Investing can be complicated, and that's definitely the case with rare-earth stocks like MP Materials (MP -2.00%). Buying this stock requires a firm view of future geopolitical affairs. Here's why.
The bulls' case for buying MP Materials
The ongoing trading friction between the U.S. and China isn't the only argument for buying MP Materials, but it is the critical one. Indeed, the company's whole business model relies on it.
MP Materials operates a vertically integrated mine-to-magnet business model, whereby it sources rare-earth materials from its Mountain Pass mine in California as well as other non-Chinese sources, refine them, convert them into metal, and make magnets critical to the function of myriad defense and consumer products. These activities will be scaled significantly in the future.
NYSE: MP
Key Data Points
It provides one solution to the problem of ensuring a domestic supply of rare-earth magnets -- a market dominated by China, which holds 90% market share in rare-earth refining, metal conversion, and magnets.
Its business plan is attractive, and it has long-term supply agreements in place with General Motors, as well as a $500 million deal with Apple. It also has significant backing and investment from the U.S. government due to a transformative deal signed with the Department of Defense. This deal established price floors for its magnets for a decade and commitments to buy all its magnets produced at a new facility, 10X, as well as investment and loans.
Image source: Getty Images.
The deal derisked the business plan, provided access to capital, and enabled MP Materials to sign the Apple deal. However, the role of the U.S. government doesn't end there. That's because the premium attached to a domestic supply of rare-earth magnets is a result of ongoing trade tensions and the inability of lower-cost Chinese producers to sell into the U.S. market -- whether that's due to U.S. or China-imposed constraints.
In a nutshell, the bullish case relies on trade tension between U.S. and China. Without it, the premium attached to domestically produced rare-earth magnets will disappear, and China's lower-cost producers will dominate the market.
The bears' case
The bear case is that the thawing of trade relations between the U.S. and China could expose MP Materials to a combination of pricing and margin pressure from Chinese suppliers.
Image source: Getty Images.
On top of that, MP Materials' valuation arguably leaves it little room to fail in its plans to expand magnet production, build 10X, overcome any regulatory or environmental considerations at Mountain Pass (a mine it will rely heavily on), overcome any manufacturing difficulties, and secure rare-earth materials for magnet production.
A stock to buy?
All of this makes MP Materials an attractive stock to buy if you do believe trade tensions will persist over the long term. However, if you believe that trade relations will improve, the investment case for the stock weakens substantially and does not justify the execution and operational risks in its business plan. This is not an easy thing to predict, but as long as Taiwan remains the global center of semiconductor production, then there's likely to be tension between the U.S and China.
