This Just In: More Upgrades and Downgrades

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At The Motley Fool, we poke plenty of fun at Wall Street analysts and their endless cycle of upgrades, downgrades, and "initiating coverage at neutral." The pinstripe-and-wingtip crowd is entitled to its opinions, but we have some pretty sharp stock pickers down here on Main Street, too. And we're not always impressed with how Wall Street does its job.

So perhaps we shouldn't be giving virtual ink to "news" of analyst upgrades and downgrades. And we wouldn't -- if that were all we were doing. Fortunately, in "This Just In," we don't simply tell you what the analysts said. We also show you whether they know what they're talking about.

After the feast ... another feast
I sure hope the analysts at Citigroup asked for seconds this past Thanksgiving and packed a lot of leftover turkey sandwiches for the office, too, because it's looking like they won't be visiting home again anytime soon. It's shaping up to be a busy post-holiday week for Citi, you see. Already, we've seen the banker publish positive prognostications on companies ranging from ...

  • Genworth Financial (NYSE: GNW  ) -- "The market appears to be overly discounting the possibility of bankruptcy risk."
  • Electronic Arts (Nasdaq: ERTS  ) -- the shares offer "an attractive entry point" at 17% below recent highs.
  • And, of course, Google (Nasdaq: GOOG  ) -- "its valuation has become more attractive as estimates have increased while its share price hasn't."

Brave calls all, but these aren't the only stocks Citi wants you to buy. Oh, no. Yesterday we learned that after hitting all the high-profile names, Citi recently dug down deep to find what it considers a real gem of an investment: Avalon Rare Metals (AMEX: AVL  ) . Avalon, it would appear, is now Citi's new best friend in the mining industry.

Avalon who?
Never heard of Avalon, you say? I can't say as that surprises me. So before we get to Avalon, let's lay out some context. Like higher-profile miner Molycorp (NYSE: MCP  ) , Avalon is basically a play on Chinese restrictions on the export of certain minerals used in manufacturing a wide variety of high-tech devices -- everything from iPhones to car batteries to smart bombs. Dubbed "rare earths," these minerals aren't really "rare" so much as they're deeply uneconomical to mine, refine, and bring to market. As a result, historically, few companies have bothered to go to the time and expense of digging them up.

As I mentioned, though, this changed recently when China began imposing export restrictions aimed at keeping the minerals -- and the value-added manufacturing of the high-tech items they're used in -- within China's borders. In response to these restrictions, companies like Molycorp, Rare Element Resources (AMEX: REE  ) , and yes, Avalon Rare Metals, have sprung up to fill the gap in supply. And whenever any one of them reports any news the least bit positive, the stock tends to explode.

That was the case late last year, when Molycorp inked a deal to help Hitachi produce rare earth magnets. It was the case again this week, when Molycorp signed a similar deal to make magnets in cooperation with Japan's Daido Steel and Mitsubishi. And adding fuel to the fire, it was the case when Citi announced that "based on an expected global deficit of [rare earths and] AVL's attractive mix of heavy REEs and byproducts," it was initiating coverage of Avalon with a "buy" rating.

Does this make sense?
Sadly, it's not a good reason for you to get excited about Avalon metals. You see, Citi may be right that Avalon has access to "heavy REEs" and ... um, "byproducts." I suppose some geologists might even call these rocks "attractive." (Others might say the have a cleavage face that only a mother could love.)

One thing Avalon does not have, though, is a history of turning these assets into profits. To the contrary, over the past 15 years it's been in business, Avalon has earned an annual profit exactly zero times. The years in which it generated positive cash from operations similarly add up to zero. Instead, Avalon has basically puttered along, consuming cash and generating no profits to show for it -- up until recently, when it began gearing up to take advantage of China's export restrictions and began burning even more cash at ever-quickening rates -- $7.5 million in fiscal 2008, $7.9 million in 2009,then $15 million last year and around $17 million so far this fiscal year.

Once in a deep, dark, hole, stop digging
Now, optimists will surely argue that this is all about to change, just as soon as Avalon gets its flagship Nechalacho project up and running. Me, I have my doubts. Already, the World Trade Organization has declared China's export restrictions illegal. Seems to me it's only a matter of time before China's trading partners require it to open up its markets to rare earth exports, eliminating the chokehold on global supplies, and causing rare earths prices to plummet. If I'm right about that, Avalon's going to wind up right back where it was these past 15 years -- doing nothing, and earning less.

Seems to me the writing's on the wall for Avalon. I only hope that investors read it, instead of reading Citi's buy recommendation.

Looking for a mining investment that will make you money in good times and bad, China or no China? Look no farther. Read the Fool's new -- and free! -- report on "The Tiny Gold Stock Digging Up Massive Profits."

Fool contributor Rich Smith owns shares of Google but of no other stocks named above (nor is he short any of these stocks.) You can find him on CAPS, publicly pontificating under the handle TMFDitty, where he's currently ranked No. 319 out of more than 170,000 members.

