Commodities | Nov 07 2006
By Rudi Filapek-Vandyck
Resources analysts at Smith Barney Citigroup are no uranium bulls, this despite being among the first to ponder whether the “this time it’s different” theme would apply to the changing industry dynamics for natural resources a few years ago. Less than twelve months after they raised the issue the answer proved to be positive and ever since Citigroup has been part of what we at FN Arena have described as the group of Super Cyclists.
Other members of the selective brotherhood are Barclays Capital, Macquarie and GSJB Were.
Uranium has so far failed to excite Citigroup analysts and recent industry developments have not changed this. At least, that’s the conclusion we draw from a sector update by Citigroup analyst Alan Heap.
The world’s prospective second largest uranium mine has been flooded and production is likely to be pushed out by at least an extra twelve months, but Heap simply doesn’t seem to see any reason to get excited about it. Commenting on the events at Cameco’s Cigar Lake project, Heap dryly notes “the market has quickly formed a view: uranium’s already rising price lifted sharply to US$60/lb, a clear indication that this is a medium-term supply crisis.”
That’s as much excitement as you will find throughout the report. The reason for the somewhat lukewarm comments seems to relate to Heap’s conservative demand growth forecasts for the next few years: 2% per annum between 2005-2010. Clearly, Heap does not believe that a reinvigorated global public debate about climate change and cleaner energy usage will lead to any concrete results in the near term.
Such a benign growth forecast seems at odds with views expressed by other experts. Even the Australian Bureau of Agriculture and Resource Economics (ABARE), hardly a promoter of the Super Cycle thesis, has higher growth figures penciled in. ABARE forecasts demand growth of 4% for the coming year (following a projected small decline in 2006 because of a smaller number of nuclear reactor start ups this year).
But what really caught our attention is the large gap between Heap’s price forecasts for the next few years, the current spot price and what securities analysts elsewhere have been penciling in. For the current calendar year (2006) Heap’s forecast is for an average U3O8 spot price of US$40/lb versus an actual average of US$43/lb over the first eight months (with prices only further increasing) and ABARE’s forecast of US$46/lb for the full year.
Heap’s forecasts for the following years indicate the Citigroup analyst either expects some unforeseen supply to hit the market in unexpectedly large quantities or he simply hasn’t updated his models for the market beyond 2006 yet. Our guess is it is the second. As the numbers currently stand black on white in the broker’s latest update on matters the spot uranium price is expected to average US$25/lb for 2007 and US$22/lb for the years thereafter.
Yes, we had a giggle too.
Heap points out that Cameco’s “tragedy” at the flagship Cigar Lake project will support the collective case of an estimated 160+ uranium juniors worldwide that the industry is best served with new, diversified sources of supply.
Those juniors are not the only ones who are currently enjoying their time in the sun. Citigroup points out various Uranium Funds such as Canada’s Uranium Participation Corp and UK’s Nufcor are also enjoying buoyant times. The uranium market may be far too small yet to accommodate investment derivatives on top of the actual physical market, it is Heap’s view that the two aforementioned funds currently have a market role which comes very close to Exchange Traded Funds or ETFs. “Both are spot buying physical fuels and selling fully covered tradeable units.” In addition, Heap says, many new equity funds are now offering managed investments in uranium explorers/producers.
Nevertheless, financial investors are not mentioned in the closing paragraph as a contributor to the weekly uranium spot price reaching an all time high (in nominal terms) of US$60.25/lb two weeks ago. That, Heap explains, was a result of “the combination of dwindling utility inventories, high energy prices and a growing concern about emissions”.
As reported earlier, industry giants such as Cameco and Energy Resources of Australia (ERA) are currently hampered by long term supply contracts that will gradually expire over the coming years to take full advantage of the surging uranium spot price. Juniors such as Paladin Resources (PDN) will be able to negotiate contracts closer at the new pricing reality within the industry.
As a result of this, relative market valuations for junior uranium miners/explorers are considerably higher. On Citigroup estimates Paladin Resources is already the world’s third largest listed uranium company, with only Cameco and ERA having a larger market capitalisation.
Equally interesting is the fact that when we updated Citigroup’s calculations with the latest share prices of $6.84 for Paladin and $18.87 for ERA on Tuesday afternoon we found that the difference between the numbers two and three in the industry had shrunk to less than 6%.
However, by the close of the market on Tuesday November 07, 2007, the gap in market cap between Paladin and ERA had again widened as Paladin shares fell back to close at $6.75 while ERA’s shares had surged further to $19.30. Taking Citigroup calculations from November 2 as a guide, this now takes Paladin’s market cap to US$2.59bn versus US$2.85bn for ERA, a difference of 9%.
Cameco looks safe as the global number one with a market cap four times plus as large as ERA’s (US$11.89bn on November 2 figures)- and that’s before Cigar Lake has commenced production. Cigar Lake is 50% owned by Cameco and was projected to ultimately produce 8,200 tonnes of uranium per year from early 2008 onwards. The company is also 70% owner of the world’s largest uranium producing mine, McArthur River, with annual shipments of 9,200 tonnes.
As pointed out by Citigroup’s Alan Heap both mines combined were anticipated to account for more than 50% of the world’s uranium oxide by 2010. It’s probably a fair assumption that market participants have now taken the view that this might prove too optimistic. We suspect this is the “medium-term supply crisis” Heap mentions in his update.