(Note: This article covers micro-cap stocks. Please be aware of the risks associated with these stocks.)
Following the meltdown of the nuclear reactor at Fukushima Daiichi in March of 2011, the price of U308 uranium saw a rapid decline from its base of approximately $70/lb to its current level of $36/lb. With this decline in prices, many uranium mining companies have halted or postponed projects until the price of uranium moves above the cost to mine the commodity. Despite this decline in prices and production, uranium has continued to play a major part in energy generation, scientific research, and powering military submarines and aircraft carriers. This reduction in production and continued use of uranium causes a problem of supply and demand, which points to a great investment opportunity not yet realized by the market. This report addresses the discrepancy of supply and demand, points to similar cycles in the past, and gives recommendations for what stocks are poised for significant gains with the eventual increase in uranium prices.
Supply and Demand Fundamentals of Uranium
Market Demand Post-Fukushima
After the meltdown at Fukushima, many nations scrutinized their nuclear power plants to ensure they met safety measures. Some nations, such as Germany and Japan, even went as far as to completely divest from nuclear power in search of "safer" alternatives. Despite this divestment, uranium consumption still increased between 2011 and 2012 as seven new reactors were brought online and energy production at the remaining 440 plants increased; while Germany de-commissioned its 17 reactors, it resorted to importing electricity generated by nuclear power plants from Czechoslovakia, France and other surrounding states. Moreover, to counter Germany's decomissioned plants, Saudi Arabia has submitted plans to construct 17 new reactors by 2032. This continued demand has remained unchanged in today's energy market with 432 reactors operating worldwide (~369GWe), 72 new plants under construction (~68Gwe) and 464 reactors planned or proposed (~537GWe). According to the World Nuclear Association, at our current rate we expect to see the number of nuclear power plants increase by 33% by 2030, corresponding to a 60% increase in nuclear power production.
Moreover, this rapid growth is centered in several of the fastest growing economies, including China and India. As analysts at Ux Consulting, the top consulting firm for the uranium industry, state, "It is nearly impossible to underestimate the oversized role China will have on this industry going forward" (Desjardins Capital Markets May 102). Simply put, the decommissioning of plants in Germany, Japan, and other nations has not hindered the demand for uranium as we see increased growth in emerging markets.
Market Supply Pre-/Post-Fukushima
Although uranium demand has continued to increase following the disaster at Fukushima, the supply of uranium entering the market has not grown. Even twenty years prior to Fukushima, uranium production had not met annual nuclear fuel demand. While this may seem impossible, the discrepancy between the uranium demanded and that supplied has been made up by above ground stockpiles; the largest source of which was the HEU Agreement, or Megatons to Megawatts Program, that ended December 2013. This agreement signed in 1993 between the United States and Russia supplied the US with approximately 24 million pounds of Uranium each year. This uranium was taken from Soviet-era nuclear warheads and reprocessed for commercial use and constituted between 10 to 13% of annual global supply. With the final shipment of the agreement taking place in December of 2013, the market has lost a major part of its supply chain and will now need to find other sources to meet the uranium demand. To add to the deficit, with uranium prices settled around $20-35/lb over the past few years, many miners have postponed, cutback, or shutdown operations until prices rise above the breakeven point of approximately $70-80/lb.
While the simple solution would be for miners to begin production once the market realizes the deficit, there is an additional problem: it takes a minimum of five years for a new mine to start production (BMO Capital Markets Report July 2012). Considering the absence of the HEU Agreement along with the current closure of countless mines, uranium spot prices are already on track to spike as demand continues to grow without the proper supply to support it.
Catalysts that will Boost Uranium Prices
Two major factors that can push uranium prices higher in the short term. The first is the previously discussed ending of the HEU agreement. Because this program ended, the market will have a large supply source to replace, which will see the start up of several mining sites. With over 10% of market supply to replace, there will have to be a substantial number of sites opened, meaning miners will need to be incentivized to recommence operations through an increase in commodity prices.
The second factor is Japan's restarting of their reactors. Prior to the Fukushima meltdown, Japan accounted for 12% of the world's uranium demand with its 55 nuclear power plants, all of which were shut down shortly following the meltdown. However, as of July 2013, Japan's Liberal Democratic Party was voted into power, signaling a turning point in Japan's nuclear energy outlook. Japan's Liberal party is known for its pro-nuclear sentiment, something that the new Prime Minister has vocally illustrated with his statements that they will "continue to use nuclear power to provide energy as it is an important base load power source [that will provide] stable energy, reduction of costs, and global warming measures". With the expected startup of ten proposed reactors by the middle of this year, uranium prices should start to see an increase as more inventories are cleared and demand is further driven up.
The long-term driver behind uranium prices that will continue to push prices once they break out of their current lull is the continued growth of new reactor construction. Currently, there are 72 reactors under construction across 13 different countries with 62 expected to be completed by 2016. Of these plants under construction, the market sees the biggest growth numbers and potential in the emerging market countries with China building 30 plants, Russia building 10, and India building 6. At current rates, uranium demand is covered on the short- and long-term horizons.
