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The Potential of the Rare Earth Metals Market and Where it will go in 2019/2020

Most investors have a pretty good understanding of how both the precious metal and industrial metal sectors work. However, very few people have heard much about the rare earth metals sector. That’s not surprising as the total market for rare earth metals remains quite small, despite being in high demand all over the world. According to one report conducted by Zion Market Research, the global rare earth metals market was valued at only $8.1bn in 2018. In comparison to industrial metals like iron, aluminium, copper, and precious metals like gold, silver, and platinum, the size of the rare earth metals market is comparatively small.

However, the reality of the situation is that it is one of the few upcoming sectors that, in the years to come, will see an explosion in growth, and much of that reason has to do with the current geopolitical situation between the US and China. With the ongoing trade conflict between Beijing and Washington underscoring the US’s dependence on foreign supplies of these irreplaceable metals, this has kickstarted a revival of interest in the industry and developing previously ignored domestic resource sites.

Rare earth metals are a group of chemical elements found within the Earth’s crust that are crucial to the manufacturing of various technologies. Consumer electronics, clean energy, computers, advanced transportation, healthcare, and national defence are all areas where these rare earth metals play an incredibly important role. Many of these sectors are growing at an impressive rate, which is only going to increase the demand for these elements – many of which few have ever heard of. Neodymium, for example, has become a critical component in the area of smartphone production, manufacturing televisions, lasers, rechargeable batteries, and hard drives. With so much demand for these metals, it’s not surprising that this sector is now getting its fair share of excitement from investors looking to get in on the proverbial ground floor.

However, there are some problems that have deterred some companies from over-relying on these metals. Most rare metals are in scarce supply and it’s difficult for companies to find reliable suppliers. Furthermore, rare metals can see drastic price swings, often to the tune of 500% to 1,000% over a couple of years, and companies have traditionally held back against wider adoption of these metals precisely because of these dramatic price swings.

However, should the volatility of this market stabilise, we could see a drastic influx of buyers for rare metals and an explosive growth in the industry never seen before. Currently, rare earth metal companies typically operate within the realm of micro-cap stocks, trading on smaller, obscure exchanges where small mining stocks can raise funds, such as in Canada or Australia. These types of companies have been favourites among the slew of investment newsletters looking for the next stock that’s going to skyrocket. However, the industry as a whole is a difficult one for investors to get into – a possible exception being one of the handful of companies that have managed to grow past the small-cap point and reached a slightly more established position.

Thanks to recent political pressures and trade conflicts, we are seeing the beginnings of a rare earth revival in western nations that is backed not just by the private market but by policymakers and administrations that have an interest in growing domestic industries. In this article we’ll take a look at the history of the industry as a whole, the applications of rare earth metals, and where demand is going to grow. Additionally, we’ll also look into how shifts in the global geopolitical landscape will create an explosion in the sector, which specific investments in the industry to consider, and how high some of these stocks can go in the next year or two.

The history of rare earth metals

A rare earth metal, also called a strategic mineral, is generally defined as a metal that’s important to a nation’s economy that doesn’t have many substitutes. The first documented discovery of one of these metals happened as far back in 1787 in Sweden when an army lieutenant collected a black mineral called ytterbite. It wouldn’t be until 100 years later that rare earths were produced commercially in Sweden and Norway. For most of the 20th century, production of these metals has remained relatively scarce, with the use of individual rare earth metals being limited until improvements to metallurgical and separation technologies happened in the 1950s.

However, that’s not to say that they are all extremely rare, as many are actually abundantly available in the Earth’s crust. Lanthanum, neodymium, and cerium are all rare earth metals that are far more abundant than copper, gold, lead, and silver, having a parts-per-million (ppm) concentration that is tens or hundreds of times higher than these other, much more commonly produced metals.

According to a research report derived from data produced by the US Geological Service’s (USGS) Mineral Commodity Summaries, rare earth metal reserves worldwide are estimated to be around 130 million tonnes, with China and Brazil holding the largest share at 16.9% and 42.3% respectively. In comparison, the United States only has 1.4% of the world’s reserves. If one looks at the annual output of these metals, the same study showed that out of the 124,000 metric tonnes produced in 2015, China contributed a staggering 87.5%. In second place was Australia, with 8.3%, while the United States came in at only 3.4%. Even mining giants such as Russia produced only 2.1% of the world’s rare earth metal output.

