Is the easy money in lithium over?

February 1, 2018

Over the last few weeks, lithium stocks have sold off across the board, with some down more than others.  While the SQM deal announcement was one of the catalysts for the declines, valuations definitely looked like they were running high across the sector and ready for a pullback or pause of some sort.  Investors, or traders may not want to discuss this, as they are probably hoping for the good times and trending markets of 2017 to continue, but we believe it’s time to consider whether the easy money in lithium is over (at least for the time being).

Valuations: as we mentioned, valuations are running high, especially in the junior mining space.  Pilbara, down ~25% off its highs, still has a market cap of $1.25B before even commencing production.  Similarly, Lithium Americas has dropped almost 40%, but still has a market cap of ~$600m, 1-2 years prior to production.  We can go on and on down the list, but the story will be the same- the market ran up on the tight market fundamentals, higher lithium prices, and projects receiving votes of confidence from backers like auto companies or larger incumbent miners.  

For long term investors, they might not have cared at all about the lofty valuations given the promise of the overall industry.  Furthemore for long term investors, when valuations have started coming off its highs over recent weeks, we like how Chris Berry put it when he said that the SQM news was a real “gift.”  Likewise for value investors, a step back from lofty valuations presents itself as an opportunity to buy in when the overall Lithium market is down off its recent highs.  After all, the story of the short term producers, which we also covered in our interview with Ken Brinsen, has not changed.  

Sentiment: In speaking with a few hedge funds, we’ve noticed that many of them are falling prey to the media reports that played up oversupply concerns on the back of the SQM deal.  In fact, the first thing they asked in our conversations was why we weren’t recommending shorting the miners!  Furthermore, we would argue that the continued selloff in Albmemarle (ALB, -25% from highs, -14% since the SQM news), a member of the lithium oligopoly, is evidence of a negative sentiment from the larger investors and institutions.  Being a US-based, US-listed, large-cap miner with significant global market share, Albemarle has arguably been the poster child for larger money-managers looking for exposure to the space. Thus, it makes sense that given what we’ve learned from our conversations, ALB has continued to selloff, despite shorter-term market fundamentals remaining intact.  It’ll be really interesting to see how they handle all the Q&A on their earnings call which will happen on February 27th.  

2018 fundamentals: 2017 was quite obviously a year of discovery, as investors large and small started to pay attention to the lithium, battery, and electric vehicle (EV) stories. Particularly, institutions and money managers really started to take a deeper look and put money to work in the sector, which is a major reason why the market was trending up. Looking forward in 2018, while there are still a lot of investors left to educate, given the high valuations new investors may be waiting for the story to play out a bit more before putting capital to work.  A few things they might be watching out for over the coming year:

  • FMC Lithium Spin- this is a big news story, and one that is likely to play out in the second half of 2018.  It is a big move because it will be the first US listed pure-play lithium major on the market.  This is a big deal because it will show the investment appetite in the market for a pure play lithium miner, potentially paving the way for more US listings, assuming it is well received.  Furthermore, the valuation given by the market to FMC Lithium will be a good guide for those looking to value the other miners.
  • Updates from new projects looking to come online in 2018- Given the tight market conditions in the lithium space, investors are looking for updates from the new companies expected to come online (like Altura, Pilbara, Tawana), and the existing producers ramping up production.  Based on which companies actually bring new supply online and which hit inevitable delays, investors will allocate their capital accordingly.  Furthermore, the pricing impact from this new supply may help boost/depress existing miner valuations.
  • Consolidation- as we’ve already seen with Lithium X, as well as Orocobre, deals are becoming more commonplace in the industry.  There are a ton of companies that are grabbing up mining resources, hoping to establish operations around them. This is making it tougher to cut through the clutter and find the true investment worthy candidates.  As the year progresses, we expect to see more deals take place in the space, whether it’s mergers, JVs, or partnerships between mining companies, or vertical integrations by autos looking to secure lithium supply.  And as these deals unfold, it will hopefully allow more clarity for investors to evaluate and hone in on specific assets.

With all of these factors coming into play, we do believe that the easy, trending market in lithium might be over for the time being.  That doesn’t mean we expect the market to sell off even more, or for all of the stocks in the sector to be on hold.  It just means that we expect investors will have to be more careful and selective when putting their capital to work.  We’ve outlined the value-type approach we like to take in the market, and believe that it will become even more useful as volatility and noise increases going forward.  

But as always, we’ll be here to stay on top of things and help cut through the clutter to find the best investment-worthy companies.  So make sure to subscribe via email and follow us on twitter to get timely analysis as it hits the tape!


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