Alex B. Gray
As an investor, I think understanding what you don't know may be
the most profitable trait one can have. However, the temptation to
stray into these areas is always pulling us towards industries we
may not fully understand in an effort to not miss the next
For the last year the media have flooded us with news and
discussions about rare earth elements and strategic metals
including precious metals. Of course, all of this interest sent
related stocks soaring as both knowledgeable and ignorant investors
have jumped on the rare earth bandwagon. I have yet to take a
material position in this asset class, but I do believe there is
room for exposure to these commodities in my portfolio.
We know that China produces 95-97% of the rare earths and
intends to use this position as a political football when dealing
with other developed nations. Of course, the key word here is
production. While China currently produces 95-97% of the rare earth
elements, it has a much lower stranglehold on the world's deposits.
It is difficult to predict how China may handle its current
dominating position, but I believe they will use some restraint as
the tables may turn in the years to come as production increases
around the world. China did not produce any material quantities of
rare earth elements until the 1980's and gained its current
position by subsidizing the mining and neglecting the environmental
These actions by the Chinese government made the mining of rare
earth elements uneconomic throughout the rest of the world.
However, at current prices, new exploration and existing mines
around the world are in the process of being reactivated. However,
the time it takes to get these mines online should support prices
in the near-term unless China decides to dump rare earth elements
on the market which is unlikely. There is a certain amount of
political risk premium built into the current market prices which
could be eliminated if China reduces its limitations on
When I have a limited knowledge about a certain industry or
asset class I tend to either stay away or begin a long process of
research studying the industry and looking for investments where I
can take advantage of the knowledge of others. With the latter in
mind, I decided to go on a search for investments where I may be
able to take advantage of the knowledge of skilled and experienced
executives, while limiting my direct mining risk in a particular
commodity. I also wanted an investment that if rare earth prices
trended down, it had other assets that would support the price of
What I came up with is a handful of unique small-cap companies.
It is important to note that I am not endorsing any of the
companies below and further research is necessary, however I did
want to share some of my preliminary results. I also consider each
of these companies speculative in nature.
U.S. Energy Corp. (
is a diversified company with strategic investments in various
natural resources including oil, natural gas, geothermal, real
estate and the strategic metal molybdenum. Even though the company
derives the majority of its revenue from oil and gas, it is the
exposure to molybdenum that sparked the interest to include U.S.
Energy in this article.
The company owns a combination of surface and mineral rights in
approximately 9471 acres at Mount Emmons near Crested Butte,
Colorado that is believed to contain significant molybdenum
deposits. The company has entered into an agreement with Thompson
Creek Metal Company (
) to develop this property. Thompson Creek may earn up to a 75%
interest in the project for an investment of $400 million. As with
many of the rare earth and strategic mining companies, actual
production could be well into the future and may never occur.
The company's primary revenue assets fall within its oil and gas
segment. The company has small leasehold acreage positions in
southeast Texas, Louisiana and the Williston Basin in northeastern
Montana and in North Dakota where it is partnered with Brigham
). In addition, the company recently announced it has entered into
an agreement to earn a 40% working interest in 6,200 net acres
located in Kern County, California with Cirque Resources, LP.
The company also owns interests in geothermal, uranium and real
estate. Its exposure to geothermal is through a 22.8% interest in
the private company Standard Steam Trust, LLC ((SST)) based in
Denver, Colorado. SST has approximately 90,000 acres of Bureau of
Land Management state and fee leases in six prospect areas located
in three states. SST intends to explore and develop these
properties in order to sell them to utilities or other investors to
get a return on its investment. The company sold its uranium assets
to Uranium One (SXRZF.PK), but could still receive up to an
additional $27.5 million plus royalty payments totaling up to $12.5
million if certain conditions are met.
The company also holds a uranium royalty interest in Rio Tinto's
) Jackpot uranium property located on Green Mountain in Wyoming.
Lastly, the company has a modest real estate exposure through its
ownership of a 216-unit apartment complex in Gillette, Wyoming as
well as various other real estate located in Fremont County,
The company has approximately $40 million cash and marketable
securities and total liabilities of only $12.67 million. The
company reported a small loss for the quarter ended June 30, 2010
primarily due to dry hole costs recorded in the amount of $3.4
The play on the strategic metal molybdenum is most likely still
several years away from producing any real revenue, but you have
the oil, gas, and cash to keep you company while you wait.
