The Uranium Bull Lives

November 8, 2010

Matthew B. Smith

It is not often that one has an opportunity to invest to in two spectacular bull markets, but our analysis on the uranium and rare earths markets indicate that this is exactly what investors have the chance to do over the next few years.  The rare earths have attracted the most attention recently with their extraordinary gains over the past year, however uranium has sported healthy gains as the spot price for uranium oxide has begun to rise.  Investors should begin to place capital in both sectors, starting with the near-term producers and eventually working their way down to the exploration plays as this new bull market plays out.

The catalyst for this new uranium bull market is the rise in the spot price.  Since topping out at about US$138/lb, the spot price fell down to the US$40/lb level and has since climbed back up to US$52/lb.  In 2013 the ‘Megatons for Megawatts’ program ends, and we have stated our opinion many times before that the Russians will stockpile that above ground uranium as a strategic resource, thus creating a huge supply shortfall for the market which will need to be filled.  One does not build a US$10 billion nuclear power plant for it to sit idle because $20 million in uranium cannot be secured to power it.  This reiterates our belief that both the spot price and the long-term contract will need to rise substantially in order to bring new production online.  Most of the deposits out there currently are breakeven at the US$60/lb. level, so the world’s nuclear power plant owners are going to need to pay up in order to secure the lifeblood of their operations. 

The next catalyst for this market is the return of the hedge funds to the physical uranium oxide market.  We see hedge funds returning to this market, and believe that 2011 will be the ‘Year of the Hedge Funds’ for the uranium market.  Just as they cornered the market during the spectacular run of the mid-2000s, they will do the same at the beginning of this decade.  It is relatively easy to do as the spot market is quite secretive and not as liquid as other markets such as oil, while requiring, by hedge fund standards, very little capital.  A hedge fund owning a healthy position in the junior miners could exponentially increase the value of that portfolio simply by making a few 100,000 lb purchases in the spot market.  It may sound crazy, however it has happened before and it will most likely happen again.

We really like the American uranium companies which are, or soon will be, bringing production online.  They offer investors some near-term production and good news flow, however there is the risk with production shortfalls as they ramp the mines up and to full production.  One willing to hold for 12-18 months will be richly rewarded and should add on any pullbacks related to the ramp up, provided they are not geology related (example UraniumOne’s Dominion Mine in South Africa).  Our favorite is Ur-Energy (URG- AMEX, URE-Toronto), followed by Strathmore Minerals (STHJF-Pink Sheets, STM-Toronto Venture), Uranerz Energy (URZ-AMEX) and Uranium Energy Corp. (UEC-NASDAQ).  All provide investors with the near-term production that will create the true winners in the industry, look no further than what happened in the last bull market, the current big boys are those that were bringing on the near-term production.

Investors should also hedge the risk that these permits do not get issued by the NRC (which we feel is a low risk situation) by placing some capital into the companies working to bring production online in other geographical areas.  We like Forsys Metals, an old client, who is working in Namibia to bring the Valencia Project online.  Forsys would be an attractive acquisition for a miner looking to diversify its production base, such as UraniumOne to diversify geographically away from Asia or Paladin simply looking to diversify production and add capacity.  Forsys would be a nice add-on for many of Namibia’s current producers, but absent a buyout they have one of the top projects in the world currently in the development stage.

Mantra Resources, an Australian company with about a third of its shares on the Toronto, has aggressively drilled its project located in Tanzania, and expects to be in production in 2013.  They have a deposit at surface and are currently expanding the resource.  Currently they expect to produce around 3.7 million lbs at full production.  Uranex is another Australian company in Tanzania, advancing a project located next door to Mantra.  The company is currently doing a capital raise, which is not available to investors outside of Australia or New Zealand, so investors should only add to positions after those shares have been distributed and begin to find their way to market.

Also of interest is Mawson Resources, with their massive holdings in Europe.  If we are correct in our thesis that security of supply will become second in importance of a project to that of economics, then Mawson is a must own as it is one of the few companies actively exploring in Europe.  Mawson, by our count, has some of the best projects in Europe, and with Russia’s recent announced purchase of Berkeley Resources, Mawson becomes one of the last friendly holders of European uranium deposits.  The company also holds two very exciting gold projects, one in Peru and the other in Europe which also possesses significant uranium amounts in the grab samples.  France’s Areva, a fully integrated nuclear company who operates, builds, mines and refines uranium has a stake in Mawson Resources equivalent to about 10% of the outstanding shares.

The world’s current producers such as Cameco, UraniumOne, and Paladin will see their shares rise as analysts and fund managers realize this fresh bull market, however the big gains will be seen in the next wave of producers, especially those with multiple projects coming online as they will be much more leveraged to the increase in the spot price.  We once had to take the path less traveled to get to the first uranium bull market, however now we can trade off of what we learned the first time and profit once again from that game plan.