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Are Rare Earth Stocks More Than a Bubble?

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The market has been crazy over rare earth elements for the past few months. Now that the news cycle has run its course, it's time for long-term investors to see if these rocket stocks have any staying power to them.

When China implemented a pseudo-embargo, there was a realization around the world that we probably shouldn't be relying on China for 97% of the production of crucial rare earth elements. And for the health of the U.S., domestic manufacturers shouldn't be put in a position where operations need to be relocated to China to secure a supply of rare earths they may not get elsewhere. Suddenly these obscure metals most people have never heard of are a point of national economic security. But before we panic, everyone needs to recognize one important detail.

Rare earth elements aren't that rare
In the U.S., Molycorp (NYSE: MCP  ) is rushing to reopen its Mountain Pass mine in California, but that appears to be at least two years from full production. And when production does begin, Molycorp believes it will provide more than enough rare earth metals for all U.S. production needs -- off to a good start, two years from rare earth independence.

So if Molycorp can supply the U.S., where does that leave Rare Element Resources (AMEX: REE  ) , which has a mine in Wyoming? The mine is in early stages and will be far behind Molycorp in terms of production timeline. If Molycorp can supply all U.S. demand, or even close to that, there isn't much pie left for Rare Element Resources and other potential miners.

To further potential oversupply, John Kaiser, an expert in the area, says Avalon Rare Metals and Quest Rare Minerals, two small developers who trade on the Pink Sheets, have enormous resources that could meet demand for 100 years.

If rare earth elements demand is going to pick up, there doesn't seem to be a shortage of companies willing to meet that demand.

And it isn't like Molycorp's mine was a shining star when it was open. Even though it provided around 40% of the world's supply, the mine was shut down in 2002 because China's production costs were lower and environmental concerns kept popping up. China gained dominance in the industry through low costs of production, not because of a monopoly on rare earth deposits.

Another ETF
Complicating matters last week, a new exchange-traded fund called Market Vectors Rare Earth/Strategic Metals (NYSE: REMX  ) started trading and brought miners like Thompson Creek Metals (NYSE: TC  ) , RTI International Metals (NYSE: RTI  ) and Titanium Metals (NYSE: TIE  ) into the mix. High demand for this ETF could put unjust pressure on individual companies' shares, continuing their fast and furious run in the near term.

The bottom line: Even if prices of rare earth elements remain elevated, there doesn't seem to be a shortage of mines willing to pick up the slack. Molycorp in particular has essentially no revenue and no income, and only hopes to produce something in 2012. That's a speculative stock if I've ever seen one.

For even the best mines to become wildly profitable, a lot of dominos will have to fall just right for fundamentals to catch up. And even then the party may not last long as mines all over the world start to ramp up. We aren't the only country paying attention to rare earth elements.

Foolish bottom line
If you want some skin in the rare earth or strategic metals game, this Fool would stay away from speculative stocks and go with established companies like Thompson Creek or Titanium Metals. Molycorp looks good now, but with a market cap of $3 billion, I'm confident enough this stock has been overhyped to garner it an underperform rating on my Motley Fool CAPS page. I might take a short-term hit if momentum continues, but I'm confident this bubble will burst soon enough.

What are your thoughts on Molycorp? Leave a comment in our comments section or click here to add it to My Watchlist, and My Watchlist will find all of our Foolish analysis on this stock.

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Fool contributor Travis Hoium does not have a position in any company mentioned. You can follow Travis on Twitter at @FlushDrawFool, check out his personal stock holdings, or follow his CAPS picks at TMFFlushDraw.

Titanium Metals is a Motley Fool Stock Advisor recommendation. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

Read/Post Comments (6) | Recommend This Article (17)

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  • Report this Comment On November 04, 2010, at 7:44 PM, Thaidiamond wrote:

    Yes rare earth elements (REEs) aren't all that rare. What is 'rare' to find an economic concentration. And not only are these elements very hard to separate—metallurgy is a key issue in any potential deposit—REE ores are almost have thorium or uranium so radioactivity is a big environmental hurdle.

    And while China does not have any natural or long run monopoly on REEs they do have very much have a short term one.

    The FOB spot price is now some 3 to 4 times what a Chinese-based end user would pay for access to these minerals.

