Treasure Chest | Nov 15 2011
By Greg Peel
What?
RBS Australia recommends traders buy Lynas Corp ((LYC)) and finance the trade by going short Independence Group ((IGO)).
Why?
The broker believes Lynas is being undervalued by a market unprepared to re-rate the stock until the Malaysian government provides the required permit for the company to ramp up the Lynas Advanced Materials Plant, as well as general uncertainty surrounding the ramp-up given an announced delay in October.
The catalyst for a pre-operating licence appears still be a month away as the broker discovered on the first day of a LAMP site visit this week. This matches the broker's expectations albeit there was hope the visit would bring a positive surprise. A chat with locals revealed they hold concerns but more on a "fear of the unknown" basis, the broker concludes, while they noted the Malaysian government is pro-development so that should be a positive for Lynas. In the meantime, the broker was very impressed with experience of senior management at the plant.
The broker sees an asymmetric risk-reward opportunity in buying Lynas ahead of the re-rating that will follow on the assumption the government permit is granted.
Base metal miner Independence Group ((IGO)), on the other hand, has had a tough couple of quarters of production given lower than expected grades and shipping delays leading to increased costs. The broker believes IGO will have to post a strong production quarter before the market can regain its confidence, suggesting little upside for the share price in the meantime. The broker thus sees limited risk of shorting IGO ahead of the expected re-rating of LYC.
There is nevertheless the obvious risk the permit won't be granted by year-end, as currently expected, which may then delay approval until after the March general election.
Background
Lynas Corp is Australia's most promising rare earth metals producer with globally significant resources that will provide competition for globally dominant producer China once processed. Rare earth elements are rapidly becoming vital in a twentieth century due to a range of unsubstitutable properties pertaining to the production of everything from smart phone screens to electric cars and wind turbines.
While rare earths are not rare in their distribution across the planet, large commercial resources are indeed rare. To be commercial any resource must contain a sufficient level of certain of the important rare earths and in particular dysprosium which is used in super-magnets for various applications. The extraction of rare earths is not expensive but the two-step processing required to bring the elements into usable form is very complex and expensive. Initial processing will be conducted by Lynas on-site at its WA project before being shipped to Malaysia for final processing at the LAMP.
When metals analysts across the globe speak of promising and commercially viable rare earth stocks the two that always come up first (and in some cases alone) are Molycorp in the US and Australia's Lynas.
FNArena subscribers can monitor market expectations for Lynas via Stock Analysis on the website.
See also recent stories: Make Mine Rare and Lynas Approaching Blanket Coverage
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