Commodities

When ‘growth’ stocks go out of favour and stop attracting a premium, there’s often a large valuation gap that must be crossed before they begin to look attractive as ‘value’ stocks. As the multiple that investors are prepared to pay falls, earnings often fall with them, creating a ‘double-whammy’ for shareholders who choose to stay the course. With battery minerals producers down 50-95% over a few years (as discussed in our previous article), and with many of the underlying commodities also having fallen significantly, is it possible that gap has now been crossed?

In this Collection, Darko Kuzmanovic from Janus Henderson Investors; Tim Serjeant from Eley Griffiths Group; and Julian Babarczy from Regal Funds Management each discuss their preferred exposure as investors await a recovery among battery minerals producers and developers.

Three favoured lithium producers

Darko Kuzmanovic, Portfolio Manager, Janus Henderson Investors

The EV transition thematic remains intact and the sector provides an attractive investment opportunity, given the significant pullback and sector derating. As any new sector develops and grows there will be setbacks from time to time, as has just happened. However, there are several learnings to take from this.

The lithium market remains highly consolidated despite the development of new projects. The top five producers (Albemarle, SQM, Ganfeng, Tianqi, Livent) still control the bulk of the production and development of assets following recent consolidation moves. Already we are seeing development plans pushed back to better balance supply with demand. This is a positive for prices in the long term.

As always, the quality, size and scalability of the resource and the execution and delivery skills of the management teams will be the key differentiators in the industry. The need to be appropriately positioned on the evolving industry costs curve will also be paramount.

Globally, incumbent producers such as Albemarle, SQM and Livent have fallen by more than 50% from their peaks. They have robust margins, sound balance sheets and sufficient growth options.

In Australia, Orocobre (ORE) remains highly profitable and is now well funded to double production and build a 10kt p.a. lithium hydroxide plant in Japan. Although it is yet to achieve nameplate capacity at its Olaroz brine salar, it has a sound balance sheet.

The Mineral Resources (MIN) joint venture with Albemarle will significantly de-risk the Wodgina project, provide an integrated solution and significantly reduce its debt. Mineral Resources warrants attention, especially once the joint venture deal is completed and clarity on the Wodgina project is received.

Although Pilbara Minerals (PLS) has been under pressure recently, the scale of the resource, the quality of the customer base and its downstream joint venture with Posco should insulate the company. We are keen to observe if it will deliver operationally over the next few quarters.

Given the valuations of existing producers, I would favour these names over the medium term. Once investors begin to return to lithium, it is these names that will attract initial interest, as they are lower risk propositions. With the ability to deliver incremental capacity growth, they could take interest away from the more speculative exploration and pre-development players, which still face permitting, appraisal, financing and execution risks. Lithium prices appear to be bottoming, but we are yet to confirm this. This investment outlook is based on a two-year view, with 2020 potentially the inflection point.

World class in scale and quality

Julian Babarczy, Portfolio Manager, Regal Funds Management

High quality, world class assets are always the safest way for investors to play commodity markets. Below we discuss two key stock exposures that we believe are both world class in scale and quality, while also highly strategic.

The first is Syrah Resources (SYR). It’s fair to say that Syrah has been a victim of its own success, suffering from its overly ambitious aim of bringing in a dominant proportion of battery grade graphite production (prior to the recent reduction in its production, its Balama mine represented the single largest graphite mine on the planet). Unfortunately for Syrah, the Balama mine is predominantly a finer flake size, which is ideal for the high growth battery markets, but these markets are dominated by Chinese domestic production. To date, China has been able to meet existing demand from domestic sources, but as demand continues to rise exponentially, there will be an obvious limit to how much these domestic mines can expand and still maintain the high quality that is required. This is where the strategic nature of the Balama orebody will demonstrates itself. If recent attempts by Syrah to rebalance the market are successful, the graphite markets could tighten up quicker than most analysts believe, which should lead to a big re-rating in Syrah’s shares.

The USA currently produces 4-5ktpa of lithium carbonate per annum (less than 2% of global supply) yet has aims to be a large player in the EV market. Lithium is also on the US Government’s critical commodities list. This theme is a key driver for another of our preferred exposures, being Nevada lithium-boron project developer Ioneer Limited (INR). Ioneer is currently completing a Definitive Feasibility Study on its Rhyolite Ridge project, aiming to bring into production an initial 20ktpa of lithium carbonate or hydroxide (as well as a large boron production stream). This would make Rhyolite Ridge the USA’s largest indigenous source of lithium units. Ioneer has a unique orebody, it’s not a hard rock or a brine deposit, instead, it’s a sedimentary hosted deposit that has proven to have very high recoveries of lithium and boron, and at very low cost. A domestic and low-cost source of lithium from a generational style asset such as Ioneer would appear very valuable (as would its boron production at a time when the largest USA based boron mine is nearing its end of life). The Company has openly stated it is in partnering discussions with off-takers and/or industry players, and we think any of these, if finalised, could lead to a much higher share price.

A rising tide to lift all boats

Tim Serjeant, Portfolio Manager/Analyst, Eley Griffiths Group

There’s been a dearth of new nickel exposures on ASX for over a decade now. Sirius Resources (subsequently acquired by Independence Group) and Nickel Mines (a 2018 IPO) are the only two of any significance that spring to mind. Sirius Resources/ Independence Group has been a significant investment in the Eley Griffiths Group Small Companies Fund at various stages.

Whilst very different risk profiles one would argue, what both have in common is their position at the low end the cost curve; Independence Group (IGO) at Nova (by virtue of the ~$100m in copper and cobalt by-credits) and Nickel Mines (NIC), as an integrated stainless steel producer in partnership with Tsingshan in Indonesia. That helps insulate the downside when prices work against you. They’re also ‘new’ assets, not re-commissioned assets from cycles past, and provide exposure to differing parts of the market; nickel sulphide (into the battery market potentially longer term) and NPI respectively.

Ultimately, higher nickel prices will fuel a ‘rising tide’ approach, so the likes of Western Areas (WSA), Panoramic (PAN) and Mincor (MCR), offer greater leverage in many respects (by virtue of being higher cost and / or different stage of development). MCR arguably has the greatest appeal near term, with its Cassini deposit in the proven Kambalda district shaping as a meaningful discovery from which to recommence production.

In conclusion

If you're looking for stocks exposed to lithium, graphite, or nickel, there are plenty of options to consider on the ASX. And with many of the stocks down such a long way, there are likely to be a few bargains about for the savvy investor.

Read part one of this series to learn more about the commodity markets that these companies operate in.

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Comments

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Rus Watson

This reminds me of when gold stocks were really cheap a few years back.

Luke Macmillan

Yeah Mincor’s Cassini is shaping up to be quite a big one. First greenfields discovery in the Kambalda area in about 25 years.