Tentative trading in MRX - Aug'07

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Hi all, I am trading aggressively just two stocks at the moment and keeping a sizeable amount of cash on the side. Why? Because I believe this market is going lower. I believe there is a lot more bad news to come, and fears might escalate if the credit rating agencies are called into question.

Most of the stock I am retaining is Matrix Metals (MRX.ASX), plus an explorer Alloy Resources (AYR.ASX). The reason being is that both companies were oversold and are expecting drilling results. Matrix is a low cost copper producer aggressively expanding output. It is ripe for a takeover by Xstrata if they find anything big. They recently entered production at are probably trading at a PER of 3x, and they have alot of upside besides. More importantly the chart is signalling to me a technical breakout.

The other stock Alloy Resources (AYR) is drilling a copper-gold target along the same geological trend as Pan Australian Resources (PNA.ASX). For this reason I am holding out for some excellent results which might just be the basis for a company-making mine. PNA have had some impressive results on this trend, so I'm hopeful for AYR despite the long development lead time.

- Andrew Sheldon www.sheldonthinks.com

Are you ready for the forthcoming gold boom?

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The global resources sector has had a bonanza period over the last 3 years, though the bulk of the fortunes made to date have been in the bulk materials (bauxite, manganese & iron ore), energy (uranium, oil, conventional gas, coal seam methane) and base metals (Copper, nickel, zinc, lead) sectors. The lagged has been the gold industry – particularly in the major commodity producing countries like Australia, South Africa and Canada.
Metal price Comparison
Looking at the returns of base metals, copper price was $0.80/lb in 1999 and now its around $US3.50/lb. Copper producers have never had it so good. Now consider the situation in the Australian gold mining sector. Despite a 70% increase in the gold price from $390 to $665 an ounce in the last 3 years in US terms, the 22% rise in the $AUD over the same period meant that the gold price in Australian dollar terms increased by just 40% from $555 to $775 an ounce.

Japanese gold producers have done far better given that the 7% depreciation in the yen over the same period means gold prices over the same period increased by 82%.
The fortunes of the gold industry
Currently the bulk of Australia's gold producers are facing difficult operating conditions, whether its staff or material shortages, rapid increases in mining costs or poor grade reconciliation. While their base metals peers have been raking in the profits, several gold miners have gone into administration, including BMA Gold, Croesus Mining and Gleneagle Gold. Others such as Batavia Mining and A1 Minerals have been forced to delay their projects rather than undermine the viability of their projects.
Consider that Barrick Gold's cash production costs rose 38% between 2005 to 2006 for its Australian and Papua New Guinean operations, whilst Newmont's costs rose 18% in Australia and NZ over a later 1 year period. More broadly, global gold cash costs have nearly doubled since 2001. Some producers have faired better than others, eg. Barrick has hedged much of its exposure to the Australian dollar at lower rates.
Gold outlook
Whilst the global economy becomes de-leveraged by falling asset prices and rising inflation, the gold sector is likely to benefit on both fronts because:
1. The value of gold to the total size of the global economy still has gold under-priced. Gold as we have already indicated has not risen like other commodities
2. Divestiture of other assets leads people into the safety of bonds, but gold for high returns. But gold is a very small market so expect volatility and significant price advances .

The paradox is that gold miners will benefit from the next leg of the gold boom for several reasons:
1. Gold was the laggard in the 2nd stage of the commodities cycle - but not this time - it will rise greatly whilst other metals fall off.
2. Gold (and other metals) will benefit from a weaker $AUD

Gold investment strategy
There is no question that gold miners offer superior exposure to rising gold prices than gold metal (coins or exchange traded funds), but you need to be selective. Consider the following:
1. Location: Seek gold miners located in non-resource based economies, or economies in which mining represents a small portion of the global economy (China, USA), as these countries will not experience stronger currencies as gold prices increase. There are a number of miners in Africa (Resolute Gold, Sub-Sahara Resources), Thailand (Kingsgate Cons), as well as explorers. Eg. Azumah Res, Castle Minerals in Africa.
2. Gold resources: Look for gold stocks that have a large inventory of gold resources because they offer a longer mine life. We are looking for a life of 15+ years. We are more impressed by miners that have large gold inventories because they are more likely to be taken over.
3. Low cost production: Look for miners with lower cash production costs, whether because they have higher grades than normal, significant credits for associated metals, or very favourable ore characteristics, eg. Large, tabular, shallow ore bodies suitable to cheap bulk extraction.
4. Low capital costs: Look for miners with low capital costs, whether because it’s a simple gravity separation process only, a cheap heap leach operation, or they have conscripted a third party plant for toll treatment.
5. No hedging: We don’t want to see gold price hedging, or if they have hedging, it should be for a small proportion of production or will be paid out soon. We should reflect favourably on producers that hedged their currency at lower rates, but any fresh currency hedging now would be a negative factor. We want maximum exposure to the gold price increase.
6. Scalability: We should look favourably upon gold producers who have the capacity to scale up production from existing plant through minor modifications or resource upside.
7. Discounts: We would prefer stocks trading at a discount to market parities. Particularly projects which have low gold grades, so they have the greatest upside from higher prices.
8. Options: We are particularly interested in stocks that have low-priced options because they offer low-cost entry into promising stocks.

A lot of Australian companies are looking outside Australia to find larger ore bodies, as well as to reduce mine costs. Sino Gold's open pit mining costs are one-third the Australian costs, while the salary of a skilled mining operator is about one-fifth of the equivalent Australian labour. This shift in exploration overseas and lost prospectivity has taken its toll on Australian gold production, since it has fallen to its lowest level in 15 years, whilst China had overtaken Australia as the world's third-largest producer. But the other reason gold exploration has floundered is because gold prices have lagged, so more money has gone into uranium, iron ore and base metals. The number of new IPOs for these metals has way surpassed new gold floats. But the major miners still like Australia and see it as part of a global portfolio with lower political risks helping to offset the higher costs.

- Andrew Sheldon www.sheldonthinks.com

Universal Resources (ASX.URL)

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In the process of doing some research for the copper stocks listed in my previous posting, I came across a comparison of copper stocks in a Exco Resources presentation. It is a table which computes the value of insitu (in-ground) copper resources in terms of stock market capitalisation (ie. $A market cap /tonnes of insitu copper). You might wonder why the discrepancy in values. For the most part its because of:

1. Stage of development - the stocks ranking over $1000 are in production, the stocks in the $300-500 range are still developing resources. They have not prepared a feasibility study so the project sponsor can't give you an accurate picture of realistic cashflows from the mine scheduling for ore block extraction. Without that info there is greater risk attached to the project.

2. Recoverable grade - Its apparent that most of the projects have a recoverable grade of around 1% copper. The exception is URL - with a grade of 0.73% Cu. That has to impact on mine profitability...but there are other issues - the big ones being economies of scale, strategic objectives and our forward-looking price assumptions.

So why is URL so low?

Before we get excited there are several things we need to know about URL. The company controls alot of copper - 933,000 tonnes of it, worth billions. These resources are spread among 10 pits, so there is even more upside in exploration potential around the mine planned pit margins and even underground potential below the pits.

The marginal grade of the ore has a big impact on mine value. The forecast cash cost of the mine is $1.10/lb compared to likely $0.60-0.80/lb for the other projects, which have higher grades and less onerous capital expenditure demands. URL need to raise $340mil compared to their much lower market capitalisation of just $25mil. Consider that if we assume an unreasonably high (current) copper price of $3.50/lb, the project has a NPV of $960mil. But if we assume a capital cost of $2/lb, the project has a NPV of $140mil. Thats a huge difference.