Pinetree Capital Ltd. (PNPFF.PK)
is a self-described diversified investment, financial advisory and
merchant banking firm focused on investing in early stage micro-
and small-cap resource companies. Its primary exposures are in
precious metals (46%), potash, lithium and rare earths (18%),
uranium and coal (17%), base metals (16%), oil and gas (7%) and
other technologies (6%).
As of June 30, 2010 the company had a net asset value of $2.19
per share and recently traded in the $2 range representing a slight
discount to book value. However, much of its portfolio consists of
public companies so this value changes on a daily basis. A few of
its investments include Ucore Rare Metals (UURAF.PK), African Gold
Group (AGGFF.PK), Cline Mining Corporation (CLNMF.PK), Bontan
Corporation (BNTNF.PK) and fellow investment company 49 North
It is important to note that its investments are made up of very
small companies whose valuations can have wild swings to both the
upside and the downside. An investment in Pinetree would require
fair amount of due diligence on the companies held in its portfolio
and in the decision makers at Pinetree.
Strategic Metals Ltd. (SMDZF.PK)
is an interesting company that is primarily a junior gold
exploration company located in Canada which also has several
royalty interest and an investment fund that contains the shares of
other resource companies. At June 30, 2010, the company had a book
value of approximately $33 million, which consisted primarily of
its large cash and marketable security holdings of $31.4 million.
The stock currently trades at nearly 4 times its June 30, 2010 book
While the assets of this company are tied more closely to gold,
I believe all of the noise around rare earths has helped propel
this stock higher. A major pullback in rare earth prices may have
an negative impact on price of this stock, but very little impact
on the value of the underlying assets. If the share price pulls
back on a drop in rare earth prices in a strong gold price
environment, this stock may be an attractive option.
The share structure of the company has changed significantly in
the last couple of months through a private placement and the
exercise of share purchase warrants. The company should be
releasing its third quarter results soon which will make the new
capital structure more clear at that time.
Dacha Strategic Metals, Inc. (formally Dacha Capital, Inc.)
is a unique Canadian investment company that acquires, stores and
trades the physical strategic metals with a focus on the rare earth
elements. The company has been acquiring these rare earth elements
in China and then exporting them to warehouses located in Singapore
and Korea. This model totally eliminates the risk of mining rare
The company recently announced that it has executed the sale of
20,000 kilograms of 99.99% pure Gadolinium Oxide for $1.18M which
was 25% above replacement cost and resulted in a 237% gain in the
value of the Gadolinium Oxide held in inventory. The company
believes this transaction is confirmation of its business model to
acquire, store and trade in the rare earth element market.
Lutetium and Dyprosium Fe represent more than half of the market
value of its current inventory. As of October 15, 2010 the net
asset value of the company was $0.43 per share which is close to
the stocks recent trading price.
If you are looking for a pure play on strategic metals with a
rare earth element concentration, this is as close as it gets.
Aberdeen International, Inc. (AABVF.PK)
is a Canadian investment company and merchant bank that specializes
in private and small-cap resource companies. The company's goal is
to be an early investor in undervalued resource companies and
unlock value by taking an active role in the management of its
portfolio companies. The company also receives revenues from gold
royalties that provide cash flow and will participate in the rise
in gold prices.
If you liked what you read regarding the aforementioned Dacha
Strategic Metals, Aberdeen may be a way for you to indirectly
participate with the potential success of Dacha and limit the
downside of failure. In 2009, Aberdeen purchased 11% of Dacha with
warrants that could increase ownership to 19.9% and is one of its
largest public holdings. Aberdeen's portfolio is highly leveraged
to precious metals, but also gives the investor exposure to rare
earths, potash, coal and other commodities.
As of July 31, 2010 the company announced its investment
portfolio and cash on hand was valued at $0.69 per share and
shareholders equity of $1.12 per share. The company's stock
recently traded at $0.57 per share.
If you are not comfortable with the risks associated with
small-cap companies, you may be better off getting your exposure
through the new MV Rare Earth/Strategic Metals ETF (
) or one of the major miners such as Rio Tinto (
), BHP Billiton (BHP), Vale S.A. (VALE) or Anglo American
No positions at the time of this writing.
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