Considering the amount of high-tech manufacturing that the United States does, this means that the country has resorted to importing most of these rare earth metals from China. It might surprise some to know that for a long period of time, the United States used to be the world’s leader of rare earth metals. However, China ended up surpassing the US in this regard sometime during the 1990s. One reason why China ended up dominating the production of these rare elements is due to the environmental damage caused when mining some of these metals. Many of these elements product radioactive waste from the thorium present in these ores, which can contaminate the soil, water, and air. While western nations are not as willing to engage in this type of practice, China has been more than willing to do so. In Ganzhou, a city known as the capital of rare earth development, the local Pearl River Basin has become extremely contaminated even by Chinese standards, let alone American or European standards.

However, technology has advanced over the past couple of decades to the point that extracting many of these same metals is no longer as arduous environmentally as it used to be. This has opened up the possibility of rare earth mining operations in far more countries than before. Nations like Australia and Canada, known for their strong mining sectors, have seen an increase in rare earth mining activity in recent years.

Modern applications

Rare earth metals are used heavily in devices that most people use on a day to day basis, such as smartphones, rechargeable batteries, catalytic converts for electric cars, magnets, and much more. When put into perspective, it’s not surprising to see demand for these rare elements skyrocket. Around 20 years ago, mobile phones were a rarity that few people used. Today, over seven billion phones are used around the world and demand is constantly on the rise.

The single largest application for these rare elements is magnets, with most of that demand coming from the electronic, power generation, and automotive sectors. Even the medical industry, where magnets are used in MRI machines, heart pumps, pacemakers, and other specialised equipment, rare earths are seeing demand grow at a remarkable rate.

Electric vehicles are another major contributor to rare earth metal demand. Although demand in the US is expected to dip a little, as previous tax credits that incentivised electric vehicle purchases are now expiring, other markets such as China and India are exploding. With governments in these countries pushing for their citizens to buy electric vehicles to help combat industrial pollution, the Chinese in particular, have vastly eclipsed their western counterparts in this area. The World Economic Forum reported that Chinese electric vehicle sales were at 1,255,000 in 2018, as opposed to the 361,307 seen in the United States, and was up by 67% in comparison to 2017’s figures. With these types of cars expected to overtake regular automobiles in the coming decades, this is just one area that’s pushing demand for rare earth metals.

Another area that’s poised to see significant growth over the coming decade is the renewable energy sector. While retail demand for solar panel installations on homes continues to grow, even some of the largest energy companies in the world are anticipating a shift to cleaner energy in the years to come, and are investing heavily in wind turbines and massive solar farms. With many countries pushing hard to meet the gas emission reduction targets set under the Paris agreement, state-backed renewable energy projects are exploding drastically.

A new scientific study backed by the Dutch Ministry of Infrastructure and Water Management has gone on to warn that the renewable energy sector could see a massive shortage in the supply of rare earth metals needed to build these panels and turbines. Specifically, neodymium, indium, terbium, dysprosium, and praseodymium are all elements that are crucial to the renewable energy sector, and according to the report, supplies need to grow twelvefold by 2050 just to keep up with demand from this industry, let alone all the other sectors.

The “current global supply of several critical metals is insufficient to transition to a renewable energy system,” the study states. “If the rest of the world would develop renewable electricity capacity at a comparable pace with the Netherlands, a considerable shortage would arise… When other applications (such as electric vehicles) are also taken into consideration, the required amount of certain metals would further increase.”

When one looks at all of the sectors that rely on these rare earth metals and the fact that all of them are expected to grow either moderately or exponentially over the coming years, it’s easy to see how demand will vastly eclipse current supplies. This creates the perfect situation for companies to begin investing significantly in mining these rare metals precisely because demand will skyrocket.

Impact on the defence sector

While it’s easy to see why many experts are so bullish on the industry as a whole, there is another crucial factor that potentially eclipses all others combined; that being the role rare earth metals play in national defence. A number of technologies used by military forces, like night-vision goggles, communications equipment, GPS and precision-guided weaponry, jet engines, and more all need rare earth metals. They are also a key ingredient for producing the hard alloys used in armoured vehicles, and while potential substitutes for these metals exist, they are not as effective and end up significantly reducing the effectiveness of this equipment.

This quickly becomes a potential security problem for the US and other western nations that rely entirely on exports from China for their rare earth metals. As one can imagine, this represents a significant risk for these nations, as China could easily restrict access to these crucial materials if they wanted to and subsequently grind much of the world’s military production to a halt.