But consider the strategic value of a centrally located copper processing facility in one of the most important copper provinces in the world. Xstrata has recognised the potential of these resources since it has contracted to earn a 51% stake in the underground potential (below 200m depth) by spending $15mil. Really $15mil figures means nothing since they can withdrawal after a lesser commitment. In fact the company has screwed up because Xstrata - one of the world's largest copper miners, gets a strategic stake in a huge mine for little outlay, and effectively locks out the competition from dealing with URL. Companies like Teck Corp of Canada. Clearly these copper deposits and and any centrally-located processing plant associated with these deposits has a strategic value. The value its greatest for Xstrata since it already has significant capital invested at Mt Isa Mines (having taken over MIM several years ago). Clearly the deal is sweeter for Xstrata if it can:

1. Find higher grade copper ore through exploration

2. Take over other explorers with higher grade ores in the area

The URL clearly did not see the strategic importance of this project. I would argue that they should have got a firmer commitment on capital expenditures for the testing of the UG potential (the SEET project), or raised more capital to test the UG potential themselves...if only with a few deep holes.

Going forward, URL is a company with a $25mil market capitalisation (292mil shares at 8.8c) and $7mil in cash. Aside from some uranium exposure, the attributed value of their project is $18mil. That seems very low considering the exploration potential of its ground, the outlook for copper prices and established resources. For this reason I bought a stake, in the hope that:

1. Xstrata will make a takeover offer for URL after it has:

a) Proven that higher grade ore exists below the existing pits

b) Found higher grade ores in the area through its only exploration efforts

c) Taken over other companies in the area, or negotiated control over additional high grade ore

Any of these steps would justify Xstrata taking over URL. Given the lack of competition that URL management have effectively excluded, its likely that Xstrata will be able to purchase the company for about double its current value.

So this is a hard stock to pick because Xstrata need not be in a hurry...they have until 2010 to expend $15mil to earn their 51% stake. But in case you are thinking that copper prices might sink to $0.8/lb like they did in the late 1990s, think again...we are in the midst of a commodities boom driven by China, India and other countries. We are not likely to see copper prices under $2.00/lb for some time, and I think $2.50-2.80/lb is a more likely average price. So I see the URL project NPV around $300-500mil. But I dont expect shareholders to see much of that. Xstrata will play hard ball, just as they did over the Windimurra Vanadium project. It seems Xstrata is very good at extracting value from small company managers that under-value the value of their assets. The problem is a lack of commercial/strategic skills in our small mining companies. Take a look at the URL and you see geologists (scientists) and mining engineers (operations). You dont see commericial/strategic thinkers. Thats a problem...because thats a huge source of revenue/value.

I'm sure you are familar with the notion of Australia 'selling the farm' at extraordinarily low prices. Well its not just us, its foreigners as well, as its a global phenomena. Its a lack of capacity for conceptual thinking and the general knowledge required to support it.

Anyway I bought some URL because it offers value from:

1. Further exploration success - by URL or Xstrata

2. Prospect of a URL or neighbour takeover (Exco Res, Copperco)

3. Xstrata (SEET project) drilling success

Haven't decided if it will be a short term trade or a longer term investment. Lets see how the drilling results unfold. At 8.8c its unclear to me whether they will fall to 8c support or even lower.

- Andrew Sheldon www.sheldonthinks.com

Copper stocks - Aug'07

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You could be forgiven for thinking that the world is about to end, that the continents are about to slide into the sea...given the recent equity market slide. This is not totally unwarranted that stocks took a slide over recent weaks, but the rationale seems somewhat dubious. Personally I think its more about profit-taking than fundamentals. Or is the market worried about inflation? Well in any respect there seems little justification for the recent slide in small copper mining stocks in recent weeks - an average fall of 30% according to the Sydney Morning Herald. Gold stocks didnt fair as badly, perhaps suggesting that gold is deemed to have more upside.

Well we should be accustomed to mining stocks falling with the general malaise of the stock market, and we are accustomed to the spec-end of the market being punished more than the blue chips, despite some very favourable fundamentals. As www.basemetals.com/Copper has suggested copper prices have risen 22% this year to $US8,0000/tonne on the basis of tight stockpiles. London Metals Exchange (LME) stockpiles have fallen 42% this year, and more tightness is expected. Interestingly copper prices are still short of their previous high of $4.04/pound reachd in May 2006, but the market seems to be pricing in a fall based on the calamity in th sub-prime market. Might equity investors be seeing a fall before the metals market?

As we can see from the attached charts, copper stocks have fallen on average 30% to their support levels on the basis of a 4.8% fall in copper prices in recent days related to the sub-prime loan issue. Despite the uncertainties in the stock market, the downgrading of copper stocks appears excessive, and the attached stocks offer some good buying opportunities. My apologies this is not a very clear chart - the stocks are:
1. Matrix Metals (ASX.MRX) -at 13.5c
2. Exco Resources (ASX.EXS) - at 30c
3. Copperco Ltd (ASX.CUO) - at 87c
4. Redbank Mines (ASX.RBM) at 12c
Some pundits are expecting the Federal Reserve Board to respond to the weakness in the US housing market with an interest rate cut. I however dont expect as much....I think the Fed will hold the current line. I dont believe the Fed would want to signal easier monetary policy at times of higher commodity prices and tight labour markets, even if 'junk loan' end of the property market and a few funs managers and investors are feeling the pinch. There has been no collapse in earnings, and no significant reduction in credit outstanding....so there remains alot of money sloshing around the global economy, so expect markets to resume their climb. I am expecting copper prices to recover to their previous high of $4.04/pound reachd in May 2006.
It can be said that I have a suspicious nature, but when you consider that one of the reasons that copper prices are strong (supply is tight) is that workers at several very large mines in Mexico and Chile are on strike. That being the case, you'd have to wonder whether price manipulation is going on. Given that the market is driven by such short term factors....it would seem to 'profitable' for several senior mining executives at the major producers to conspire to hold off on pay rises in conditions of very high inflation in the mining districts to push metal prices higher. Why would they do that? Well - because its easy and profitable. Consider what it takes:
1. Several senior mining executives at a metals conference to get together for dinner and talk about metal markets....understand producers are largely price takers....with many producers and few refiners.
2. Only a few executives need to conspire to hold the status quo on wages, to cause strikes, to prompt a temporary supply shortage
3. After copper prices have risen by a significant degree, producers lock in the higher prices in the derivatives market
4. The executives then seek a deal with the miners which results in a concessional increase in wages, and they commence the resumed delivery of copper concentrates into the market by selling into those derivative (futures, options) contractual commitments

This is not an outlandish proposition.....its a small community among the major mining companies. They are constantly talking about prices given the dominance of these players and the benefits of holding the line. They are not really competitors since on prices but volumes. And when there are tight volumes, it makes sense to hold back some for higher prices. I am reminded of Amcor, a paper producer that was involved in price fixing years ago. I think that was a rare occasion that a groups of executives were discovered to be engaging in price fixing. I think its more prevalent than we know. Makes you wonder whether Osama Bin Laden is playing the futures market from some bunker as he blows up US Iraqis?
The only way we can determine if this is happening is:
1. Correlating price movements with strikes and derivative contractual commitments
2. Correlate spot and derivative copper prices to see if the derivatives market is questioning the soundness of copper prices

Disclosure: The author holds Metrix Metal stock.
- Andrew Sheldon www.sheldonthinks.com

Gold stocks - Aug 2007

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Gold stocks are one of the most compelling sectors of the equities market for several reasons.

