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10 Jun

Time To ‘Go Vulture’ On Molycorp?

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Shipments at Molycorp were up 10%, but revenue was down 4% during the first quarter.  Not good for Moly.  China announces it will no longer fight the World Trade Organization’s opinion that China has violated international trade agreements in regards to its rare-earth export quotas.  Extra supply of REMs is now expected to hit global markets.  Again, not good for Moly, because China’s export quotas of REMs provided many years of artificial supply constraints and support to global pricing.

Counter-intuitively, shares of Moly rose on the news of the China announcement, but it now appears that rumors of a takeover and short covering have dominated recent trades in the stock.

In essence, the fundamental outlook for Moly isn’t particularly good.  And with cash running short at the American-based mining company, another series of secondary stock offerings cannot be too far.

That’s a lot of bad news, and when a lot of bad news reaches the tape and tanks a stock like MCP by a handsome 50% crater, bargain hunting induced by the ‘vulture instinct’ among some investors takes over.  With a Book Value and Enterprise Value of nearly twice and treble of Moly’s Market Cap, respectively, MCP has already priced-in lots of share-value negative events, in our opinion.

We’ve seen similar pity parties countless times before: the panic and disgust among shareholders induces massive selloffs.  And when the future looks really bad for a stock, the the heavy selling induced by too much despair typically overshoots the stock price to the downside in a selling frenzy brought on by the fear of meaningful losses.

National Security Trumps the ‘Invisible Hand’

But our thinking on Moly has always been that the availability of REMs are vital to US national security, as the military and alternative energy complexes must have them to complete its mission, in the first instance, and to manufacture alternative energy sources, in the second instance.  And if you want the latest and greatest smartphone, REMs make the magic happen.

“Rare earths provide critical components for a wide array of products from iPhones to computers, medical CAT scans, defense systems, wind turbines and more,” the National Center of Policy Analysis (NCPA) states on its website.  “The United States depends on other countries, some of which are not very friendly, for these elements.

And it gets worse for the longer-term bears of Moly, as the NCPA estimates that the “United States currently imports over 90 percent of its rare earths.”  And  Washington-Beijing relations have been anything but cozy at any time throughout American history.

Essentially, when push comes to the inevitable shove on the subject of REMs, the U.S. government will step in to enhance shareholder ‘value’ of Moly when it so wishes, as Washington has already deployed bags of money to prop up the beleaguered banking, housing and auto industries, et cetera.  That real-world fact of life (government intervention) trumps Adam Smith’s ‘invisible hand’ principle every time.  As a nation, where the too-big-to-fail doctrine has become all but codified, the doctrine of too-important-to-fail must also hold to be true, as the national security interests of the U.S. don’t usually allow for the free market mechanism of price discovery to get in the way of the needs of the U.S. Department of Defense.

In fact, in early Feb. 2014, U.S. Senator Joe Manchin (W. Va.) and U.S. Senator Roy Blunt (Mo.) introduced the “National Rare Earth Cooperative Act of 2014,” a bipartisan piece of legislation crafted to extricate to U.S. dependency on China’s REM exports.

“I always say that we need a level playing field. China’s near-monopoly over the Global rare earth market is bad for our economy and bad for national security,” Manchin said. “This bipartisan legislation will help to end the imbalance – encouraging domestic production of our rare earth minerals which are used for everyday items like televisions and mobile phones, and are essential in strategic weapons systems we need for the national defense.”

“By encouraging the domestic production and refinement of rare earth minerals, we can reduce our dependency on other countries, encourage job creation and economic development here in the U.S., and strengthen our nation’s military capabilities,” Blunt said. “I’m pleased to partner with Senator Manchin on this bipartisan legislation as we work to bring back the rare earth industry to the U.S.”

The Charts Suggest $2.50, Possibly $1.50

Okay, under the most dire of circumstances, MCP will most likely be kept alive by the omnipotence of the U.S. Treasury.  So, now what?

With approximately 38% of Moly’s shares held short, the temptation to take a long position in anticipation of a massive short-covering rally is quite strong.  The price action in MCP has been down since all the way back to Apr. 2011.  However, if the temptation to go long is too strong at this time, consider a portion of a total position at the current market price range of $2.50 and $2.75, with the remaining portion allocated to the possibility of MCP dropping to $1.50 (the Point-and-Figure objective price).

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