These concerns first came to the spotlight in 2010, when a series of events and press reports made reference to a possible rare earth ‘crisis’ on the horizon. Policymakers in the US were worried that China could easily restrict access to its rare earth metals, highlighting an incident that year between Japan and China over the ownership of the Senkaku Islands. In a response that hardly seemed balanced at the time, China completely banned all rare earth exports to Japan, which was also a major buyer of these elements from China. Understandably, this sent prices for rare earth metals skyrocketing.

Worries about whether the US had lost all domestic capacity to produce these strategic materials grew to the extent that Congress demanded the Secretary of Defense at the time to assess what the country could do to rectify the problem. The subsequent report on the matter ended up confirming much of what we know now – that the US was almost entirely reliant on China for access to these materials. What’s worse, however, is that the few rare earth mining facilities that are domestic still need to ship all of their ore to China for further processing and refining. California’s Mountain Pass mine is the only US rare earth facility in operation and it ships around 50,000 tonnes of rare earth concentrate across the Pacific ocean precisely for this reason.

While the issue died down a little in the years following the report, fears about a rare earth metal ‘embargo’ remerged earlier this year due to the ongoing trade conflicts between Washington and Beijing. After China announced it would be adding a 25% tariff on rare earth products bound to the US, domestic lawmakers decided that enough was enough and have begun pushing through legislation meant to revitalise the US rare earth industry.

Earlier this year, US lawmakers proposed a new sweeping law that would begin by surveying the entire country’s domestic supply of rare earth deposits to get an understanding of which areas are most promising. Getting bipartisan support from both sides of the isle, this law would lay the groundwork for future projects operated by the private sector but backed by public officials. This new law would also streamline permit requirements and regulations for companies looking to start mining rare earth metals.

Specifically, the bill would allow investors to form a cooperative that is exempt from antitrust laws – an effort that would help protect them from competition in China that has had state backing for decades. These cooperatives would let investors split the profits while limiting the risks that come from building a mining operation where dramatic 1,000% price swings can happen frequently. This cooperative would also get federal backing from the US Department of Defense alongside other private military suppliers and tech companies.

While strong demand in the civilian/industrial sector would create an influx of rare earth mining companies over time, this push from the US government could result in a dramatic resurgence in the sector not seen in the country’s history. With so much federal backing available to companies looking to get into this sector, this is the biggest reason why many experts see 2019 and 2020 as being a game-changer for the industry.

Understanding the current market

It’s not hard to see why many experts think the next couple of years are going to be transformative for the rare earth industry, not only in America but also in other mining-centric nations like Australia and Canada. At the same time, the current state of the rare earth mining sector is completely different from other mining sectors.

In well-established mining markets, as is the case with most precious and industrial metals, there’s a unique relationship between so-called senior and junior mining companies. If one looks at the Toronto Stock Exchange (TSX) or Australian Stock Exchange (ASX), there’s a large number of tiny mining stocks to choose from. Most of these small, junior miners go public in an effort to raise funds and then use those proceeds to finance their exploration efforts. As such, most junior minors operate as exploration-outfits, oftentimes backed by senior miners that aren’t interested in doing all the exploratory legwork themselves. Most of these stocks end up falling into the penny stock category until they announce a major find. Since most of these junior miners don’t have the experience or funding to build entire mining complexes, they usually get bought out by a senior miner once they’ve made a discovery.

This has been the traditional relationship between senior and junior miners in the mining ecosystem, and it’s worked fairly well for decades. The problem comes down to the fact that in the rare earth metals industry, there really aren’t any large, senior miners except for a few companies that are, at best, mid-cap sized by mainstream mining standards. What this means is that whereas a small gold exploration company is guaranteed to see its shares surge after making a major discovery since a buyout offer is likely already in the works, the same can’t be said for discoveries in the rare earth mining sector.

That’s exactly why stock speculators can find themselves disappointed by rare earth mining companies, as they are used to the wild price swings seen in other mining sectors that don’t necessarily translate into the rare earth industry. This has meant that while the industry as a whole is extremely bullish, it’s harder to find individual stock picks.

While this would be the case in an entirely private market situation, this is changed by the fact that various government bodies such as the Department of Defense are actively getting involved in supporting the industry. Small miners could find potential backing from federal groups, letting them expand quicker and move on from the exploratory stage to developing large scale projects.

Investing in the rare earth sector

Although it’s easy to say the future has never been brighter for these companies, that’s not to say that all rare earth miners are created equally. As seen in other young sectors such as with cannabis a year or two ago, once markets get excited about an idea, many small companies skyrocket solely on the basis of hype and excitement rather than strong fundamentals. While this could be profitable in the short term, it almost always ends in disaster as the industry matures and expects something more tangible from these hyped-up stocks.

