of New Mexico (1982). He has nearly 30 years' experience as an exploration geologist searching for economic deposits of base and precious metals and other resources. Mickey has worked for junior explorers, major mining companies, private firms and investors as a consulting economic geologist for the past 22 years, specializing in geological mapping, property evaluation and business development. Respected throughout the mining and exploration community due to his ongoing work as an analyst, Mickey launched MercenaryGeologist.com in late April 2008 and can be reached at [email protected].
Want to read more exclusive Energy Report interviews like this? Sign up for our free e-newsletter, and you'll learn when new articles have been published. To see a list of recent interviews with industry analysts and commentators, visit our Expert Insights page.
1) Karen Roche of The Energy Report conducted this interview. She personally and/or her family own none of the companies mentioned in this interview.
2) The following companies mentioned in the interview are sponsors of The Energy Report: Avalon Rare Metals (TSX:AVL), Rare Element Resources Ltd. (TSX.V:RES).
3) Mickey Fulp: I personally and/or my family own the following companies mentioned in this interview: Avalon Rare Metals, Rare Element Resources, Quest Uranium, Tasman Metals, Hudson Resources, Neo-Material Technologies, Hathor Exploration, Strathmore Minerals Corp.
I personally and/or my family am paid by the following companies mentioned in this interview: Avalon Rare Metals, Rare Element Resources, and Strathmore Minerals Corp are sponsors of my website.