by KS

This post will introduce the investment case for Rare Earth Elements (REE), a very small but exciting natural resource.

It is a group of elements with unpronounceable names like terbium, dysprosium, holmium, cerium, europium and Ytterbium to name just a few. See the graphic below for a complete list of REE. REE are not exchange traded, and requirements are customer specific. The most significant difference between other natural resources is not the exploitation but the refinery process. REE must be recovered as a group and sequentially separated. This is a relatively difficult process and it is not always possible to extract all of the metals from existing ore, i.e. the producer must choose which metals to extract.

Rare Earth Elements

Source: Avalon

2010 global demand for REE is estimated at 136,000t . Demand is expected to grow by around 40% by 2014 from these levels, while supply is relatively constrained given the few potential mining projects.

Applications & Demand

Mined from under the earth, these metals are used in a broad variety of existing technologies, such as hybrid cars, energy efficient light-bulbs, wind turbines and many other uses. For example, each hybrid car has about 15kg of REE inside. This means the Toyota Prius alone uses up 8,100t per year, based on annual unit production of 540,000 units. This is 6% of total annual demand.

REE are not just used in the production of hybrid vehicles but are increasingly being used in gasoline vehicles-emission controls, LCD and PDP displays and are used to make high-strength magnets. The versatility and specificity of the rare earths has given them a level of technological, environmental and economic importance considerably greater than might be expected from their relative obscurity.

Several REE are essential constituents of both petroleum fluid cracking catalysts and automotive pollution-control catalytic converters. The following picture shows a selection of applications in a variety of fields:

REE Applications

Source: Avalon

With these existing applications becoming more popular and research into the uses of REE advancing rapidly, the demand potential is significant. So far, REE are also very hard to replace in the roles they play in these applications

Supply Issues & The Role of China

The Middle East has oil, but China has rare earth – Quote by Deng Xiaoping

Though more abundant than many familiar industrial metals, the REE have a tendency to become concentrated in exploitable ore deposits. Consequently, most of the world’s supply comes from only a few sources.

image

A large share of the global REE production from 1950 through 1990 came from the United States, almost entirely from Mountain Pass, California. From 1990 to today however, the attention shifted to China from several deposits. Even as far back as 1999 and 2000, more than 90 per cent of REE required by the United States industry came from deposits in China. This figure now stands at 97%.

The reasons why China has come to dominate this market are manifold. Unfortunately the primary reason why China could quickly establish itself as the major producer was that it was much less concerned about the drilling methods and its environmental impacts, which allowed it to undercut existing prices significantly. Furthermore, in the last 3 years China has continually reduced the amount of local REE production that can be exported. This has led to a large number of manufacturing firms relocating to China to gain access to these resources, tightening and enhancing the existing supply and production chains. Last but not least China has made moves to buy other rare earth resources around the world. When credit markets collapsed in 2008 China Non-Ferrous Metal Mining (Group) Co. tried to acquire a majority stake in Lynas, which was subsequently blocked by Australia’s Foreign Investment Review Board. The same company then acquired a 25% stake in Arafura.

In July 2010 Chinese officials announced a further 75% reduction in export quotas, increasing global trade tensions. The U.S. has asked business groups and unions to provide evidence that China is hoarding rare earths for a case that may be filed at the World Trade Organization.

Further accelerating the problem, there are little new resources ready to be exploited. Numerous projects are in the pipeline but with the exception of the Mt Weld mine in Australia none are expected to start producing in the next 2-3 years. The following picture from Lynas shows this dynamic. While supply is expected to remain relatively stable demand is likely to significantly exceed existing supply projections.

Supply&Demand

The next chart shows current mining projects in the pipeline. Except for the Australian Mt Weld location, no other projects have even started the construction process.

Project Pipeline

Effects of Imbalances

Shortages can occur when supply as a function of time can no longer keep up with demand as a function of time. At that point, the ultimate recoverable resource in the ground becomes irrelevant. REE seem to have reached this point. Current resources are struggling to maintain production, and growth forecasts are greater than new supply coming to the market. Given the limited supply pipeline expected to hit the market, the scarcity is expected to be an aspect of this industry for at least the next five to ten years. The natural result is that prices for these metals will continue to increase.

REE are generally used in small quantities relative to the overall product. However, REE are also (in most cases) irreplaceable for the particular product. This leads to an interesting price setting behaviour that Dr. Matthew James from Lynas described at an investor conference in the following way:

Secure me the supply of this material , I don’t really care about the price.

REE in New Zealand?

Currently there is no mining of any REE in New Zealand. In addition I am not aware (or couldn’t find references) of any projects or discovery efforts being undertaken.

In a 2007 report of the Institute of Geological and Nuclear Sciences Ltd the authors confirm this view (report available via crownminerals.govt.nz). They acknowledge that REE can be found in New Zealand and that several locations have been identified (see graphic below).  Beach sand deposits near Westport and at Barrytown north of Greymouth contain minor amounts of monazite which could be recovered as a by-product of proposed ilmenite and gold production.

In a separate paper by the Department of Geological Sciences, University of Idaho, the authors discuss the existence of REE in geothermal waters from the Taupo Volcanic Zone.

NZ REE lovations

Investment plays

As REE are not exchange traded directly, exposure must be gained through a mining company. Over 90% of global production is done in China, through either state-owned or private companies. This means the opportunity set is very limited. Of all the rare earth metal miners operating outside China, Lynas (ASX:LYC) is closest to production and is high on investors radar.

Mining the Mount Weld project in Western Australia, the group plans to double production as it moves into the second phase of mining. Lynas is also constructing a plant to process the ore in Malaysia. Mount Weld is touted to have the world’s richest rare earth deposit, and is expected to produce some 1.1 million tonnes of rare earth oxides. That’s enough to supply up to 20 per cent of the global market for 30 years, according to some analysts.

Greenland Minerals and Energy, with access to what it says are probably the world’s largest deposits of rare earth metals and uranium plans also plans to list in London next year. The firm is already listed on the Australian exchange.

In Canada, the best-known junior is Toronto-based Avalon. Smaller Canadian juniors include Rare Element Resources Ltd and Quest Uranium Corp.

Given the recent trade restrictions by China, the sector has seen an impressive rally. Lynas for example has gone up by nearly 170% since the beginning of July!

LYC Stock

Concluding Remarks

I hope this post was as interesting for you to read as it was for me to research and write about. I look forward to any feedback, suggestions, criticism, and/or discussions in the comments section!

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