There's a trade war upside for this Aussie rare earths miner There's a trade war upside for this Aussie rare earths miner There's a trade war upside for this Aussie rare earths miner

There's a trade war upside for this Aussie rare earths miner

Macro 5 minutes to read

Summary:  As in independent miner in an environment overwhelmingly dominated by Chinese interests, Australia's Lynas is poised to benefit as the trade war heats up and the market realises the weapon potential of rare earth minerals.

This is an update on our previous trade recommendations to buy Lynas Corp (ASX:LYC), a company that explores, mines and produces rare earth minerals.

Australia-based Lynas still remains in a pivotal position as it is only miner and processor/producer of rare earths worldwide outside of China. As we said in March, in a world of heightened geopolitical tensions, a non-Chinese supplier has a significant competitive advantage for manufacturers and businesses wishing to diversify supply chains away from China, making it a supplier of choice for non-Chinese customers. 

On Monday (May 20), Lynas revealed plans to develop rare earths separation capacity in Texas together with Blue Line, a US rare earths processor. This is a strategic move as trade tensions ratchet higher and speculation that rare earths could be weaponised grows. The company also announced on Tuesday (May 21) at its investor day that it will spend AU$500 million by 2025 to build up its operations in Western Australia in order to transition cracking and leaching away from Malaysia. 

Trade tensions continue to escalate, and negotiations have entered a more dangerous phase, but the market continues to underestimate the geopolitical risk. The trade war is obviously not the only driver of equity market returns but it could be a key decider in whether the S&P 500 ends the year higher or lower.

The uncertainty paralyses decision making for multinational companies, burdens capex intentions and forces supply chains to be unravelled in order to remove risk. The assumption among most participants is that a deal will eventually be reached, this could still be the case, although it is likely a long way off. Given the trajectory of the rhetoric a G20 deal would be nothing short of a miracle. On that basis we stand by previous observations that it would be complacent to rely on the hope of a deal as an appropriate risk management strategy.
It has become ever more apparent that trade is a sideshow for a long-running economic conflict and battle for tech dominance and hegemony.  We first visited this last year, where we highlighted that there was an increasing probability of a “cold war” emerging fought through technological supremacy. The tech cold war has now begun, as the US moves to blacklist China’s tech champions, and rare earths could be in the crosshairs of China’s retaliation.

Last week Chinese President Xi Jinping’s visit to a rare earths mining base in China was no accident and was meant to send a message to the US. This has fuelled speculation that the strategic materials will soon be weaponised as China may exercise its dominant status in the rare earths industry.

Rare earths are crucial for a number of high growth, high-tech commercial industries including hybrid and electric vehicles, renewable energy (wind turbines), energy-efficient lighting, advanced electronics, military devices, chemicals, and medical equipment. Without rare earths a number of high-tech industry applications would not be viable. Take the iPhone as an example: screens are polished with lanthanum and cerium and within the phone is a magnet made with neodymium and praseodymium.  

As demand for magnetic materials grows Improved pricing for REO is expected to continue, benefitting Lynas. Permanent magnets, containing NdPr which Lynas is the second largest producer of globally, are a key enabler of electric vehicle technology, wind turbines, automation, electronics and medical equipment
Source: Shades of Grey, Wikipedia
The rare earth market is dominated by low-cost producer China and Chinese rare earth producers have benefited from government support and huge subsidies aimed at providing a competitive advantage.
Source: Bloomberg
The US imports 80% of its rare earth needs from China and with rare earths crucial to so many industries; defence, autos, renewable energy, smartphones, batteries and more, there is no doubt that if China were to weaponise these materials with an export ban this would cause serious disruption to US industry. But this wouldn’t come without consequence for China, they would shoot their own industry in the foot and cripple confidence in China as a supplier of rare earths. Not to mention this would take the trade war escalation to another level.
Source: Bloomberg
There is precedent for China to exercise its dominant position in rare earths as geopolitical leverage. In 2010, China limited rare-earth exports to Japan, while the two countries were scrapping over disputed islands. This menace to the rare earths supply chain caused prices to spike (see below chart) something Lynas would benefit from as the second largest producer of NdPr globally. As prices picked up investment flowed back into both new and old rare earth mining projects. If you look back to 2010/2011 when prices were soaring there were over 500 companies listed on the ASX with rare earths prospects, there is no doubt if any export ban was implemented a similar reaction would ensue rendering the political leverage short term at best. 

Rare earths are counterintuitively not very “rare” but are difficult to find in deposits that are not contaminated enabling them to be mined economically. The rare earth element cerium is actually the 25th most abundant on Earth, making it about as common as copper! Other countries like Australia, US, Japan, Brazil, India, Vietnam and South Africa also have rare earth deposits and even now, when the threat is just thinly veiled, there are likely mines scrambling to ramp up production to hedge against any potential move from China and take advantage of increased prices. A potential problem for these countries is rare earths are often found in conjunction with thorium, a radioactive metal, that requires special handling.

The simple threat of China implementing an export ban on critical industrial materials highlights a vulnerability that is ripe for exploit, however short-term the strategy may be. Globalisation has created global networks and supply chains that are under assault as the trade war escalates. As tensions ratchet higher so does the potential for China to exploit this vulnerability for geostrategic gain leaving Lynas poised to benefit. 
Source: Bloomberg NdPr Prices


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