China's "Rare Earths" Exports Collapse, World Prices Soar

Let’s think back to September 2010. Japan confronted China at sea in a dispute over fishing rights. The Japanese arrested a Chinese fishing boat captain. The Chinese soon imposed an embargo on rare earths exports to Japan.

Suddenly, rare earths – a relatively obscure set of industrial minerals, oxides and metals – became the stuff of high international attention and intrigue. It became common knowledge that China controls about 97% of the world’s rare earths output. Overnight, the dire industrial and political implications of that geological monopoly became apparent.

Investors were – and are – right to be interested in this situation. Just last week, we learned that the value of China’s rare earths exports has soared almost nine-fold, year on year. That is, a tonne (i.e., a metric ton) of Chinese rare earths – a weighted composite of 17 different materials – currently rings the cash register for just over $109,000. This is up dramatically since July 2010, when each tonne averaged buyers a mere $14,405.

In other words, China is raking it in. In fact, the prices of rare earths out of China have averaged about a $10,000 increase per tonne per month over the past year!

It gets worse for non-Chinese users. In February 2011 China reportedly exported a total of 750 tonnes of rare earths to a global array of buyers. This was slightly more than the 647 tonnes China shipped in January. Yet in just this one month, the average price for a tonne of rare earths leapt ahead by $34,000, according to a calculation by Reuters News Service based on data from China’s customs office.

The rapid increase in price is due to the Chinese government’s successful effort to restrict and reduce the volume of rare earths exports. Adding to the confusion, China has also changed the way it reports rare earths exports. This has artificially boosted the volume figures by including products made from rare earth metals in the total.

Could things get worse for Western buyers and users? Well, yes. Also last week, we learned that China might soon start importing some of the rare earths that its economy needs but doesn’t produce in sufficient quantity.

According to Liu Junhua, the deputy secretary for China’s Baotou Rare Earth High-Tech Industrial Development Zone Committee, “China may eventually need to import [heavy rare earths] materials.” According to Mr. Liu, speaking at a recent conference, there’s a “strong possibility of [China] importing heavy rare earths” in the next three-four years.

So here’s the scenario: Chinese export volumes are down. World prices are rising, and fast. And China may soon be importing the heavy rare earths for its own industrial needs.

Let’s review what this all means for investors…

The share prices for rare earths companies began to soar last fall. After the Japan-China dust-up in September, rare earths companies quickly became stock market darlings.

Many of the rare earths stocks I recommended to the subscribers of Energy & Scarcity Investor doubled in fairly short order. I suggested taking profits on two of those stocks, but still advocated long-term investments on selected stocks in this sector.

Looking back toward the end of 2010, pretty much any company with a “rare earths” tag line was a strong performer in the stock market. The investment community threw big money at a large stable of rare earths investment opportunities. But times have changed.

In the past six weeks or so, in the face of tight demand and fast-rising prices, investors have looked at the rare earths sector with even sharper, more discerning eyes. The rationale is twofold.

First, only a few non-Chinese companies will achieve output – and begin to generate cash flow – within the next three years. And second, only a small handful of companies will survive in the long-term race to supply the world with rare earths over the next decade or so.

One company I recommended should have a new mine up and running by the end of this year. Another company, one that I consider an excellent speculation, is modernizing a rare earths facility in Russia.

Meanwhile, there’s Molycorp, a company that is reconstructing its mine, mill and other facilities at Mountain Pass, Calif. It’s a major effort, with a sticker price in the vicinity of $500 million. The announced time scale is in the 24-month range. My concern about Molycorp is that the California project involves building a brand-new plant, with new equipment and bringing in a newly hired work force that’s still in training. Anything could go wrong and cause delays. And considering that it’s happening in mining-unfriendly California? I’m sure you get my point.

The larger point is the rare earths story is not going away. It is getting bigger every day and is sure to provide some outstanding opportunities for vigilant investors.

Regards,

Byron King

for The Daily Reckoning