1. Inflation is emerging

2. Gold is technically close to a breakout. You might be thinking that gold has already risen a great deal, but it has not kept up with the other commodities. See my posting on my Commodities blog.

The next question then is how do we position ourselves for this phenomena. We already have the major stocks trading at huge multiples, so its worth looking at some of the smaller stocks.

Listed on the Australian Stock Exchange (ASX) we have:

1. Bendigo Mining: This company has recently fallen off considerably after it revised its gold resource estimation model that culminated in a significant downgrading of its resource inventory. Since the downgrade the company has found new ore resources in new vein systems.
2. Resolute Gold: Resolute has an operating gold mine in Ghana, Africa and is developing several others.

Stay tuned for more info.

- Andrew Sheldon www.sheldonthinks.com

Specs in Platinoid Group Metals (PGMs)

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Few would be aware that there is a platinum boom going on. The reason is that the media does not cover the platinum market. Why? Its a relatively small market that is unlikely to sell newspapers. Rest assured a great many investors are benefiting. I have already updated an article on the Fundamentals of PGMs - see http://hot-metals.blogspot.com highlighting the price outlook for platinum and palladium - the 2 main PGM metals. So its now appropriate to look at the best entries into that market. Since platinum prices are already high, it makes sense to restrict our research to the following company specs:

1. Low capitalisation: We are looking for stocks offering maximum capital gain.
2. Advanced projects: We are looking at companies with a PGM project that has had a high level of exploration activity, so that its commercial potential is demonstrable. We also want them to reach production whilst prices are high or peaking.
3. Metal ratio: We prefer PGM projects with a high palladium ratio because they are likely to be discounted.
4. Location: We prefer projects located outside of South Africa because high PGM prices is likely to lift the currency, driving Rand revenues down as the currency rises against $US (as the PGM prices rise).

From previous research and current market analysis, I am already aware of some stocks:

1. Goldstream Mining (GDM.ASX): Goldstream is a diversified explorer, however its company-making project is a nickel-cobalt-PGM project in Tanzania, in which its joint venture partner Lonmin is earning a 50% stake by spending through to feasibility. As a result GDM has retained a considerable amount of cash to undertake other exploration projects.
2. North American Palladium (PDL.TSX): This company operates a PGM mine in the USA. See their website at http://www.napalladium.com.
3. AIM Resources (AIM.ASX): AIM is an emerging PGM producer situated on South Africa's Bushveld Complex. The problem with this compant is that it will be penalised by a higher Rand and any labour issues.
4. Aquarius Platinum (AQP.ASX): Aquarius was the first company to capitalise on rising PGM prices in 2000. It has since commissioned 3 mines as it moves towards PGM production of 600,000 oz per annum. It has acquired Zimplats, thus diversifying its PGM holdings outside of RSA. But it is still exposed considerably to a higher Rand.

- Andrew Sheldon www.sheldonthinks.com

Favourite gold stocks

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At this stage of the gold boom the majors have already realised alot of the price gains, so we can expect the greatest price gains in the small & emerging producers. There are several qualities we should be looking for:

Small & Established Producers

1. Low hedging exposure - preferebly only hedged from a higher or lower $A. I see the $A stable in the short term (1-3mths), rising in the medium term(3-12mths), falling in the longer term (1-3yrs)
2. Long life reserves - most analysts assess gold producers in terms of their revenue security, which can be assessed only if they have a resource within a mining plan (feasibility study). We therefore want to see in excess of 10yrs mine life.
3. Mine costs: We prefer established miners with the higher cost output because they have the greatest leverage to an increase in the gold price.
4. Location of mines: We prefer miners with projects in western markets, but better still if their projects are outside established gold-producing countries like Australia, South Africa, Chile, since a stronger currency will undermine mine revenues. Eventually the revenues have to be paid back.
5. Debt burden: Preferably the miner will have no or low debt, so they will be in a position to finance dividends or expansion.
6. Management: Preferably they will have management with commercial acumen so they are always looking to acquire under-valued projects.
7. Low cost capital expansion: Its preferable to buy companies that can implement low-cost capacity expansion. We want to avoid being diluted by capital raisings.

The companies with these characteristics in order of preferences are:

1. Emperor Mines (EMP): Its a high cost producer of 130,000oz per annum, so it has the most to gain from higher gold prices. Its based in Fiji, though the $Fiji follows the $A. Unfortunately it has diversified its assets by taking over other DRD assets in PNG, and its got shit South African management, which causes tensions with Fiji workers. Too risky.
2. Dragon Mine (DRA): Its established a new operation in Sweden, and plans a 2nd. It has exploration interests in Eritrea. I dont like the capital outlays required to get these small, scattered projects into production, and the incessant need for hedging. It will rise, but a disappointment in the making.
3. Resolute Mining (RSG): It operates several gold mines in Africa (Tanzania & Namibia), and Ravenswood, Qld. I dont know enough about this company.
4. Perseverence Mining (PSV): They operate a bio-leach gold mine in Victoria producing 130,000oz per annum. Hedging is a problem.
5. Gallery Gold (GGN): They produce gold in Africa. Know little about this company.

The companies I don't like on these terms are Dioro Exploration (DIO) as it moves underground.

Emerging Gold Producers

The risk with emerging gold producers is that they the gold price action supporting the market might be over by the time they commence production. The qualities we look for are:

1. Reserves: Looking for the maximum ounces, even if they are not currently in the mine plan because of the current price of gold.
2. Capital cost: Looking for miners that can establish a production capacity for the lowest possible cost. If a company needs to finance plant, they are likely to need gold loans (hedging) to finance it. This means they are limited in their upside exposure to higher gold prices. It also means it will be longer before they can pay dividends. The best producers are those close to several treatment plants (for toll treating) or have had the forsight to purchase a 2nd hand plant.
3. Cash reserves: We are looking for project sponsors with sufficient cash for the next year (preferably over $1.5mil) because we don't want to be diluted by a share issue, nor have those new shareholders dumping their stock in the market.
4. Mine costs: Looking for projects with low unit mining costs to ensure that we are supporting a project with a high Net Present Value (NPV).
5. Upside: Some type of upside in the company, whether investments, other projects or adjoining exploration targets.

By these stakes the best emerging gold companies are:

1. Gleneagle Gold (GLN.ASX): They have a strategically located treatment plant in WA and a significant resource which can quickly be commissioned using their established gold treatment plant. Very quickly they can go from an explorer to a producer. They have alot of exploration upside. Currently 28c - target 70c.
2. A1 Minerals (AAM.ASX): They have a very attractive gold project in WA close to the old Sons of Gwalia gold plant. They have high grade gold close to the surface. They have alot of exploration upside. They are promising because they might not need to purchase a treatment plant to get into production. Currently 26c - target 75c.
3. Great Basin Gold (GBG.TSX): This Canadian-listed company is developing 2 exciting projects. The most attractive is a 1Moz resource on the Carlin Trend in Nevada, which is currently being developed by a JV partner. They have alot of exploration upside. I recommended them at 90c, now $2.30. Target? No longer follow this stock.
4. Red 5 Ltd (RED.ASX): They have 1.7mil oz of resources and a relationship with Anglogold which will help to finance the project. They have alot of exploration upside. This company is under-performing because it contracted out mine services, as a result the project is behind schedule. The IRR was not great either. But alot of exploration upside. Will they need to hedge forward gold output? Risk?

