The Rare Earth Commodities that Just Won't Go Away

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"The Chinese still hold the trump card when to comes to rare earth production—they still produce over 95% of the world's supply."

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I hope you're hunkered down from the big chill this month. Wow, we've seen some cold. It was so cold a few weeks ago that one of my cats stuck his face outside one morning and literally jumped back into the house. Cold, right?

And here we are with another polar vortex breathing down our neck. It's "historic cold," said the weather guy on television. Something to look forward to, I suppose.

Meanwhile, let's take a look at a metals sector that's still poised to heat up. . .

Earlier this month, The Wall Street Journal ran an article by a member of its staff, Joseph Sternberg, entitled, "How the Great Rare Earth Metals Crisis Vanished." The article was on the editorial page. Then again, the WSJ doesn't do horoscopes and astrology. Still, my question is why the WSJ ran an article that's so off base and misleading.

Here's my take on this "rare" metals sector. . .

Mr. Sternberg began by describing China's rare earth element (REE) export embargo against Japan in 2010. Mr. Sternberg basically got that part correct. The Chinese 2010 embargo was due to a disputed boundary with Japan—and really, are there any other kinds of China-Japan boundaries? The two countries are arguing over everything.

Now, if you follow East Asia news, that set of China-Japan boundary issues is ongoing. Right off the bat, I believe that we could still see future Chinese REE embargoes. But that's not really my focus here.

The Chinese still hold the trump card when to comes to REE production—they still produce over 95% of the world's supply.

My beef with Mr. Sternberg began when he wrote, "Global [REE] prices rose dramatically [in 2010], creating an incentive for new miners to start production, and an opportunity for them to profit."

Well, yes and no. Prices rose in 2010 and 2011, to be sure. Then prices fell dramatically over the next two years, for a variety of reasons. Meanwhile, today, in 2014—three years later—there's almost no new non-Chinese REE production on the global market. There's certainly nothing much from new miners in the West.

Moving along, it's accurate to say that nobody in the new miner REE arena is making any money. In fact, most new, Western (i.e., non-Chinese) REE plays that are still in business are cash burners. Most are far from cash flow, let alone profitability.

Mr. Sternberg also writes that "New supplies for most rare earths are coming online, as uncertainty over China's reliability and a period of higher prices stimulated investment in new mining projects elsewhere."

No, that's not what happened or what's happening. New supplies for most REE are NOT "coming online." This is especially the case for heavy REEs (i.e., REEs with high atomic numbers). These REE are used as lighting phosphors and in high-end electronics. Even the magnet-oriented REEs are still in tight long-term supply.

Western REE users remain nervous about China's reliability as a long-term supplier. But contrary to Mr. Sternberg's positive implication for the future, the REE crisis is not resolving, let alone has it somehow "vanished." The Chinese still hold the trump card when to comes to REE production—they still produce over 95% of the world's supply.

Any new REE project makes for very hard, expensive work. Indeed, most non-Chinese REE projects of recent vintage are barely past the drilling and assay stage. There are a number of Canadian-compliant 43-101 resource estimates floating around, and the odd prefeasibility study. But the industrial world is a long way from banking and building any new mining projects outside China. They're not there. Not even close.

This last point barely scratches the surface of what happens after a Western firm receives permission to open or build a mine—from a long list of flinty government entities, I must add, among whom many players can say no. Along the way, mining company managers have to multitask and juggle financing, design, pilot-scale testing, construction, build-out and final testing.

Perhaps someday, one or more REE wannabes will even process some ore and make what's called a concentrate. Then after that, there's complex downstream chemistry, which is a combination of Ph.D.-level industrial effort, innumerable trade secrets and just plain metallurgical black art. There's nothing easy about any of this, at any stage.

Through it all, there's very little in the way of a non-Chinese REE supply chain, in any sense of the word. There are very few Western companies with the actual background, engineering skill and know-how to design and build REE systems. There are almost no universities in the U.S. or Canada with dedicated REE educational pipelines. (Colorado School of Mines started a focused REE program all of two years ago.)

Any Western REE business wannabe has to kick down doors (figuratively, but maybe literally in some instances) to convince potential users/customers to take significant risks and make an early-stage deal. Whatever the frustrations, however, it's necessary for the upstream miner to work with the eventual downstream REE user early on to determine exactly what kind of end-product to supply.

Why must miners and customers/users get together so early? Because iron ore is iron ore, copper is copper and gold is gold. But almost every application for REE is different and unique.

That is, every light bulb maker has a different approach to specifying its REE phosphor. Every electronics maker has a different approach to what it wants. Every magnet maker has its own secret formula. In short, things get down to the molecular shape of the REE oxide or salt coming out of a metallurgical process, and there's much that's simply unknown to early-stage developers. You just have to start early or you're wasting time and money.

So no, contrary to the WSJ, the REE crisis has not resolved, let alone "vanished." The market is still poised for a 2010-style melt up. Here in the Western world, there's generally more awareness of how REE fit into modern industry and defense applications. It's better now than just a few years ago. But today, there's virtually no more physical REE product—not from a non-Chinese supply chain, that is.

There are opportunities to play this monopolized market, if you know where to look. But rest assured these are specialized plays. I'd steer clear of the market darlings, like Molycorp, and look to smaller, focused opportunities.

Looking ahead, Western REE users had better hope that any number of these small, focused mineral and processing plays can make it through the next few years, after a totally miserable 18 months in the junior resource market. Because right now, that's what's out there. Otherwise, we had all better brush up on our Mandarin.

Byron King
The Daily Reckoning

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