Dispatches From the Road, Part I

 | Jun 24, 2012 | 7:00 PM EDT
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In an annual ritual for my family, we are driving halfway across the U.S. over the next week. Our route will take us from winter to summer: We started in chilly and foggy Los Angeles (temperature Saturday morning: 55 degrees Farenheit) and will end in the summer steam at Lake Okoboji in northwest Iowa (temperature today: 95). In addition to relaxation and some mild adventure, the trip offers a steady flow of on-the-ground economic insights -- the kind you simply can't pick up from sitting in an office reading The Wall Street Journal. My posts this week will be a mash-up of observations made along the way, and I hope they'll provide some anecdotal insights into current economic conditions that complement the statistics with which we are bombarded on a daily basis.

Day one was a short hop from Los Angeles to Las Vegas, and the route goes past the rare earth mine owned by Molycorp (MCP) in Mountain Pass, Calif. Roughly an hour southwest of Las Vegas, the mine at Mountain Pass has been the site of furious construction activity as Molycorp has prepared to enter full-scale production. As anyone who watches CNBC or reads a newspaper knows, the rare earth space went through a massive price bubble in the 2010-to-2011 period. But, with prices well off the highs, investors may now be wondering if now is the time to jump back in.

While the froth is definitely off the rare earth market, I am still hesitant about the future outlook. Depending on the element (there are 14 different elements classified as "rare earths," each with its own supply-and-demand curve), prices are down 20% to 60% or more off the highs. I like to look at the Market Vectors Rare Earth/Strategic Metals ETF (REMX) as a proxy, and this chart tells the story.

REMX -- Daily, 2010 to 2012
Source: Yahoo! Finance

My concern is that rare earth market prices have declined substantially, yet not a kilogram of additional supply has hit the market. Now, obviously the bubble highs were unsustainable, but what happens next year when Molycorp is shipping 20,000 tons a year? (The total market is only estimate at 100,000 tons per year.) Also, Lynas finally got approval for its processing facility in Malaysia, so a similar amount from that company will hit the market soon after. Furthermore, there are a whole host of additional projects set to start production in the 2015 time frame -- if they can get funding and get built.

The standard industry response is that demand is high and unfulfilled. Certainly, that is partially true, but I always struggled with how one measures true "demand" when you can't actually ship product. In shortage situations, demand is usually overestimated because buyers double-order or even triple-order simply in order to get the amount they actually want. So "order" books rarely reflect true need, and orders magically evaporate when supply comes on line. If you don't believe this, simply study every cyclical industry in our economy, because they all work identically.

There is certainly a future for rare earths in our modern economy, but I would hold off on making a long-term bet until we see the impact of imminent supply and how it will affect pricing and true demand.

Returning to the road, near Mountain Pass is the dry lake of Ivanpah, where BrightSource Energy is building a large concentrated solar power plant. The plant uses mirrors to concentrate sunlight onto a tower where steam is produced from the heat, so this is very different from photovoltaic solar. BrightSource is a well-respected company in the clean tech space, but could not get an initial public offering done this winter (along with several other big clean tech deals, such as Enerkem).

Investors will be watching to see when, or even if, BrightSource can come back to market and raise capital. Seeing them back on the road could indicate that the IPO window is again open, at least for deals outside of social media.

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