Bursting Two Potential 2011 Bubbles

 |  Includes: REMX, VNM
by: Global Investing Editor

There are two 2011 bubbles I want to prick before you get caught up in them. They are Vietnam and rare earths.

Marxism and markets are hard to mix. While China offshores production to Vietnam, this has been a mixed blessing. Growth topped 7% a year until last year when it fell to 6.8%. But inflation is running much faster than growth. And about a third of the economy is in the hands of the state. Unlike China, despite its doi moi policy, Vietnam has not been able to liberalize production while keeping political control. There are a few really huge state-owned conglomerates which have dividersified throughtout the economy. The giant Vietnamese state-owned conglomerate, Vinashin, thanks to poor management and misuse of capital (sometimes for corruption) faces effective bankruptcy. Once a ship-building firm, the current Communist regime decided to turn the politically well-connected company into a growth engine. Fed by fast growth of profits in the 1990s, it invested in hotels, liquor, insurance, whatever. Other state companies, starting in electric generation or telephones or oil, have also invested widely in Vietnam.

The Vinashin group now has debts topping $4.4 bn, equivalent to 4.5% of the 2009 GNP of 'Nam. As it cannot pay the $60 mn it owes Credit Suisse, the Hanoi government has intervened with a new interest-free loan to cover this payment plus salaries. This comes on top of an earlier $600 mn state loan made to Vinashin at zero interest in 2007. Private sector companies have to fight to access bank credit, which goes mostly to state enterprises. And when they get a loan they pay 18% interest. After the latest Vinashin bailout, Moody's and Standard & Poor's downrated Vietnam.

Now the government is facing attacks on its finances at the 11th Communist Party Congress in mid-Jan. While I do not think PM Nguyen Tan Dung will be spared, the relatively young (60) and charismatic leader may keep power by bringing on a more collective leadership. But things are fraught. Meanwhile pollution is killing the fisheries and tourism receipts are below targets.

As for rare earths, 17 strategic metals used in electronics, solar energy, refining, and military applications, whose export China is limiting, by cutting quotas 72% for 2011, there appears to be a solution even before the mines in the West can be reopened. The new mines will have to operate under newer and costlier anti-pollution rules, which will take three years or more. Meanwhile China controls about 95% of the market and prices are soaring. About a third of total world reserves of rare earths come from China. It will export only 14,446 metric tons in H1 this year, down 35% from 2010.

But high prices lead to a solution. A company in former East Germany, Loser Chemie, has developed a method of extracting from industrial waste the sought-after rare earths like lithium, molybdenum, gallium, indium, selenium, neodymium, and wolfram. This small firm, in Saxony, is headed by Wolfram Palitzsch, who holds a bunch of patents on the recycling process. I think his name led him into this field, since Wolfram is another name for tungsten, but it appears that he got his start extracting aluminum from Saxony's abundant industrial waste for a water treatment plant. From this he developed extracting rare earths. An example is europeium which Palitszsch figured out how to extract from used low-consumption light bulbs. Germany alone trashes 400 tonnes/yr of eruopeium.

The German government is subsidizing Palitzsch's work in strategic metal recuperation to the tune of about $120,000/yr. The company is private and I suspect it will soon be acquired, making the former Ossi very rich. Meanwhile, do not count on rare earths remaining that rare.

Currently only about 1% of industrial waste is processed to extract rare earths in Europe; I suspect US figures are similar. The growth will come in extracting the stuff from waste, not from mines.