The rare earth element equities have been the strongest movers over the past 12-18 months. We feel that we have done a good job highlighting individual equities for investors; however, based on some of the questions we have received and recent market events (where companies have been identified as rare earth element companies, but certainly are not), we believe that we should highlight the basics for our readers.
Rare earth elements are special due to their properties. They are found in many consumer products, including iPods, flat screen televisions, computers, tablet PCs, smart phones and electric hybrid vehicles, as well as industrial products ranging from oil-refining equipment to the high-strength magnets found in wind turbines. Also of importance are their military applications (missile guidance/propulsion systems) and their applications for other military gear, such as night vision goggles and their uses on aircraft.
Obviously these rare earth elements might be the "oil" of the future, and much has been said about the companies scattered throughout the world by various media outlets -- who seem to be blown away by the tremendous gains. It is our opinion that we are in the early innings of this bull market, and rather than focusing on what the rare elements are, or what these companies possess, the media throws them all together and talks about how amazing the gains are; some editorialize about whether they think this move can continue going forward.
But many still do not know what rare earth elements are, as they are seldom broken out by themselves as a standalone investment. A case in point is the Market Vectors Rare Earths/Strategic Metals ETF (NYSEARCA:REMX) by Van Eck, which is commonly, but incorrectly, referred to as a rare earth element ((NYSEMKT:REE)) ETF. Fact is, there is REE exposure in the fund; however, it is far from a pure-play for investors, as it has significant exposure to molybdenum and other metals (thus the strategic metals reference in the name).
So what are they? REEs are a group of elements/metals generally defined as the 15 lanthanides and Yttrium. One can further break down the rare earth elements into two district groups: The light lanthanides (commonly referred to in the mining industry as light rare earth elements, or LREEs) and heavy lanthanides (heavy rare earth elements, or HREEs). Yttrium is included in the rare earth element group due to its characteristics that are similar to the heavy rare earth elements.
There seems to be a lot of confusion in the market place related to what constitutes a rare earth element. So remembering that lanthanides are the scientific name for this group, here is the list of 15 lanthanides along with Yttrium so there is no confusion regarding what is or is not a REE:
The 15 Lanthanides:
Light Rare Earth Elements (LREEs)
Heavy Rare Earth Elements (HREEs)
It is important to keep in mind that Yttrium is considered a HREE, so that would be the column we put it in if we had only broken it down between HREEs and LREEs.
Most people do not know what rare earths are, where they are found, what the deposits are like, or whether these REEs are rare or not. So let us cover that as well.
Anyone telling investors that, as a group, rare earth elements are "rare" is lying. If one were to look at their parts per million (known as ppm in the industry) measurement in the earth’s crust, they would find that Cerium and Lanthanum are the most common of the bunch (60 and 30 ppm, respectively) with Neodymium not far behind (28 ppm). Although not a HREE, the rarest is Promethium, which is a bit of a trick as it is not found in the earth’s crust as it is only stable for a short while in laboratories. According to our research, the LREEs are the most abundant of Lanthanides and the HREEs -- those that are Lanthanides -- are far rarer (Yttrium at 33 ppm is much more common in the crust).
Most who either are bearish on the industry, or simply do not know what they are talking about, like to point out that Cerium, Lanthanum and Yttrium are quite common as measured against other metals with industrial uses, and thus these REEs as a whole must be overvalued and therefore need to come down to a realistic price. Here is where the REEs become really special, and one begins to appreciate the overall investing theme.
Although at first glance the REEs are common, you have to first find them in a deposit. This is where it gets really tricky for the REE exploration companies. First, one does not go out and try to find a Terbium, Europium or Ytterbium deposit; due to the fact that REEs are found in deposits together, all may not be present in economically mineable quantities (or even be there at all), but generally they are found together, accompanied by either uranium or thorium.
Most deposits can be broken down into a LREE or HREE deposit, with the HREE deposits being the more valuable ones. Generally speaking, HREE deposits are approximately 50% HREEs and the rest LREEs (this depends on the deposit, of course, but getting over 50% HREEs in an economic deposit is rare). So once one finds a deposit, the easy part is over; now the company must determine whether the national government will allow it to extract radioactive materials and either process them for sale or discard them into a tailings pile. Even if the national government allows the radioactive materials to be processed, it is likely the governments on a state/province/municipality level with have further barriers -- in some cases, even First Nations/Native lands issues. Many projects cannot even get past these issues to drill, let alone build a mine and produce from it.
Around the world there are many REE deposits; however, mining them is simply not economically sensible. Even uranium mines that are currently mined have REEs that they simply throw into the tailings, it just is not economical to try to make REEs a by-product for the mines. There are some in Kazakhstan, Eastern Europe and most notably BHP’s Olympic Dam, but in all cases it is a very small amount. Even if you found a huge REE deposit, much like the ones found in Russia -- that are by some estimates the largest undeveloped REE deposits in the world -- there is a chance that they would still not be economical.
Many current companies are drilling and proving up REE deposits around the world right now; however, the most important fact when it comes to mining, especially when dealing with more than one target, is the metallurgy. No matter how rich, how large, or how close to the surface your deposit is, if you cannot separate the REEs out of the ore you mine, there is no way you will have a productive mine.
Even if you discover that your metallurgy is sound, one cannot expect to simply provide the market with a mixed concentrate of your total output. Customers want the refined, highly pure stuff, so one has to build a special plant in order to get the prices everyone quotes from China. The best way I can explain this in a way most investors will understand is that it resembles the oil market. Everyone looks at the NYMEX Light Sweet Crude as a benchmark; however, a refinery that buys oil will not buy heavy, thick tar sands output at the same price, as it requires more work. The same thing goes for REEs, except customers needing them do not have the capability of purifying these, so the miner needs to do it. The processing plant and equipment are what really add to the cost of the mine -- yet another barrier to entry.
This final step is one which has caused some varying opinions in the western world. Some argue that the companies themselves need to step up and do just as Molycorp (MCP) and Great Western Minerals (GWG) are doing and actually make the magnets and other materials to sell to the end user. The Chinese, Japanese, South Koreans, Molycorp, Great Western, Neo Material Technologies (NYSE:NEM), and others are capable of making these magnets and other materials, and there are ample customers with plenty of demand to make healthy profits at current prices.
To summarize why rare earth element DEPOSITS are rare:
Barriers to Entry:
- Finding a deposit
- Jurisdiction/Mining friendliness of where deposit is located
- Making sure deposit is economical
- Proving that the metallurgy is suitable for mining
- Being able to separate your production into highly purified concentrates
- Possibly having to manufacture the products from your production (if prices go down from here)
One must also remember that all rare earth elements are not created equal. Investors will make more money off of HREE mines than those focused on the LREEs. HREE mines will also provide investors with the full spectrum of REEs and will be much better suited should an environment exist where REE pricing power disappears and their value begins to fall.
All of the current mines coming online over the next few years are mines we would consider LREE deposits. Currently they will make money, and as they plan to be miners as well as manufacturers; we expect them to be even more profitable, as we have previously stated.
For those investors just arriving to the REE arena, we believe that this summary should guide you to make wise investment decisions. It should also bring many of you up to speed on the industry much faster than those who have been involved with these various companies from early stages. Using these parameters should help highlight those companies which are the real deal, and those who are merely pretenders.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
Additional disclosure: I am long STZYF.PK, ARAFF.PK, QSURD.PK