These are the best gold stocks I can recommend. They stocks will multiple in value over the next year by about 300-500%.

Factors for assessing mining & exploration stocks

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The factors pertinent for assessing resource stocks varies depending on the nature of the business. There are basically 3 stages in the evolution of a mining company. Most companies tend to be reconstructed, liquidated, recapitalised or taken over by other companies before they have a chance to mature. The 3 stages are:

1. Exploration company: These are small teams of geologists & mining engineers searching for minerals. They will tend to be pursuing grassroots 'conceptual' targets or attempting to expand or re-test an old target, whether demonstrated minerals exist, indicator minerals, proven ore zones, or perhaps have acquired an old treatment plant hoping to find more resources. These companies typically have less than $3mil in cash and tend to disappear when a boom collapses.
2. Mining juniors: These are companies that have managed to discover, delineate, develop and commission a mining operation. Solely relying on cashflows from a single mine, these companies often have a limited life unless the discovery proves to be a 'company maker'. Bonanza discoveries are rare - except at the top of the resources boom when alot more money is being spent on exploration.
3. Middle rank miners: These companies emerge through the successful developement of several mines or the merger of several mining companies.
4. Multinational miners: These companies tend to arise from the merger of even larger companies. They tend to have their origins in important mineral centres like Broken Hill (BHP Billiton), Mt Isa (MIM) and Nevada (Newmont).

These 4 stages have some relevance to the share price performance of the company. Exploration companies are listed on the stock exchange in the middle to late stages of a boom when capital is readily available. Over time the quality of such listings deteriorates as good projects become scarce. Brokers are only too willing to place their clients money at risk to support a capital raising since they are earning commission on the listingg. If the broker is getting more than 5% commission, or offers free options, its usually a dog, or difficult market conditions. The level of over-subscriptions is also important, and such listings will usually enter the market at a 100-200% premium. New listings are attracting maximum exposure, and tend to fall from then on, unless they are able to maintain the momentum with successful drilling programs. Eventually these companies fall victim to investor impatience. It takes anywhere from 2-5 years to get a mining project into production. In that time there is alot of money to spend, and considerable potential for surprises. Eg. Samples could be tampered with, the orebody could be faulted, the metallurgy could be difficult, metal prices might collapse.

Successive drilling programs see the share price of the best stocks go sideways, and the less compelling stories go down. Generally they are not worth touching until the results of the Bankable Feasibility Study (BFS) are released since that is the point the project can be financed - as long as the Internal Rate of Return is over 24% (before tax, equity basis). Ensure that the sponsors are using conservative parameters for currency & metal prices. The release of the report is a good selling opportunity. If its a bad report, hold off selling because metal markets might move in your favour, and often the project can be re-engineered to reduce costs. eg. Using 2nd hand plant, production of a concentrate rather than a finished product, etc.

After the BFS is completed, its not worth investing until the mine is close to production. Even then the company is often a long way from paying dividends because most have to carry alot of debt. The upside on metal prices is restricted by hedging metal prices and the Forex rate. Many companies also have further capital commitments if they have to go underground.

Since there are a multitude of opportunities to invest in the mining sector, we are looking for the most attractive companies and projects. Small companies have attractive features (like capital gain), but large companies offer diversification and have regular cashflows and dividends. Small companies tend to be more cyclical, but in absolute terms the large companies have more to loose, and the small companies more upside. Each investor needs to consider their risk-reward exposure.

Assessment of these 4 stages of a mining company are very different, but are highlighted below.

Exploration Companies

The factors pertinent to assessing the merits of an exploration company are:

1. Capital structure: Its preferable that they have a low market capitalisation. The lower the better. Any discovery will result in a larger gain in the share price.
2. Cash: You don't want an exploration company to be under-capitalised (less than $1mil cash) or over-capitalised (>$4mil cash) because this exposures you to dilution, or reduces the upside. Established investors would prefer new shareholders buy in at higher prices to lock in a share premium.
3. Management: Its preferable that they have experienced & ambitious management. They should have an applied background rather than an academic one. The CEO should be a geologist with commercial skills not an analyst or accountant. He should be well connected and competent.
4. Targets: The quality of a company's exploration interests can say alot about the quality of the management.
5. Focus: The commodities upon which they are focused should be of interest to the market NOW - not in 5 years. Otherwise you should buy later. But ultimately the investment decision depends on the value of the project. A great project will be valuable at the depths of the commodity cycle, and likely worth waiting for. Use charts to pick an entry point.

Most exploration companies target low grade haloes to old mines, the depth extensions to them, or they might seek virgin 'grassroots' exploration areas. Given that most developed countries are over-explored by comparison to South America, Asia & Africa, a great many companies are exploring in these areas. This is a benefit to shareholders because the exploration impediments are often lower, and the areas are more prospective for larger discoveries. Thats not to say Australia is depleted - far from it. Large discoveries are sometimes made after a multitude of explorers passed an area off, and there is still potential at depth as more sensitive instrumentation and improved software allow better detection of 'concealed' orebodies with only a geophysical expression.

Minerals are usually discovered in established areas, though every so often an explorer will make a fresh discovery, often based on a conceptual target established by a mineral province elsewhere, which suggests a mode of formation applicable to other areas. Other explorers peg claims in similar or nearby areas hoping to identify repetitions. Mineral deposits with a lithological or structural control pointing the way. Many companies will target grassroots targets offering several prospective models for mineral accumulation.

Once a mineral deposit is identified we are concerned with the following issues. The less we know the more the risk, and the greater discount we apply to the discovery. Net sum we consider:

1. Potential size & grade of the mineral deposit to determine the in-situ mineral content
2. The distribution of the ore zones to determine if they will readily fit into a mine plan, as well as impacting on the scale and cost (selectivity) of mining. Is the orebody offset by faults?
3. The geometry & depth of the deposit to determine the cost of accessing the minerals. Deeper deposits are more costly to drill define, acess with development drives and expensive to operate. Very deep mines require underground air cooling systems. eg. Fiji volcanic zone
4. The metallurgy of the ore to determine how much can be recovered and a rough idea of the costs of mining, processing & transporting the ore to customers.
5. Vested interests that pose a threat to the project, eg. environmental, land rights, export licenses, royalties, sovereign risk (political stability).
6. Market prices for the contained metals to determine the value of the ore and the availability of customers
7. The likely scale of mining to determine the life and scale of production (cost of mining).
8. The political stability of the country so we can be assured of the security of the company's title.

Most of this information will come over time. The initial focus is on the distribution of minerals and the strategic importance of the mineral deposit. A new discovery does not always sit in isolation. The commercial viability of a mineral deposit is much improved by the availability of a nearby processing plant. If a small project sponsor can commission a mine without building a new processing plant - it can pose a huge saving. W need to consider the location of each drill hole, the grades and their distribution downhole. We would prefer to see homogenous ore zones for easy mass-mining rather than multiple ore zones surrounded by barren material. This would require more costly selective mining. We would prefer little overburden and flat tabular deposits so the overburden ratio is minimal. We would like to see a higher grade zone near the surface to offer a rapid cashflow - perhaps to finance expansion or pay off debt quickly. We hope their will be alot of ore amenable to Open Cut (OC) mining, so we can delay underground (UG) development. If there is UG development better that the project is in the mountains where we might be fortunate to get horizontal access to the ore zone quickly.

