What happened

May turned out to be the worst month for investors in Sociedad Quimica y Minera de Chile (NYSE:SQM) as the stock slumped 17.8%, according to data provided by S&P Global Market Intelligence. Much to investors' relief, though, the stock reversed course swiftly and is already up 9.8% in June, as of this writing. What's brewing?

So what

Lithium stocks took a hit earlier in May when Albemarle (NYSE:ALB) projected only a modest improvement in its 2021 performance and left its full-year guidance unchanged despite 12% growth in its first-quarter sales. The lithium industry pays close attention to the world's largest lithium producer's performance and views.

Mid-month, a wave of fear ran through mining companies operating in Chile. Left-wing groups won the vote to rewrite the constitution, raising fears that Chile's existing government could be overturned in elections later this year in favor of a leadership that's calling for higher mining taxes and greater state control over privately owned mines.

A person charging an electric car.

Image source: Getty Images.

While it's a bigger threat for copper miners, lithium mining companies also face a threat to property and water rights, among other things. As evident from its name, SQM is based in Chile and significantly exposed to all forms of risks in the country. Although 91% of its sales came from outside Chile in 2020, almost all of its produce, including fertilizers, lithium, iodine, and industrial chemicals, come from Chile. Not surprisingly, investors were spooked and SQM shares fell in May. 

Now what

Investors appear to have found some respite in SQM's first-quarter numbers released on May 20: Its net income jumped 51% on 35% growth in year-over-year revenue as volumes surged across the board.

SQM management also sounded optimistic about the lithium market, projecting prices to rise further as the year progresses -- Albemarle expects prices to rise as well -- and is expanding capacity to keep up with demand. The recent surge in sales for electric vehicles has been the biggest growth catalyst for lithium stocks given how lithium-ion batteries remain the preferred choice of EV manufacturers. For perspective, consider that global EV sales surged 41% in 2020 even as total global car sales declined, according to the International Energy Agency.

With demand for lithium projected to nearly triple by 2025, SQM has tremendous potential ahead. Unfortunately, Chile is a real threat and investors must closely watch developments in the nation as they could have a direct bearing on SQM's future and its stock price.

This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium advisory service. We’re motley! Questioning an investing thesis -- even one of our own -- helps us all think critically about investing and make decisions that help us become smarter, happier, and richer.