The Motley Fool owns, and Motley Fool newsletter services have recommended buying, shares of Google. We Fools don't 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 (4)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On November 30, 2011, at 10:09 PM, donedeal77 wrote:

    well i guess we should all forget that china is using its rare earth supply at a rate thats going to make it an importer of rare metals over the next decade if not sooner as a result of their growing economy and consumption and that avalon has the most hree (which is valued the highest of the rare metals) deposits outside of china, plus the only mining company with its own seperation plant outside of china, to keep cost down (yet another value booster) which they can and planned to use to seperate other companies rare earth supplies. did i mention they havent made a profit, but fully funded the see the project to completion. Maybe we should ignore that the country and the world are looking for "greener" options and the world is planning stockpile reserves because they know like everyone else china will do what china wants, why would it change today or tommorow, they havent cared about illegally manipulating their dollar for all these years regardless of how blantent its done, now you think they will just say "ok, you caught me"...then stop, not likely. PROFITS are around the corner, the world is different now, demand is different..RARE EARTHS WILL HAVE THERE PLACE...rare earth prices need to stabilize, which they have begun to as stated by molycorp ceo in a recent article, BUT CHINA IS NOT GONNA FLOOD THE MARKET WITH RARE EARTHS, THEY HAVE ENOUGH ISSUES LIKE STOPPING BLACK MARKET SELLING OF THEIR RARE EARTHS METALS AND UNSAFE ENVIROMENTAL ISSUES DESTROYING THEIR LAND.

  • Report this Comment On December 01, 2011, at 2:22 AM, green2022 wrote:

    Avalon might be a good investment and once they start producing HREE (according to the plan on 2015) it could turn a profit but I would not buy a single share of it based on Citi's recommendation. If you rememebr back on July, before the markets went down, Citi underwrote 7million shares of Avalon at around $6. It seems to me that Citi was left holding the bag and now is trying to pump the price to get rid of the stock.

  • Report this Comment On December 01, 2011, at 9:58 AM, Siddharta77 wrote:

    Avalon is due to sign a deal with chinese firms, possibly future partners which will help Avalon in developing and processing the final rare element/ metal.

  • Report this Comment On December 01, 2011, at 10:30 PM, TempoAllegro wrote:

    I'm very interested in this discussion as I have made China a lifelong study. I'd like to chime in with my two cents.

    First point is that both GOOG and ERTS are subscription service recs.

    Second, Mr. author, you poke fun of Citibank analysts because they are located on Wall Street. Does that mean we should automatically believe you because you are not on Wall Street? Let's forget about location, shall we? Without that analyst report in front of me, it is hard to compare their output or product and yours, but your "analysis" seems to add up to the company in question not making much money for 15 years and assuming the WTO declaration will make a difference. I don't see why either assumption is relevant.

    First, that REE is still in business after 15 years of no profit must attest to the fact that the rare earths that they can produce are vital. You have alluded to the fact that these elements are difficult to process and get to market profitably.

    Furthermore, the WTO may declare something illegal - if that matters, and China or any offending country may then move to appease the regulators. By that time it may be too late. The regulations within China can change quickly - more quickly than the WTO can act. Ask Gamesa, the wind turbine company from Spain, and how they were asked to produce their produce in China with an unusually high percentage of locally-sourced components. They also had to train local Chinese workers in their expertise - and before the WTO could do anything (even if Gamesa had dared to complain) there were Chinese manufacturers with the parts and expertise that were now competitors, and now the Chinese own the wind turbine market globally.

    Essentially, the question is how can private companies in deregulated environments with free capitalism compete with state-owned, regulated ones in managed capitalistic countries like China? It seems when government and corporations cooperate it can be a powerful thing.

    In October 2011 a book came out called Red Alert: How China's Growing Prosperity Threatens the American Way of Life, and I want to read this book as soon as possible. I saw a TV interview with the author and he spoke of rare earths and even went so far as to discuss copper and silver as elements we may want to think about in the future. Rare earth elements are used for defense and electronics and all kinds of applications, and their strategic importance means we need to take a long term view of the future that may be beyond the next several years.

    Those who can do so will be handsomely rewarded no matter what a particular analyst in any location is saying. Supply and demand will take care of you, if your investing horizon is long enough and you are disciplined enough not to sell on temporary bad news. So I do not think buying on the Citibank rec is the problem. It would be selling too soon that would lock in the loss that would be your undoing. Allocate an appropriate part of your portfolio to this and wait out the market gyrations, then laugh your way to the bank.

    Thanks for bringing REE to my attention. I'll have a look. I am long MCP.

  • Report this Comment On December 02, 2011, at 9:43 AM, wendywabbit wrote:

    what do people feel about this interview ?

    sounds like citi bashing or am i missing something ?

  • Report this Comment On December 02, 2011, at 7:24 PM, donedeal77 wrote:

    @wendywabbit...its citi great article...I'm long avalon.

    buy it low, sit and wait..patience wil be rewarded

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