Junior Miners

Junior miners trade at a premium to explorers because they have an established cashflow which can be used to finance new projects or expansions. This means shareholders are free of issues diluting their equity, but they are somewhat exposed to 'technical' and 'market' surprises like falling commodity prices, or disappointing drilling results. Better if there are a number of projects so the companies interests are diversified if the shareholder is not. The focus on these companies are of a more commercial nature, as the risks shift from technical to earnings-yield concerns since the technical risk has been diversified. Consider the following:

1. Cash costs: After they have paid off the debt their cashflow is basically profit after exploration, amortisation, depreciation, administrative, royality and expansion costs
2. Hedging: Investors want exposure to the upside. Unfortunately companies with few assets need to hedge a portion (50%) of their reserves to secure project funding. Typically all the debt will be repaid in 3-5 years. As a consequence unhedged producers are more attractive in rising prices, and hedged produces more valued when metal prices are falling. Some companies like Sons of Gwalia have gone backrupt because of dubious hedging programs.
3. Forex rate: Its an unfortunate fact that when commodity producing countries like Australia, Canada and RSA benefit from higher commodity prices, local investors don't benefit as much because the higher commodity prices are neutralised by a rising local currency. For this reason miners situated in non-traditional commodity producing markets like Thailand (Kingsgate Consolidated) or Sweden (Dragon Mining) offer an added attraction. In contrast, gold miners in South Africa were going broke on recent high metal prices because the Rand rose too high.
4. Metal prices: A 10% rise in metal prices might well have a 30% impact on project earnings since profit margins rise faster. The impact is even greater on large-scale miners with high costs, eg. Emperor Mines in Fiji.
5. Mine Life: Investors, particularly fund managers, are very concerned about the stability of earnings. The biggest factor affecting mine earnings is mine closures, so its important that a company is able to expand its earnings and replace diminishing production capacity, either with new projects or expanding reserve inventories. This means that companies have to drill up areas years before they will be mined. For mine planning reasons, this is sensible anyway. Those mines with high capacity & long life are vert appealing takeover targets for the multinationals too.

Multinational Miners

These companies include Rio Tinto (RIO) and BHP Billiton (BHP). Such companies tend to be listed on a multitude of exchanges and have a highly diversified geographic presence. These companies have a very different strategy to the others - focused on the right strategic asset mix and assemblage of the right assets. The share the following characteristics:

1. Acquisition focus: They are less interested in maintaining exploration teams, preferring to finance small companies which operate on smaller operating budgets. Instead they will retain generous buy-in rights if the exploration area yields a resource of sufficient size to meet their criteria, eg. strategic asset, long life (20+ years), lowest cost quartile, profits over $30mil a year potential.
2. Metal mix: They are interested in having exposure to a diversified suite of minerals, in a broad range of areas. This allows them a stronger price negotiating position, as well as offering them the opportunity to reduce transport costs.
3. Sovereign risks: They have little sovereign risk
4. Value adding: They are interested in downstream processing opportunities like ferroalloys, powdered metals if that comes within their area of core expertise.

Because of the more secure earnings stream from these companies, they are more highly valued by institutional investors, particularly since there are very few resource companies which offer the stock liquidity to attract sizeable investments - apart from the oil industry. eg. Exxon, Chevron, British Petroleum and Shell.

- Andrew Sheldon www.sheldonthinks.com

Finding the best speculative stocks

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There is no single way to make money - rather each of us has to adopt a strategy that suits their skills, experience and character - not to mention lifestyle criteria. By default, I became a trader. Working as a mining analyst I was exposed to unethical practices, and was being turned away from opportunities because another wanted to 'monopolise the deal'. All this wore on my morale, and I realised I could make more money trading my own. I made $A55,000 that year, plus another $35,o00 trading my own money. Whilst I support 'insider trading' laws that unfairly prosecute people from benefiting from others knowledge, I dont think I should be prevented from benefiting from my personal knowledge.....just because there is a possibility that I might know something. The 'insider trading' problem is really a disclosure problem. Directors should be required to release information when it becomes available, and directors should be prosecuted only - not investors, so they get caught easily when something goes wrong.

Anyway the basis for my most profitable trading system is the following. Unfortunately few of you are in a position to benefit from it because it requires technical knowledge, as well as a bit of mining history. I have been doing this since I was 11yo (25years ago), when I started going to the Dept of Mines and stock exchange. Mining research was cheap back then, you could borrow reports for each company under the letter 'A' for $1.50. Most people researched a single share - I did them all - every report - every letter. That taught me what a good company looked like...often without reading the report. ...Just because of the way it was written.

There are several characteristics that made a good stock:

1. Potential of some kind, whether a large world-class resource whose time had not come, or an exploration target that showed great promise. Maybe its 'nothing', but such companies at some time become something.
2. Small market capitalisation, whether the company had a few shares at a high price, or 1billion shares at 0.1c, it mattered little if they were capitalised at less than $4million - even better if they had a few options since it gave me leverage. Not too many options that would potentially dilute the value of the company. You don't want stocks with partially paid shares or preference shares. Certainly not stocks with directors have control.
3. Attractive management, whether competent or just well-connected. When you have read as many reports as me, you know who are the better connected and competent mining executives are. Sometimes the company association is better than the name because there are so many executives with the same name, eg. Tim Carter. But some of them are guilty by association since badly run companies tend to attract bad people who will take any association. A well-connected mining engineer or geologist will always find a project. eg. Vulcan Resources is a case in pointt. Bought this thinly capitalised company's option at 5-8c, 3mths later I sold for 15-20c before results on its Russian project were released. The company shares fell from 50c to 14c, but my brother who retained them for tax reasons, sold them despite my advise. They will turn a new project again, better to retain them. Be careful of retiring executives wanting a company to 'play with' part time. You want young, aggressive management.
4. Cash in the bank: The target company should have some cash, at least $1mil, to give you a year so you don't have to worry about being diluted by new stock at a discount. And they should not be spending it quickly. They will also need cash for a new project, eg. to buy an option.

A listed company is a priced possession, particularly during a boom. It doesn't have to be a mining company. It might be a small company with a tangible asset that can be sold off, it might be a medical centre franchise easily sold off. The bigger question is whether the management can be bought out. That question often depends on the willingness of directors & major shareholders. You dont want the old directors staying around. Most will go. But its better to go with a mining executive with a history as a deal maker than an entrenched board sitting on a shell (or cash box) company. The reason is that they are still there because they are dug in, and no one wants to touch them.

When I bought Vulcan Resources opts (VCNO) back in 2003, no one was interested in mining stocks. After announcing that they had acquired a Ukrainan gold project with over 7km of development, I was amazed that others did not jump on it. No one was interested in a gold explorer which could be producing within 10mths. I jumped on. In the current mineral boom, I wouldn't get a chance. They would go into 'pre-open' and would open 50% higher, and might end 100% up. Its harder to trade such positions. It might open at their highs. Some go beyond fundamentals - others never get there. For this reason its critical to identify those companies offering potential before the deal occurs, or before the opportunity arises.

The opportunities appear in various forms, though the following styles are the most common. All of these opportunities are essentially contrarian positions - buying when no one else is interested. There are various schemes - but there is a common scheme - an unloved company abandoned by disillusioned shareholders.

