As lithium chemical prices outside of China continue to play catch-up with Chinese domestic pricing, various opportunities are arising. One significant opportunity produced by this situation is the need for large battery and material companies to identify and secure meaningful volumes of lithium supply. Many Chinese companies throughout the value chain, from battery material players to automotive groups, are highly dependent on the supply of low cost, high volume and of battery-grade quality. A lack of supply of the white material could hold up the production schedule of an entire industry. This issue has especially serious ramifications for the automotive industry, which is required to meet Chinese government implemented targets starting in 2019. Beyond the short-term ramp up in battery production, the new energy vehicle market in China and around the world is poised to grow over the next years, ensuring that battery and related materials acquisition remains a top priority for industries that are highly dependent on secure supplies. Based on this overall macroeconomic trend, lithium prices will remain strong over the coming years, leading to good equity investment opportunities in lithium mining and exploration businesses. It is my opinion that energy metals and technologies focused investors should have good exposure to advanced stage lithium explorers and early stage production companies, as these will greatly benefit from increasing lithium prices.
Another significant and growing trend in the lithium chemical business is the movement of Asian capital into lithium exploration and production companies. I view this as a clear signal that we are ahead of a significant long-term bull trend in demand for lithium chemicals. It is my opinion that as the lithium price continues to remain strong over the next 12-24 months, additional investments will be made into lithium exploration and mining companies who are looking to increase their production or moving towards production. As lithium prices remain high for a longer duration of time, this will become expensive for battery and material manufacturers unless they have a direct relationship with high-volume producers. Toyota Motors (TM), through Toyota Tsusho, is the only Tier 1 automotive company that has so far made a significant investment in the exploration, development, and operation of a lithium mining and chemical production asset. In the event that other automakers decide to make similar moves to secure lithium supply, either directly or indirectly, the valuation of both juniors and producers will significantly increase. It is also important to note that most lithium is produced by subsidiaries of very large, diversified chemical producers such as SQM (SQM), FMC (FMC), and Albemarle (ALB). Off-take agreements, such as the agreement reached between Ganfeng and Lithium Americas (LAC) will ensure that meaningful new supply lands directly in the hands of large users such as Chinese material and battery manufacturers. The impact of this situation is that despite new production coming gradually to market over the next few years, limited amounts of this supply will be distributed to many new and existing users of the chemical, leading to a period of prolonged high prices. Price relief will only occur when all major new and existing lithium users are supplied with an abundant amount of material.
In the near term, as lithium prices continue to remain strong, it is my expectation that there will be an increasing amount of capital being placed into junior lithium exploration companies. A speculative investment thesis is that advanced junior lithium exploration companies who are actively developing both high-grade and volume, low-cost lithium assets such as Advantage Lithium (OTCQX:AVLIF) and Millennial Lithium (OTCQX:MLNLF) will benefit for several reasons. First, their untapped resource asset simply rises in value due to a rising price for finished goods. Second, as prices remain high for an extended period of time, battery and material manufactures will be put under additional pressure to secure direct supplies, leading to an increase in resource asset acquisitions. Third, strategic relationships will become increasingly important for these manufacturers, leading to more Asian capital becoming available to develop lithium projects. Fourth, large users of lithium chemicals will want to secure supply by entering into long-term off-take agreements. It is my opinion that all of these factors will play a meaningful role in increasing the valuation of late-stage lithium exploration and early-stage production companies.
Lithium price jumps in the first quarter of 2018
In 2017, a large number of global Tier 1 automakers announced that they would begin to introduce a lineup of all-electric vehicles over the next years, especially in the Chinese domestic market, because the Chinese government has imposed electric vehicle mandate starting in 2019. As a direct response to the automakers' news, major Chinese, Korean, and Japanese battery and material manufacturers have announced significant investments into increasing global production, with a primary focus on the Chinese market. These announcements had a significant impact further downstream on energy metal providers in the lithium, graphite, and cobalt industries. As illustrated in the pricing graph below, Lithium carbonate pricing moved from approximately $5,500 T LCE in 2016to $11,000 T LCE by September 2017. Both SQM and Orocobre (OTCPK:OROCF) announced in CYQ4 2017 that sales contracts booked for CY H1 2018 were recorded at a 25% price premium compared to the prevailing quarter sales.
This represents a sale price of over $13,000 T LCE in the first half of 2018. In October 2017, lithium carbonate prices in the Chinese market were reported at over $18,000 T LCE, around 80% higher than pricing outside of China. The higher price received for material inside of China was a clear indication that prices for non-Chinese material would soon catch up, which is now happening. As illustrated in the chart above, titled 'Lithium Carbonate Price: Salar de Jujuy', lithium prices have continued to rise toward towards the $15,000 T LCE range in January 2018.
With little new supply of lithium expected to hit the market before 2020 and off-take arrangements ensuring that new supply is concentrated into the hands of a few users, it is my expectation that lithium prices will continue to remain strong and will rise throughout the balance of 2018 before stabilizing in 2019 and 2020. It is also important to note that new demand is expected to be absorbed by an increase in battery production which is highly contingent on global consumer demand for new energy vehicles which is a significant variable. Additionally, there is expected to be a significant increase in Australian ore and spodumene concentrate output destined for China. This material requires to be converted into chemicals in China or elsewhere. It is still unclear how much capacity exists, is being torn down and rebuilt and the exact amount of new conversion capacity.
Therefore, I continue to believe that advanced lithium exploration, early-stage producers, and select strategic lithium property plays will continue to perform well throughout 2018 and into 2019 and 2020.
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Disclosure: I am/we are long AVLIF, OROCF. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
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