In only the past 10 years the uranium industry has witnessed two boom and bust cycles, both caused by increased demand and a supply deficit; leading to investment by speculators causing prices to sky-rocket beyond fair value.
The first cycle occurred in mid-2003 when uranium prices quickly moved from their base of $10/lb to a peak of approximately $140/lb by mid-2007. Like the present day situation, prices in 2003 were too low for miners to continue production, resulting in fears of a deficit. After reaching a fair- price of approximately $70-80/lb, speculation by hedge fund managers pushed the price of U308 all the way to highs of $140/lb before the 2008 economic crisis caused prices to plummet below $40/lb.
The second cycle began in 2009, again because of supply deficits that resulted in increased prices to incentivize miners. By the middle of 2010, prices broke past their current levels of $40/lb and continued to climb to a fair price of approximately $72/lb by February of 2011. Only a month later, the Fukushima disaster resulted in another downturn, leading to the industries current undervaluation.
Like all investments there is some inherent risk to investing in the uranium industry. The current rise in stock prices may be seasonal as government agencies and other buyers begin new budget cycles. There is also the risk that a disaster or event similar to Fukushima may occur driving stock prices back down. Investors must be wary of these risks and also the possibility of speculation caused by hedge funds that may drive uranium stock prices above their fair valuation, as was the case in the past.
Stocks Poised for Significant Gains
Cameco Corporation (NYSE:CCJ)
CCJ is currently the largest uranium miner, accounting for over 14% of the world's uranium production. With their strong production and market share, the company has yet to generate profits off its largest and most prolific mining site at Cigar Lake in Saskatchewan which has faced delays, leaving a large opportunity for increased revenues and stock appreciation. Unlike the majority of uranium miners, Cameco recently produced positive net income of $299.8M on $2,295.6M of sales and pays a dividend on their stock of approximately 2% (CCJ 2013 6-K). Furthermore, to aid in their long-term growth, the company became one of the main miners to provide uranium to China's growing nuclear power market under the Canada-China Nuclear Co-operation Agreement.
Denison Mines Corporation (NYSE:DNN)
Following the uranium market downturn, Denison's management positioned themselves to take advantage of depressed market prices through a series of strategic acquisitions and developments. The company's main focus has been on properties in the Athabasca Basin of Saskatchewan, which is one of the most lucrative areas for companies to make exponential wealth with the discovery of large reserves. The company's other projects are located in equally profitable areas, with Wheeler River in Wyoming being labeled as "the world's third highest grade uranium deposit with continued growth" and the McCLean Lake Mill in Saskatchewan being the most advanced uranium processing facility globally. Along with their strong list of project sites, Denison has a healthy balance sheet with approximately $27M of cash and very little debt, all of which makes DNN a great takeover target for companies such as CCJ or Areva.
Uranium Participation Corporation (OTCPK:URPTF)
Uranium Participation Corporation presents one of the best ways to hedge risk and bet purely on the rebounding of uranium prices. The primary and only focus of URPTF is the investment in and sale of commercial grade U308 uranium. The company is structured to buy reserves of uranium of the market and sell them as prices climb.
Mega Uranium Ltd.(OTCPK:MGAFF)
Mega Uranium is an exploration and development stage resources company with mines in Australia, Argentina, Cameroon, and Canada. The company is able to mitigate its risk through its wide project portfolio with uranium resources in Australia and interests in other geographic locations, including the lucrative Athabasca Basin in Sasketchewan. Mega also has interests in three gold and base metal exploration properties in Ontario through a joint venture with east West Resource Corporation, further diversifying its sources of revenue. The company's main risks are its limited liquidity position of $3.5M, halted production, generating no revenue from its continued operations, and status as a micro-cap company. Inherent to investing in micro-cap stocks is the increased risk and volatility, with fluctuations in price of 5-10% or more in a single trading day. While the company presents risk as a penny stock, it has opportunities to appreciate significantly with increases in uranium prices.
Pinetree Capital, Ltd. ([[OTCPK:PNPFF]])
Pinetree Capital is a diversified investment, financial advisory and venture capital firm focused on the small cap, junior resource exploration market. The company has continued to produced net losses following the Fukushima disaster because of decreased/halted production from its investments. Like Mega Uranium, the company presents risks as a micro-cap stock but has great growth potential if there is a rebound in uranium prices.
Barnes, Greg, and Bonita To. "Action Notes: Cameco Corp." TD Securities Inc. 9 Sept. 2013.
Hughes, John, Bill Mantzoutsos, Jackie Przybylowski, and Lau Stefanie. "Uranium Market - Looking Ahead to 2040." Desjardins Capital Markets, 9 May 2013.
Sterck, Edward, and Kodees Waran. "Uranium Market Report: Expected Uranium Turnaround May Take Longer." BMO Capital Markets. 14 July 2012