1. Stalled by legalities: Some companies are abandoned by shareholders because they are in a legal straightjacket. For example, years ago Xstrata sold its Windamurra vanadium project to Xstrata in exchange for a royalty interest. Xstrata closed the mine to allow it to realise higher prices from its African vanadium mine. Xstrata over the next 10 years offered to buy out Precious Metals Aust, but they resisted. Only now with Vanadium prices high is that stock able to move, in anticipation of Xstrata restarting production.
2. Low commodity prices: Amazing opportunities are presented because stockmarket analysts are not interested in certain sectors of the market. In a cyclical downturn, mining analysts can't find work because there is no exploration, no need for mining finance. But in this environment I found a gem a few years ago. I bought Minotaur Res at 14c, opts at 5c because they were about to drill a huge geophysical anomaly 100km from the $US6billion Olympic Dam mine. The company was valued at $2mil, so little downside. The upside was spectacular. They eventually went to $2.80, opts to $2.60. Would have made me a millionaire. But I sold it because no news, and I thought I needed the money for a NZ holiday. That $2mil company became $200-300mil in 3mths.
3. Political stocks : There are stocks like Anvil Mining which are unloved because their mining interests are in a country experiencing civil war or destabilised government. I bought AVM at 12c, at a time when the UN peace keepers had come in to monitor the election proceedings. I got impatient with this one, after waiting a year, I sold out. Despite being in production, it still only valued at 1x earnings. Actually technically, I sold when I should have been buying. A channel breakout resulted - It went to 70c (600% gain).
4. Misunderstood commodities: The ascension of Australia as a financial centre is relatively new because this was not a sophisticated market 15 years ago. Things have improved. Analysts have more depth to monitor a broader variety of markets, and Australians are working in Asia too. But sometimes analysts just dont understand a market, and the stock is thus heavily discounted. eg. I made 3200% on Aquarius Platinum opts over 3years because Aust analysts did not understand platinum, and Sth Africans did not understand Open cut mining. It was not until the stock was listed in London that it got the attention it deserved.
5. Corporate shells: There are listed companies in Australia, Canada & RSA that are doing nothing, perhaps have some cash, but more importantly ambitious management who are project-hungry. Suddenly these unloved companies go from $2mil market cap to $20mil when they find a great project. They are targeted because they are an easy entry into equity markets, without the sponsors having to prepare a detailed prospectus for investors. Eg. Vulcan Minerals (VCN) - I made 300% on this one in several months. It was an easy pick because the company had announced it was looking at projects in Eastern Europe.

Such opportunities don't just pertain to resources. I often find such opportunities in the technology sector - my other favourite sector. But I can't expect to understand this sector as well because I've not grown up with them. But often I find these stocks flying. Often I'm not patient enough, and thus I've found technical analysis a great tool for timing stock entries. Trading psychology has proved to be my greatest obstacle.

The other aspect of trading such stocks is when to sell. I offer the following suggestions:

1. Cash backing: When cash reserves get too low ($400K) its time to sell - otherwise you risk dilution.
2. Technical exit: Charts provide a useful tool for determining when to exit a stock. The unfortunate aspect of using them for entries is that they might rise 100% in a day on a good announcement, so you miss out.
3. Fundamentals: Sometimes fundamentals give a good exit point. I assessed the value of VCN shares at 50c before I sold out. I got it.
4. Critical news: You should sell out before news that bears risk as you might be disappointed, eg. Don't wait for drilling results to prove you right. I've seen miners fall 70% in value overnight. VCN for instance when Russian drilling proved unreliable.
5. Lethargy: I waited a year for Anvil Mining to go up, but missed out. I was worried about the lack of disclosure. I sat on Aquarius because they always exceeded my expectations and offered great disclosure. This is a personal decision.

This trading strategy is a high risk strategy for those with little knowledge of mining, but very lucrative for those with such knowledge.

- Andrew Sheldon www.sheldonthinks.com

Australian Tech Stocks

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There are several tech stocks listed on the Australian Stock Exchange (ASX) which I like:

1. Unwired (UNW): Sadly this one has already moved whilst I was travelling. worth watching for a pullback as its developing wireless internet for Australian cities. traditional ISPs are a thing of the past.
2. ZBB Systems: At a time when companies are paying through the nose for electricity/energy, this company offers a power management system. It produces an alternative to lead-acid batteries. This one has also moved whilst I was travelling.
3. Blaze International (BLZ): This company is developing video compression technology for cell phones. I like them because they say they have much better compression rates than competitors, and they have clearly identified their market target, that market is growing strongly, and they have alot of upside. Whose to say though that there are not companies with differing technologies which will supercede them. More risky, but i like the upside.

- Andrew Sheldon www.sheldonthinks.com

Australian resource stocks

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The gold market has gone no where of late and the reason is that we don`t see any erosion of other asset classes just yet. There is a lingering fear of inflation, but you won`t see alot of money going into gold stocks whilst equity & property markets are running with the bulls. And I don`t mean the Spanish bulls of Pamplona, I mean the Filipino prostitutes of Pampanga. If I`ve got the name wrong its because I never stopped there.

But in anticipation I like the following entries into the gold market - all companies listed on the Australian Stock Exchange (ASX):

1. Gleneagle Gold (GLN): It owns a 2nd hand treatment plant which will be revalued when it proves up enough gold at its Western Australian site. Mind you they already have alot of gold delineated, much of which will enter resource status as the gold price rises. The problem is that gold prices in $A terms will be undermined by a strong $A since gold is sold in $US. For this reason - go DRA >>
2. Dragon Mining (DRA): Dragon has commissioned its first gold mine in Sweden, and is planning a 2nd. Since Sweden (or EU) is not historically a resource market, its currency will not rise with the gold price, so $A revenues not repatriated will stay high. These funds thus can be invested in further production capacity.
3. Gippsland Ltd (GIP): I am expecting the resources sector to collapse in the next 6-18mths as the US-chinese property markets burst. Say by jun-sept`06. The LME & COMEX traded commodities are the most vulnerable to speculation, but I expect tantalum demand (used in mobile phones & laptops, PDAs) to be sustained because of the lack of new supply. GIP is bringing on a large new project. The reason i like GIP is because the project is Ta, tin (few sources & new applications, replacing lead in ammunition), feldspar (used in tiles/paint). Its in Egypt, so might the risk discount disappear??? Hmm.
4. Matilda Minerals (MAL): This company has had some impressive exploration results on Melville Is, Northern Territory, Australia. Its moving towards mining its high-zircon concentrate, high grade ore with minimum 3year mine life. Given that mineral sands generally extend over vast areas of coastline and they have about 200km of coast under application, there appears good upside. The `sands` are shallow and high grade, minimising environmental impact. It remains to be seen whether there will be opposition from aborigines, even though the regional land council supports the project. The projected high returns and exploration upside make this an attractive buy, but watch those market signals. Its an industrial commodity, which will be sold down in any global meltdown.
5. A1 Minerals (AAM): These guys are getting attractive high grades from shallow drilling in WA. The prospect of treating the ore through a third party toll treating plant make this an attractive proposition, particularly given the tight share register.

