We use relative strength and momentum as our primary investing strategy, pairing it with fundamental and psychological analysis in determining the general market direction and stock selection.
One of our most successful investment themes in the lifetime of our newsletter has been our bullish on commodities thesis - and even more specifically our rare earth thesis.
As the rare earth investment story has gotten more coverage, it has resulted in astonishing price action in the last six months that has attracted the momentum investing crowd. This brings with it certain factors to the investment thesis.
- Minor setbacks generate substantial pullbacks: The reports that Toyota (TM) was developing a motor for its hybrid vehicles that was rare earth free was a major driver of the January correction in rare earth stocks. The investment thesis was unchanged, however the negative news brought back to earth rare earth stocks that had gotten ahead of themselves in the Santa Claus rally. We said in our early January Seeking Alpha article 2 Standout Companies Amongst Junior Rare Earth Stocks that we considered Molycorp (MCP) frothy at its current price, and would look to buy on a pullback to mid-$40’s.
- Stocks get caught in the gravitational pull of the momentum: We have seen three stocks rally as part of the rare earth story that do not have a rare earth deposit outside of China.
Qiao Xing Universal Resources (XING), China GengSheng Minerals (CHGS), and China Shen Zhou Mining & Resources (SHZ) have all rallied in line with the major rare earth names even though none of them have a rare earth deposit outside of China. Furthermore, some of them don’t even have a rare earth deposit within China.
The China factor is critical to the rare earth story due to the major component of the rare earth investment thesis being the lack of rare earth supply and infrastructure outside of China. A rare earth mine inside China is not exactly something new to the world, just ask the manufacturers who buy rare earths where they are buying them from.
The reason this has occurred is because of the very limited float of rare earth shares traded on major U.S. exchanges. The float prior to the Molycorp secondary offering consisted of approximately 20 million shares of Molycorp, Rare Earth Elements (REE), and Avalon Rare Metals (AVL) – not a lot of floating rare earth shares available in dollar terms for U.S. institutions looking for rare earth exposure and restricted to U.S. exchange traded stocks.
The result of this rare earth float scarcity was that some mining names have gotten the rare earth lift despite not actually being in the rare earth space. The problem with this is that the price action reinforces the original fallacy that these stocks are in the rare earth space. Case in point here.
In the Qiao Xing Universal Resources (XING) corporate presentation, we only found the phrase “rare earth” once and the primary focus was on molybdenum, copper, zinc, and base metals. We did not find a single reference to a rare earth deposit, let alone a rare earth deposit outside of China.
In the China Gengsheng Minerals (CHGS) corporate presentation, we don’t even see discussion of potential deposits to mine but instead we see a company that is a manufacturer of industrial goods. If you want further evidence of CHGS' lack of involvement in the rare earth mining space or the rare earth industry even within China: the about us section of its website does not include the phrase “rare earths”.
For all three of these companies, you would think if they had rare earth exposure that management would have made a major effort to publicize it for investor interest to benefit from the rare earth mania occurring.
Here we see three companies that have shown great restraint and integrity to not jump on the rare earth bandwagon even though they have somehow ended up there anyway. We have not done the fundamental analysis on any of these three companies to analyze the merits of their core businesses beyond our examination of whether or not they have rare earth mining exposure either inside or outside of China.
Additional disclosure: The facts in this newsletter are believed by the Strategist to be accurate, but the Strategist cannot guarantee that they are. Nothing in this newsletter should be taken as a solicitation to purchase or sell securities. These are Mr. Evensen’s opinions and he may be wrong. Principals, Editors, Writers, and Associates of The Strategist may have positions in securities mentioned in this newsletter. You should take this into consideration before acting on any advice given in this newsletter. Investing includes certain risks including loss of principal.