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The scarce metal few people are talking about

18 July 2018

Rob Crayfourd and Keith Watson, co-portfolio managers for Geiger Counter, explain why demand for uranium could start to pick-up after a 10-year bear market.

By Rob Crayfourd and Keith Watson,

New City Investment Managers

The uranium market looks poised to recover strongly after a 10-year bear market, following production cuts by the world’s largest producers. Uranium has lagged other commodities into this cyclical recovery but that looks likely to change.

The demand growth side of the equation is the easiest to understand with a clear build-out of new reactors led by China. China is focused on reducing emissions and improving air quality, so remains motivated to add power generation with zero emissions. Globally, there are currently 50 reactors in construction and 447 that are currently operating. These new reactors are typically larger than the existing fleet and also require three years' worth of material on their initial loading.

The extended prior weakness in the Uranium market can be attributed to two main factors. The Fukishima reactor accident in 2011 saw the uranium price fall 67 per cent to $20/lb, or 85 per cent from the 2007 peak, after Japanese reactors were shut in, removing 12 per cent of global demand. Secondly, since 2004 Kazakhstan undertook huge expansion in production from 8Mlbs [millipounds] to 60Mlbs per annum, and now produces 31 per cent of global supply.

This situation is now reversing with Japan having restarted nine reactors, with plans to restart more of the facilities from over 40 that could return to operation. Meanwhile Kazakhstan is showing supply constraint, cutting production 10 per cent since the beginning of 2017 and having announced plans to reduce production by an incremental 7 per cent in 2018. This is motivated by Kazatomprom’s intended IPO later this year, with similarities to the intended IPO of Saudi Arabia’s Aramco, as they look for an improved commodity price. Kazatomprom’s influence over primary uranium supply is comparable to the whole of OPEC in the oil market.

Futhermore, the world’s largest listed producer, Cameco, mothballed their MacArthur river mine in Canada, which reduced global supply by 8 per cent. Additional cuts by Rio Tinto and Paladin have also tightened the market.

The best solution to over supply is low prices and this has certainly proved to be the case. With the uranium spot price at $23/lb there is no motivation to bring any mothballed or new projects on line. Cameco have indicated they need long-term contracts around $40/lb before they would consider restarting MacArthur River, which is one of the highest grade projects in the world.

The market is now firmly in deficit, with no sign of new supply on the horizon unless we see a meaningful improvement in uranium prices. In July this year the launch of the UK-listed Yellowcake physical uranium ETF further tightened the market, effectively locking up over 8Mlbs, or 5 per cent of global demand, that would have otherwise been available for the spot market.

Uranium is only a tiny proportion, around 3 per cent, of the overall power generation cost for utilities. Consequently, there is very low price sensitivity to end demand once a reactor has been constructed. It is also important to differentiate between the growth in renewable relative to nuclear power. Nuclear reactors provide a steady base load source of power, which is different from the variability of solar and wind power. We are already seeing some power grids struggle to cope with this rise in variability.

The Chinese are also able to construct reactors far more efficiently than in the west, in part due to the cookie cutter process they have applied in building larger, standardised designs but also through cheaper financing availability for these high capital expenditure projects. This is in contrast to the likes of the UK’s Hinkley Point which is significantly more expensive.

The uranium sector offers investors a deep value sector uncorrelated to the wider market, which has seen a significant fundamental improvement that looks likely to drive material improvement in the commodity price and respective producer equity valuations going forward.

Rob Crayfourd and Keith Watson are co-portfolio managers of Geiger Counter. The views expressed above are their own and should not be taken as investment advice.

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