- Andrew Sheldon www.sheldonthinks.com

Australia - Mining Stocks to Watch

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Everything in the news and from my research suggests to me that broad equities are going to underperform the Resources sector. There is currently alot of liquidity parked in bonds, which is waiting for higher earnings & resumed consumer spending before it enters the market. I'm sure it will find an excuse eventually for renewed confidence. Who likes money sitting in storage. Fund managers like to spend - just like you.
Whilst broader equities might make 10-15% returns this year, they will need to be inflation-adjusted. The stocks to out-perform will be the resources, with probably rises of 60%, and 200-300% for the 'specs' that I target. Yes, people, remember that rally in 2003 (Jul-Dec) - this is the 2nd leg. During that time I anticipated numerous successes, as well as a few failures. The gains were:
1. Qld Coal Co (15c to 45c) > 300%
2. Anvil Mining (11c to 66c) > 600%
3. Red 5 Ltd (8c to 25c) > 300%
4. Equinox Res (9c to 30c) - later consolidated capital
5. Austral Coal (50c to $1.30) > about as blue chip as I go, only because coal is highly capitalised
6. Dragon Mining (6c to 30c) > 500%
There are just too many. But there were some failures. Mostly stocks that didn't perform, lot of which I quickly exited. Others which I had an emotional & somewhat careless attitude towards, have ye to move. It can be difficult. I sat on Anvil Mining for a year before it really started to move. It makes you start discounting the benefits of the stock - and the integrity of the people behind the company. Alot of these people are salespeople, others are true believers.
Since these times, I've been spending alot of time better understanding the 'big picture', to gain a 'bottom-down' perspective of the market to complement my 'bottom-up' understanding of mining stocks, and my knowledge of technical analysis. I do need to spend more time on my trading psychology - to get my exit strategy right. I'm over-trading > a common problem. On that note, my picks for the coming 12 months are:
1. Climax Mining (CMX): I originally entered these at 11-12c, now 13.5c. They are going to 25c. They are developing a gold/copper mine in the Philippines. Its fairly low grade, but its bulk mining, so low-cost. Approvals & title secure, expect announcement on a financial partner. Would not be surprised to see a Chinese company taking equity in the project.
2. Matilda Minerals (MAL): Developing mineral sands producer in WA, it starts mining in Jun'05. Very quick into production because gravity mining heavy sands is so easy, and their grades are exceptional, plus its rich in zircon rather than lower-value ilmenite (titanium oxide 65%Ti). I see them proving up more resources, so they will go from 57c to over $1.
3. View Resources (VRE): They operate a nickel mine in WA, generating $1mil/month cashflow, plus extending the life of an old, fully-equipped gold mine. The share price has suffered because of high contractor charges (up 30%), but they will come down. I would not be surprised to see another acquisition by these guys.
4. Methanol Australia (MEO): This is likely to be the only energy company I recommend. Its a blue-sky mathanol plant proposed in the Timor Sea. They have excellent management, a multi-national for a partner, Sumitomo has financial adviser. Can't see why this project can't fly. I'm expecting positive announcements, which I think will see these 11c shares move to 40-50c. Using an energy feedstock essentially makes this an energy-play, even though methanol need not be used as a fuel.
5. Gleneagle Gold (GLN): This stock has been a disappointment, but the upside has only increased. The company was hit by high contractor charges, delaying mining. I think it has disappointed on its lack of exploration activity as well. But as far as I can see, the potentila remains, and they will be producing in the 2nd half of 2005. But we need a strong gold market. I was fortunate enough to sell at 28c, and have bought back at 17c. Other companies are finding gold resources in the vicinity of their plant. I don't like the management. See what happens when an analyst runs a company. Paralyse by analysis. I can relate to that.
6. Red 5 (RED): I sold out of this one some time ago. Their gold resource has not lived up to expectations as far as grades, but I'm sure it will be an attractive mine since it has delivered on volumes. At these prices it becomes attractive, particularly with Anglogold's financial support and the potential for further high grade gold mineralisation along strike. Remember that Anglogold bought in at 17c, they are now 11.5-12c.
7. Dragon Mining (DRA): They have started mining in Sweden. Its a high grade gold project with scope for repititions once they start exploration. I like this one because Sweden is not a recognised mining country, so its currency doesn't rise with higher gold price. It means that they can expand production with strong revenues before repatriating the revenues back to Aust (strong commodity currency). This is true for Climax as well.
8. Kingsgate Mining (KMN): They are a bigger gold producer in Thailand. Since Thailand is not a recognised commodity producer, they have the same compelling benefits as DRA/CMX, but I know nothing about the mine. Technical/resource risk? Its about as blue-chip as I get.
9. Jaguar Mining (JML): This company is developing an attractive base metals mine in WA. Its orebody is however 300m below the surface, so development is long-winded. It will perform eventually, so watch for a break-out. I'm guessing it will be another 9-12mths before they start production, so keep an eye on them.
10. Base metals: There are a few base metal miners I like, eg. CBH, TTT, but these have moved a little. But good buying on weakness.
11. Oil stocks: I don't know the oil stocks as well, but I like CUE and CPN.
12. Gippsland (GIP): An attractive tantalum play in Egypt. Its currently at a BUY point around 12-13c.
There are many other stocks that are attractive to me.

- Andrew Sheldon www.sheldonthinks.com

Gold Stocks in Canada

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Being an Australian I tend to trade on the ASX, but some years ago I was searching the world for platinum stocks. Having made 3200% trading Aquarius Platinum options (25c to $8.20), I ventured upon some compelling stories in Canada.

The most promising was a gold stock called Great Basin Gold (GBG), listed on the Vancouver Stock Exchange. What makes this company exciting is that it has 2 great projects, one of them full-funded by a farm-in partner.
1. Nevada: High grade gold project on the famous Carlin gold trend in Nevada, USA. Its identified 1Moz of gold, and given the potential for repetitions of this mineralisation, its very promising, as well as the potential depth extensions demonstrated at nearby mines. Production is probably 18mths away. The partner is earning 50% I believe by funding $18mil for feasibility & mine development. Its an UG mine, so it will take time to access UG ore. The grades are roughly 28g/tonne of gold, much higher than the typical 5-9 g/t you see in most UG mines.

2. South Africa: They also have a large-scale gold deposit in South Africa, ie. Something like 40Mt at 5 g/t. This project is less advanced, but very attractive.

The other stock I liked at the time Anooraq Res did as well (600% gain), but has since slumped. Its projects did not live up to expectation. Exploration is risky, which is why a company like GBG, with demonstrated resources is an appealing investment as we move into an inflationary gold boom!
Andrew Sheldon

Uranium stocks - fad or boggy?

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The uranium market is undergoing a boom at the moment. The spot price of unranium oxide concentrates (U3O8) have broke $US21/lb in Dec’04, a 300% increase on their lows reached in Dec’2000 of $US7.10/lb. The long term average spot price is around $US12/lb. Yet all this means little because the bulk of uranium concentrates are sold under long term contracts, and without one of those, you are unlikely to move into production. Financiers generally require miners to secure around 65-75% of their proposed production at the much lower contract prices. These contract prices are much lower because producers decision which project they will support. Normally this decision comes down to the following characteristics:

1. Low production costs > preferably in the global lowest cost quartile (<$40/kg U3O8). The factors which determine a projects cost competitiveness are in basic terms: size of orebody, uranium concentration, depth of orebody, geometry of orebody (flatter, shallower, massive is preferred)
2. Mine life > the longer the better (>20 years)
3. Political stability > assurance that policies to uranium mining won’t change
4. Environment & Safety > assurance that attitudes to the environment & safety won’t change.