    As such, China is using the promise of 'access" to REEs to “encourage” non-Chinese manufacturers who want to produce goods which require rare earth inputs to set up shop in China. This ensures jobs for the Chinese. More importantly in the long term, those foreign companies that do move are essentially forfeiting their technologies to Chinese.

    So increasingly these companies have a choice. They can substitute REEs out of their product, which begs the question of how competitive their products will be against those manufacturers who still have access to REEs—and don’t have to substitute.

    And while I don't disagree that substitution will come into some effect—the latest iteration of Apple’s MacBook Air eliminates the traditional hard disk for a flash drive—there are too many advantages and too many uses of REEs in myriad applications for this to have any real effect.

    Neodymium magnets are just one example. They're the most powerful of all permanent magnets and can lift more than any other type of magnet of the same size. They invention made the original walkman possible in the early 1980s, hence many applications are very much embedded into our everyday usage. Today, they’re even used for alleviating symptoms and relieving pain caused by health issues like arthritis.

    There are more current uses for rare earths fool, than are dreamt of in your philiosophy.

    The question then becomes one of the opportunity cost suffered by end-users who lose the ability to commercialize and market products, which require rare earths as critical inputs.

    Thus we may see “strategic logic” rather than pure economic logic would drive the development and eventual the future of REEs.

    The game is also about controlling the downstream products, capturing the value added by converting rare earth oxides into metals and into products. Given that REEs are typically used in relatively small amounts vis a vis the total amount of product inputs, their cost is a relatively small part of total product cost and thus should have a muted effected on product demand.

    Manufacturers that do have access to REEs will have a competitive advantage and may gain market share vis a vis those that have limited or no access to crucial REEs.

    So the question becomes how will some large manufacturers—Toyota's making of Prius for one example—risk losing the high "end value" captured from selling the entire car because they can't access enough REEs for a critical components? Will they risk losing the cost reduction benefits from a more scaled up production?

    Or will they "capture their REE supply" buy investing in/buying up proven deposits? Thus ensuring they remain competitive at what they do?

  • Report this Comment On November 04, 2010, at 11:26 PM, TMFFlushDraw wrote:


    Thanks for the comment!

    I agree completely with your stance on the strategic importance of REEs for China, the US, Japan, manufacturers, etc. There are all kinds of possible political ramifications to China's actions and other countries responses which I didn't want to get into in this article. (not enough space for everything)

    There are some who argue the government should treat REEs like we treat agriculture, essentially subsidizing the market to keep prices low and maintain a healthy domestic supply. I'm all for some way to ensure domestic supply supported on the government level to keep manufacturers from being forced to China, not that we have the appetite for that right now.

    It is an interesting thought that multinational corporation investment could be a driver in REE mine value going forward. We'll see if that comes true.

    Any way you look at it REEs are at an interesting place right now with a lot of unknowns going forward.

    Travis Hoium (TMFFlushDraw)

  • Report this Comment On November 05, 2010, at 8:12 AM, hacker44240 wrote:

    Just a minor thing I want to point out... the company Rare Element Res Ltd (REE) that you referred to, does not have a mine in Wyoming. They have rights to land, which has had some test drilling done and may someday have the potential to become a mine. They would have to build an entire mining operation from scratch, or outsource it. But right now it is just a piece of land.

  • Report this Comment On November 06, 2010, at 2:40 PM, TMFFlushDraw wrote:

    You're right, the word mine is not correct. I could/will be a mine. Sorry if that caused confusion.

    Travis Hoium (TMFFlushDraw)

  • Report this Comment On November 07, 2010, at 3:53 PM, Thaidiamond wrote:

    The 'land' that Rare Element Resources has in Wyoming is called the Bear Lodge project.

    It's much more advanced than just some "test drilling"

    Last Sept, the company release a PEA (Preliminary Economic Assessment) which saw an IRR of 40% and an NPV of $230 million (at a 10% discount rate).

    The above robust calculations were done based on historic three-year average concentrate prices for REEs.

    Here's where it's gets interesting: current prices have recently increased approximately 360% from

    the three-year historic average due to the reduction in exports of REE products

    from China during the third quarter of 2010.

    You can get details on the company's website

  • Report this Comment On December 05, 2010, at 10:37 AM, bellbell63 wrote:

    At .50 I think UURAF a much better speculation especially in heavy ree. They at least have an (inactive) mine, permits and infrastructure in place.

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