We can see a similar trend beginning to form in the rare earth industry today. Subscription-based stock newsletters are already promoting companies that, in all honesty, aren’t worth that much. Even some management teams of companies in this sector know that their promised projects didn’t stand a chance of getting off the ground but still have no reserves about promoting their company, especially since plenty of dumb money will be flooding the markets soon.

What this means for investors is that they need to be careful and know what to look for in a company. One potential investment opportunity is the VanEck Vectors Rare Earth/Strategic Metals ETF (REMX), which is a collection of Chinese, Australian, Canadian, and other rare earth miners. While investing in these broad, industry-focused exchanges is often the typical advice given to investors, there is a pretty strong case to be made against the VanEck ETF.

For one, 25% of the REMX comes from Chinese rare earth mining stocks, which are already developed to a larger extent than their overseas counterparts and have less room to grow. These stocks are not in a position to benefit from US policy shifts on domestic rare earth production and the resulting boom that this will create. Nor will these companies likely be allowed to invest in US projects. Even if there ends up being an export ban from China on rare earth metals to the US, these stocks aren’t in a position to rise. In fact, banning exports generally hurts domestic industries that are exporting, which is what would happen to these Chinese miners should this happen.

Additionally, some companies listed on the REMX aren’t even producing rare earth metals at all. Tronox Holdings (NYSE: TROX), is one of these companies that sees 70% of its annual revenue from titanium dioxide, 16% from zircon, and 5% from pig iron, with almost none of its revenue exposure coming from rare earth metal sales. Iluka Resources (ASX: ILU), another holding on the ETF, also doesn’t sell rare earth metals but instead mostly sells titanium dioxide as well. The Australian-based company is conducting a feasibility study on a potential rare earth project, but this could take years before it becomes operational and is essentially not a rare earth play.

The top rare earth stock pick

So what does this mean for investors if the VanEck ETF isn’t that great of an investment vehicle? One needs to look at individual stocks that show the best potential. As mentioned before, most rare earth miners tend to be very small, but there are some companies in this industry that are somewhat established and good investment opportunities.

Perhaps the strongest case that could be made for any company in this sector would be for an Australian company called Lynas Corp (ASX: LYC). While smaller than the previously mentioned Tronox and Iluka, with a market cap of $1.8bn, Lynas is the largest rare earth producer outside of China in terms of output, rather than market cap. From a fundamental level, the stock is arguably one of the best positioned in the entire industry to take advantage of a potential ban or restriction from China on rare earth metal exports, with prices having already jumped exactly when that happened. While not necessarily a strong enough indicator by itself, on a technical level, one can see that the stock’s former resistance level is now becoming a support level for the stock since it’s price spiked in May.

Lynas has already begun plans to build plants in the US after facing problems in Malaysia, where it currently operates. Since the company already has a track record of success in terms of its mines, alongside being able to draw up significant amounts of capital if needed to expand, it wouldn’t be surprising to see Lynas further expand into the US once this new legislation comes into effect.

Although the stock has fallen significantly between 2011 and 2015, Lynas recorded its first profit last year at $53m, which was achieved without the help of trade war fears. Its sales and records are at their highest levels to date, and the company’s debt has been halved since 2016. Lynas is one of the few stocks in the rare earth metals sector that’s reasonably well established, optimally positioned to surge in the event of a Chinese ban on exports, with both strong fundamentals and technicals backing it. While many analysts currently put their one-year price target at around $3.25, that might not be taking into consideration all the potential upsides the company is exposed to, such as a potential export ban from China or the upcoming rare earth metal bill in America. It wouldn’t be surprising if the stock doubles to $5 per share at the minimum in 2019 or 2020, with the possibility of it going as high as $10 – being on the upper range of what’s possible.

Conclusion

The rare earth metal industry has always played a crucial role in high-tech manufacturing, but as the demand for electric vehicles, consumer electronics, renewable energy, and other products continues to grow, demand for these metals will drastically outstrip supply. While one would think that the market would have corrected this discrepancy by now, a number of factors such as volatile price swings, environmental standards, and a lack of investors have prevented this from happening as quickly as one would have expected.

Thanks to recent trade tensions, governments around the world have a renewed interest in developing this industry domestically, promising to ease up regulations and even give government backing to promising projects. For rare earth miners that have struggled to get off the ground, 2019 and 2020 will be a golden opportunity for exponential growth not seen in perhaps the industry’s entire history, and those that are already established could become some of the best known mining stocks in the entire market.

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