There are host of uranium projects around the word seeking development. The following table outlines the current recoverable reserves of uranium oxide worldwide:
Country Recoverable Resources (Mt) % of global total
Australia 0.989Mt 28%
Kazakhstan 0.622Mt 18%
Canada 0.439Mt 12%
South Africa 0.298Mt 8%
Namibia 0.213Mt 6%
Russia 0.158Mt 4%
Brazil 0.143Mt 4%
United States 0.102Mt 3%
Uzbekistan 0.093Mt 3%
Other 0.050Mt 14%
Total 3.537Mt 100%

Australia fortuitously has a high proportion (38%) of the world’s lowest cost resources, as it’s also a politically stable country with established mining & environmental policy. These factors give it an edge in the market along with Canada. Australia’s uranium mining industry had a slow start despite its dominance over reserves – the reason being the ‘3 mines’ uranium policy adopted by the Labor government in the 1970s(?). The policy was finally dropped in 1996 by the Liberal government (PM John Howard), however with all states controlled by the Labor Party, Australian-based projects have been stalled. The Labor Party folly has allowed the Canadians to commission new capacity. There are currently 3 producers in Australia:

1. Olympic Dam owned by WMC Resources > currently being taken over by Xstrata
2. Ranger mine in the NT, owned by Energy Resources of Aust (ERA)
3. Beverley mine in Sth Aust, owned by Heathgate Resources (General Atomic of the US)

The Federal-government administered Northern Territory is the only Australian precinct where uranium can be mined. What explains the explosion in Australian uranium stocks? Is the Labor government about to change its policy? Its unlikely to abandon its irrational heartland. But since its a state government decision - it seems likely that Sth Australia and the Northern Territory are likely to approve new mines, since they already have existing uranium mines. WA is actively opposed to uranium mining.

Of course a number of companies are looking for uranium outside Australia. The market has already recognised the market leader:

1. Paladin Resources (PDN) has rocketed from 4c to $1.75. Its projects are in Namibia and Tanzania. it has already established a large resource base there and has JV partner funding.
2. Goldstream Mining (GDM) is more prospective for its platinum & nickel than its uranium, but adds to the upside given that its project interests are funded.
3. Giralia Resources (GIR) is attractive because although its project is in Australia, its JV partner is Heathgate Resources, which already has an export licence.

In addition, there are 2 advanced projects planned for development at Jabiluka and Honeymoon. Details? There is also a multitude of projects in Australia hoping to see the light of day. Sponsors include Paladin Resources (projects in Aust & Namibia), Wiluna Resources, Havilah Resources (floating off Curnamona Energy), Summit Resources, Minotaur Resources, and this is before we even consider the brownfields potential of existing mines, and project sponsors in South Africa, London, Canada, the UK and elsewhere. Consider that some uranium mines are developed by virtue of their contained uranium by-product. In conclusion, there is a lot of ‘potential’ primary uranium capacity to come on stream. These uranium inventories were identified in a period stretching back to the 1970s mining boom. Companies in the search for other minerals were sometimes encountering uranium. The deposits were tested, but despite many substantial finds, most were not developed for 2 reasons:

1. Strong community opposition to uranium: The Three Mile Island nuclear accident in the United States in 1976 focused community attention on the dangers of uranium. This was followed by the Chernobyl disaster in the Ukraine in 1986. Many western governments cancelled plans for nuclear power stations, yet a number of plants managed to proceed despite this opposition. Even in the west, opposition had declined.
2. High cost power: Nulcear power stations are a relatively expensive source of power because of the high capital cost, though fuel is cheap.
3. Safety: There are concerns that a nuclear accident could occur during war, earthquakes or other natural disasters, or perhaps terrorism. The Sendai earthquake in Jul05 however displayed that a nuclear reactor can safely shut down automatically in response to earthquake tremors.

There is however growing community awareness of the benefits of uranium:

1. No greenhouse gases: Nuclear power is an attractive option for countries wanting to reduce their greenhouse gas emissions.
2. Vulnerability to oil supply shocks: A great many governments want to develop nuclear power to reduce their vulnerability to oil supply shocks.
3. Development of safer reactor designs: New designs have fail-safe designs that make disasters a much lower possibility.
4. Established precedence of reactor disasters: The Chernobyl dispelled the fears that a nuclear disaster would destroy the world. The disaster was however a valued lesson in ‘safe nuclear practices’.
5. Improving safety record: Improvements in nuclear plant management & design worldwide has resulted in the incidence of reactor disasters declining. There are currently 430 reactors operating around the world, and problems are generally minor.
6. Excess Supply: Following the collapse of the Soviet Union in 1992, large stockpiles of weapons-grade enriched uranium were blended to produce reactor-grade uranium, which were subsequently released into the market, depressing prices for many years. These stockpiles are still being absorbed today, and are not expected to be depleted until 2015.
   

On the demand side, high energy prices and strong global growth has resulted in a growing demand for all fuels. The higher spot price for uranium is the result of a massive 10 million lbs per annum shortfall between mine supply and demand. This ‘gap’ is expected to grow to 30mil lbs by 2015. As a consequence, uranium prices are expected to test their previous high of over $US43/lb set in the 1970s. After adjusting for inflation, that would see prices increase to ???.
There are currently 430 nuclear reactors in operation, which generate 16% of the world’s electricity. A further 30 plants are under construction, and another 70 planned. In China, nuclear power meets just 1.6% of its total electricity demand. It has just 4 reactors in operation, with another 2 planned. Yet the nuclear industry is betting that China will adopt more nuclear capacity in future.
Known resources of uranium could supply the existing reactors with uranium oxide concentrates for decades, so there is no question of a uranium shortage. The 430 reactors consumed 77,000 tonnes of uranium in 2003, of which existing mines supplied 42,300 tonnes. The balance was sourced from secondary supplies (weapon-grade blends) and utility stockpiles. Stockpiles are however becoming depleted. The secondary sources currently meeting 45% of the market demand includes recycled uranium, plutonium from spent fuel, re-enriched depleted uranium tails, ex-military weapons-grade uranium & plutonium, as well as civil stockpiles. Supplies are falling, but analysts believe there is still sufficient stores to last the industry until 2020. That’s a long time to wait for a recovery, and there is always the possibility of further disarmament given China’s move towards are market economy. Russia’s moves towards a market economy appear less certain.
The nuclear industry will have reached an agreement with the Russian & US governments on a sensible & managed program for increasing mine supplies, to ensure that when stockpiles deplete in future years, there will be plenty of mine capacity to fill it. In the interim, it will be a long wait. We might expect some mines to be developed, remembering that these governments will be weary about any future military threats – possibly from Russia or China. Its hard to see whether escalation of nuclear tensions is likely, but it remains a possibility. Regardless it will be the better projects that will proceed, and the uranium price is unlikely to be so attractive. Get data on how many mines are required to meet demand? The bulk of any new mine supply will be contracted on very competitive terms, even if the spot price remains attractive. There are just too many potential suppliers. We only see great commodity prices when there is a shock. The spot price is a marginal issue. The other factor is that it takes 6-8 years to commission a power station, compared to just 3-4 for a new mine. In addition, nuclear plants are often delayed indefinitely. Experiences in Taiwan, US, China, Japan should demonstrate that point. So long as power plants need to be tied to transmission lines, and though lines leak power, the ‘not-in-my-backyard’ (NIMB) factor will remain an issue.
For all the reasons above, you might want to reconsider investing in uranium explorers and project vendors until the vendors can demonstrate that their project will be profitable at <$US20/kg, as otherwise their returns will be competed away by buyers. And stay mindful of the criteria for a prospective supplier above. The average Australian export price reached $A92/kg in 1984, falling to $A50/kg in 1992, and has since stayed around $40-55/kg. For more information on the uranium market, contact:

1. TheUranium Information Centre, Melbourne
2. TheUranium Institute, London
3. The World Nuclear Association

- Andrew Sheldon www.sheldonthinks.com