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Reporting From Beijing/Shanghai: Chinese Institutional Investors Look at Rare Metals Overseas

I'm in Shanghai today; I was in Beijing yesterday; and I will be in Tokyo tomorrow and Hong Kong next week. I am teaching a course that I designed called "Rare Metals" for CLSA, Asia's pre-eminent brokerage. CLSA' Clients are my students. I do not presume to give investment advice to the likes of China Asset Management, China Investment Corporation, Manulife TEDA Fund Management Co.,Ltd, or Harvest Fund Management co., Ltd, but I do explain to them what the new asset class, rare, technology, and minor metals, in which they have an interest, is and how the rare metals market fundamentals and future use trends are related to, and different from, those of the older and obsolescent categories of base and precious metals.

There is no doubt that Chinas's growth rate cannot be sustained by its domestic production of natural resources.This is painfully obvious to Chinese corporate procurement officers. It is only now becoming apparent to Chinese domestic institutional investment. As just one outstanding example I note that China consumed 6 million tons of copper last year out of the world total production of around 16 million tons. Importing 5 million tons of copper cost the Chinese economy some 40 billion dollars. Thank goodness, Chinese bankers tell me, for the export market for finished goods and services.

I emphasize in my "course' that if China's growth rate were to continue at 8% then its demand for all metals, current at 53-56% of all metals produced in the world could shortly rise to a level where the existing productive capacity of the world's metals economy cannot increase any further due to capital, equipment, and skilled personnel limitations of availability and when this point is reached the first result will be an intense commodity price inflation the likes of which the world has never seen. This would of course in the long run be demand destructive and prices would ultimately crash in a world commodities price led recession, but the economic and political danger of such a series of events is sobering and a little frightening,

China recognizes this possibility much better than western economies, still mired in recession due to the credit bubble, do. China fears most of all a commodity price inflation and a renminbi appreciation either or both of which could damage its economy or slow or even stop its growth.

China's rare earth production industry, the world's largest by far, is now being downsized in management and given access, under the new supervising management-of which I have already written-to all the capital it needs for a rational restructuring in preparation for a great leap forward to a domestic productive capacity that will enable the industry to meet the goals set in this and the next five-year plan for raw materials for the alternate energy production and use. 

In the meantime, over the next 10 years, a window of opportunity has arisen for non Chinese producers of rare earths, if they can move fast enough, to supply the Chinese, Japanese, Korean, and (soon) Indian manufacturing industries with rare earth raw materials and metals,

China has enough light rare earth resources to supply itself indefinitely. What China worries about is its supply, current the only one in production, of heavy rare earths. I cannot overemphasize the importance of the non-Chinese heavy rare earth supply industry to China's and then the world's green alternate energy industries.

In summary: There is room right now for some supply of light rare earths outside of China. There is also a demand for the heavy rare earths beyond China's productive capacity and this demand may be permanent.

The economics of rare earth mining are difficult and challenging if the goal of a mining company is just to produce unseparated concentrates it will most likely fail as a freestanding economic enterprise unless its overheads are distributed in the balance sheet of a larger independently funded entity. This is how BaoTou functions in China, for example. The rare earth entity has the advantage of the parent iron mining company's distributed overheads. I believe that no where else in the world could such a large rare earth production point be successful without the financial support of the larger company's absorption of overheads.

I am preaching to the Chinese rare earth and rare metals supply industries that they must now seek out natural resources everywhere and that it isn't necessary to own them outright. Producing rare earths for example in South Africa with Chinese investment short of ownership creates a supply for there is no local domestic demand. Thus it is an exportable supply. This means that deals can be struck where initial investments of money and technology for refining are repaid in kind, in metals that can be exported to the investor's home markets.

Governments that wake up to foreign investments that create wealth will rebuild their economies in part on this basis.

America's needs for light rare earths will be oversupplied by Molycorp as will Australia's by Lynas in a massive way. For the heavy rare earths America's needs can be meet and exceeded  by Ucore and Rare Element Resources. The needs of China and Japan and Korea and India for heavy rare earths can be met by the Canadian and African operations of Great Western Minerals Group, The Canadian operations of Avalon or Quest, and the southern African operations of Frontier Rare Earths and Tantalus.

Its time to circle the wagons and switch to fast forward in non Chinese rare earth production. The window for light rare earths will close by the mid to late teens. The window for heavy rare earths is now open and unlikely to close.

I'll be in Tokyo for the next two days and will report from there on Japan's needs and plans for rare earth security of supply.

Disclosure: I own stock in all of the companies mentioned in this report other than Molycorp and Lynas