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The Value Play in Rare Earths

01/13/2011 12:48 pm EST


Mark Skousen

Editor, Forecasts & Strategies, High-Income Alert

Thompson Creek’s reasonable valuation reflects the fact that it’s already ‘wildly profitable,’ writes Mark Skousen in Hedge Fund Trader.

Few investing themes are bigger right now than “rare-earth” stocks. These strategic minerals with unheard-of names like cerium, lanthanum and ytterbium are used in batteries, computers, and military equipment.

“Rare earths” aren’t actually rare at all, but they are hard to mine profitably. China controls 97% of current output of these strategic elements and has restricted exports, forcing the West and other users to find alternative suppliers.

[John Stephenson had more on rare earths in a recent video interview—Editor.]

Stocks like Molycorp (NYSE: MCP) and Rare Element Resources (AMEX: REE) have skyrocketed with every new announcement of a cutback in Chinese exports.

We started playing this market long before the public or even Goldman Sachs knew about it, and have profited several times already in Molycorp, the major player with the only rare-earth metals-producing mine in the United States (Mountain Pass in California). But is Molycorp really worth nine times book value? Can investors justify a $4 billion market cap with only $15 million in revenue last year?

Thompson Creek the Safer Play
There’s a better, safer way to play this hot market: Thompson Creek Metals (NYSE: TC), a rapidly growing mining company based in Denver that specializes in steel alloys. It has major operations in the United States and Canada, including the Thompson Creek Mine in Idaho. Thompson Creek is one of the largest producers of molybdenum, which is used to strengthen steel for aircraft, bridge construction, and electrical contacts.

In addition, Thompson Creek has been expanding aggressively by recently purchasing Terrane Metals. It has diversified into copper (2.1 billion pounds in proven and probable reserves) and gold (6 million ounces). And now it is expanding its rare-earth properties, so it will benefit long-term from the rare-earth crunch.

The good news is that unlike Molycorp, the “rare-earth” stock, Thompson Creek already is wildly profitable, with a profit margin exceeding 34% and revenues expected to rise 40% this year to $769 million. Its return on equity is a healthy 16.4%.

And Thompson Creek’s price of 11 times earnings is still cheap by industry standards.

Unlike gold and copper, molybdenum is still selling 60% below its all-time high in 2005. With demand from Asia and a growing global economy, prices are likely to rise.

Set a protective stop of $12 a share. For those willing to take greater risks, consider buying the June $17 calls, which last sold for $1.45. [Shares closed at $15.45 Wednesday—Editor.]

Almaden Looks Golden
In other mining news, I expect Almaden Minerals (NYSE: AAU) to report strong positive news on its giant Caballo Blanco property in the Ixtaca zone of Eastern Mexico near Veracruz. Buy Almaden and set your stop at $4. With a major gold-copper discovery in Mexico, the stock is headed higher in 2011. [Shares closed at 4.56 Wednesday—Editor.]

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