A year ago, almost no one knew a rare earth element from a rare coin. Today, rare earths are a global story—and a global investment opportunity—even if the term rare earth is somewhat misleading.
China produces 97 percent of the global supply, but is limiting its exports. That is creating a severe supply-demand gap, and a company like Molycorp is taking advantage.
The stock is up almost 150 percent since its July IPO (initial public offering), despite the fact that it has not even begun producing rare earth elements on an industrial scale. To date, it's simply processing old stockpiles until it can restart its mine in Mountain Pass, Calif.
In fact, the company posted a wider-than-expected loss last quarter.
That dynamic—$2.5 billion market cap with zero profits—might seem like a bubble. Recall, during the dotcom bubble, when companies ran up huge valuations without even having credible revenue models.
Analysts say, Molycorp should be different.
"When you look at the metals that are produced by Molycorp, there's a high demand for them going into 2011 and onward," said Dahlman Rose's Anthony Young, who recently initiated Molycorp with a buy rating and a $43 price target.
"Despite the fact that they don't have any production, and they don't have any cash flows, when you look out further, there will be strong demand for their metals."
Unlike most dotcom balance sheets, Molycorp has no debt and has secured all the funding for the half-billion dollar Mountain Pass project, which received positive news on Monday.
"We've received all our permits for the construction project. We plan to start early now," CEO Mark Smith told CNBC. "We were originally planning to start the first week of January, but we'll be starting to strip material just in the southwest side of the pit within the next week or two."
That means full production of rare earth elements could come before the 2012 target date. And, literally, the world is waiting.
Wide Range of Uses
Rare earths are particular elements on the periodic table that have valuable uses in a host of products—from industrial magnets in wind turbines, to certain components in your iPhone. The title is a misnomer because the elements aren't "rare."
They are everywhere, but in small concentrations and in places difficult to mine. The Mountain Pass mine has some of the highest concentrations outside of China. So, as demand continues to grow—and China continues to hoard—Molycorp seems well-positioned to capitalize.
Prices have skyrocketed, and companies like Molycorp have become equity success stories. There simply aren't many players on the rare earth field. Outside of China, only Molycorp and Australian company Lynas are even close to bringing large quantities to market. Several companies are working on a smaller scale to profit from the phenomenon, but they are either too small to move the proverbial needle right now or are simply too far away from mining usable material.
If an investor wants a broader play in rare earths, there is an ETF (exchange traded fund),but it's not as much of a pure play on rare earths.
"The ETF is based on some very small cap companies with assets in South Africa and Greenland and Canada," said Young, who also notes that names like Molycorp are in there, too. "They are much further away from production. Molycorp is the best way to participate in rare earths for North American investors."
Potential Pricing Problems
The biggest potential problem is pricing. If rare earths become cheap, Molycorp's stock could suffer.
"The downside risk is that you have China beginning to export large amounts (again)," said Young. "You could see the price collapsing."
He did not see that as likely in the near-term, but that is where the risk lies.
CEO Mark Smith agrees: "The Chinese exports are down. They're expected to go down again in 2011. Prices are going to go up as long as supply is high and demand is high."
Of course, it's almost impossible to predict when supply will begin to eclipse demand—other than the price falling.