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By: Costas Bocelli — January 6, 2011

Is Rare Earth Getting a Little "Well Done?"


Capitalism is all about the boom-bust cycles that have made many investors famous (or infamous, depending on who you ask) from the vast fortunes amassed in our financial market history.

Asset bubbles can be beautiful things, and they can possess great opportunities to accumulate wealth very quickly.  The trick is ... you simply need to recognize when the party stops before the bubble pops.

The Dot Com Tech bubble finally popped after the turn of the century in the 1st quarter of 2000, sending the Nasdaq Composite from a lofty 5100 to below 2000 in 12 months.  I can still remember all the exuberance and investor enthusiasm leading up to it in the winter of 1999.

Just before the bubble burst, QualComm (ticker: QCOM) was trading at $400 per share, and had recently announced a 4-for-1 split.  Prior to the split, a well known analyst raised his price target to $1,000!  A few weeks later ... the bubble burst.

We've witnessed other asset bubbles, such as Oil surging to $150 per barrel in 2008, and the Real Estate property implosion from lofty levels shortly thereafter.  The point is that asset bubbles materialize, and opportunity is there for the taking -- whether riding the wave up or the crash down.

Are Commodities In Bubble Territory Today?

Commodities have been a leading sector since the markets bottomed last summer.  Gold, Copper, and Silver each made all-time highs recently.  Oil is trading above $90 a barrel, and seems destined to test triple digits again.  Agricultural crops and by-products are sending food prices soaring and causing unrest.

The global economic recovery is reigniting demand for energy and materials that are vitally needed.  Emerging Markets are competing with the developed world for these resources at a greater pace.

That being said, the fragile economic recovery still faces great headwinds, and uncertainty could stop it in its tracks.  Therefore, Central Banks continue to enact ultra loose monetary policy, and this is debasing fiat currencies -- one result being (you guessed it) greater demand for alternative reserve assets like precious metals.

All of these forces are driving prices up.  Below is a chart of the Thomson Reuters/ Jefferies CRB Index that tracks a basket of commodities ...

(Click on image to enlarge)


So, are commodities in a bubble? 

Food, energy, and materials are essentials.  Demand is currently outstripping tight supply.  If this is a bubble, the trend is still up, and should continue until the price action shows you something different.

But not all commodities are created equal ...

A Prime Candidate for Bubble Status: Rare Earth Elements

Although Rare Earth Elements are not a component of the CRB Index, this sector has certainly caught the attention of many investors and taken commodity momentum to another level.

Rare Earth Elements are a collection of 17 chemical elements found on the periodic table (think back to high school chemistry class).  Rare Earth Elements are not exactly as rare as their name suggests, however, being abundant throughout the Earth's crust.  What makes them "rare" is that concentrated deposits of the material that makes mining and production of them economically feasible are located in very few spots in the world.

These metals are used to manufacture many important and useful items.  Recreational uses include smart phones, computer tablets, and vehicle batteries.  Medically, the metals are found in sophisticated scanning and x-ray technology.  And militarily, these metals are needed in laser guided missile technology and naval propulsion systems.

As innovation and technology advance, the magnetic and other characteristics that these metals possess puts supply in high demand.

So… Why Now All the Attention?

Currently, China has cornered the market on Rare Earth Elements, producing almost 97% of the world's consumption.  Although China sits on roughly one-third of known concentrated reserves, they've become the superstore for this very important commodity.

The barriers to entry and start up costs made competing with China's prices an uphill battle, so many producers closed up shop and turned their attention to mining other, more lucrative resources.  The Chinese had been able to meet global demand and the price was right ... until now.

Innovation, Emerging Markets, and explosive growth in homeland China have now made Chinese production and supply constrained.  This past September, Japan, which is the largest importer of Rare Earth, had their supply distribution disrupted by the Chinese.  Both sides have conflicted versions of the incident that ignited geo-political tensions between the two rival Asian nations.

China went one step further and announced export quotas on global shipments of Rare Earth.  The 35% cut in distribution has sparked a spike in prices and a shift on dealing with future supply.  For now, China is in the driver's seat, but 2012 and beyond could be a different story ...

Enter the New and Revived Players

With Rare Earth prices on the rise and projected to double by next year from rising demand, mining ventures outside of China are racing to get online and pump out the metals.

The mining company Molycorp (ticker: MCP) has been drawing the most attention, and is in the best position to capitalize on production quickly.  The company has recently partnered with a major Japanese supplier, and received a cash infusion to pump over $500 million into renovating an existing facility that has significant concentrated deposits of rare earth.

Molycorp also went public this past summer.  Since the IPO, the stock is up almost 400%.  I guess investors and traders have pretty high expectations for this company.

Below is a chart on MCP since its IPO ...

(Click on image to enlarge)

So much buzz has been created around this commodity, Market Vectors created a rare earth element ETF (ticker: REMX).  It's brand new and began trading in late October.

(Click on image to enlarge)

Other companies that have exposure to rare earth elements are also going along for the ride, with stock valuations hitting parabolic levels.

General Moly Inc. (ticker: GMO)

Rare Element Resources (ticker: REE)

Avalon Rare Metals (ticker: AVL)

The market is front running huge expectations that these companies are going to make massive profits, and it looks like the price action has gotten way out in front of reality.  The story is drawing in the speculators, and this is exactly what a bubble looks like.

The two things all these companies have in common:

1. They have "rare", "element" or "moly" in their name,  and ...

2. None of them make any money.

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