For readers that don’t know you, can you tell us about your background and current roles?
In 2010, after 12 years working in the financial markets in New York, I founded an independent research and advisory firm that focuses on opportunities and threats along the lithium-ion supply chain. The way in which we generate, utilize, and store energy is going to change dramatically in the coming decades, so understanding these changes with an emphasis on supply security, technology-driven cost deflation, and productivity growth in the economy is crucial to investment strategy. I have sat on boards and worked with hedge funds, banks, corporations, and academia on these themes across six continents. I’m currently writing a book on what happens when technology-driven deflation collides with the metals markets.
There are two trends going on in parallel at the moment, with investors pulling back on battery materials stocks at the same time as predictions for the uptake of EV’s growing ever more bullish. Why is this happening now, and how do you see this situation playing out in 2019 and beyond?
When we look back five years from now, I think 2018 will be viewed as the year of ‘the reset’ for the battery materials sector. While a great deal of funding has come to the upstream portion of the supply chain, it is now incumbent on these recipients, such as Nemaska Lithium or Lithium Americas, to successfully execute their project building goals to ensure that supply can keep pace with lithium demand going forward. This is what I think investors are waiting for and is one of the reasons more money hasn’t come into mining equities. Recent announcements of expansion delays by SQM and Galaxy are a stark reminder that it likely won’t be any easier for existing producers to expand capacity than it will be for development-stage companies to achieve commercial production. The takeaway here is a generally tight lithium market for the next three years at least. Not all battery metals are created equal, though, so investment strategy around each will likely differ based on market size, growth rate, substitutability, and where we are in the economic cycle. The investor disconnect in understanding between demand and spotty supply additions is as stark as any I had seen in the 20 years I was involved in financial markets. While the lithium price in China has fallen from its lofty heights earlier this year, the price is representative of a small portion of overall lithium supply, which is also low in quality. Much of the capital being raised today is being funneled further downstream in mobility sub-sectors such as charging infrastructure or autonomous capabilities. While this bodes well for the overall theme of the electrification of transport, without a secure supply of battery metals, the risk of a delay in realizing electrification goals is heightened, to say the least. To paraphrase Winston Churchill, we are at the “end of the beginning” of the current battery metals cycle. Nobody disagrees on the demand dynamics of this equation, but funding the needed supply is still very much a challenge given the reset in these markets and the overall late stage macroeconomic expansion we find ourselves in. I think battery metals prices will remain essentially flat through H1 2019 owing to supply additions coming on stream from existing producers, while the EV markets will continue to gather steam due to government support and the mindset shift in consumers that EVs are a viable substitute for traditional ICE offerings. Finally, I think a major investment theme going forward will concern how the ‘macro affects the micro’. Many investors believe that the lithium or cobalt markets are too small to be affected by macroeconomic issues like a recession or geopolitical shockwaves, but given t strategic importance of the battery metals sector, we are about to find out that this is simply not true.
This edition of Technology Metals covers a range of metals, can you give us your thoughts on supply and demand, and prices for:
a.Lithium
Supply and demand will remain tight going forward as I see no dents in the demand armor, while supply will increase slower than many expect from Western Australian spodumene producers. The challenges that Albemarle is having with Chilean authorities, SQM’s delayed ramp up in the Atacama, Galaxy’s production challenges, and Orocobre’s continued underperformance are only the latest examples of how utterly ridiculous the oversupply thesis has become.
The lithium price should remain relatively flat through H1 2019 given no obvious catalyst to spike prices higher, such as we saw in 2016-2017. While the China price bottoms out, providing a level of comfort to the market skeptics, the ex-China contract price should remain steady at recent levels, despite recent discussions of slightly lower pricing going forward. While I see no major catalysts to push pricing materially higher, a focus on those producers or near-term producers at the low end of the cost curve provides the optimal level of safety. The anticipated supply additions from brine operations in South America and hard rock additions from Western Australia are likely priced into the market, but there are some extremely compelling undervalued opportunities with respect to lithium equities, leading me to believe that the sell-off is overdone.
What’s left is the need for these companies to successfully execute. The remaining minimal supply additions will come from China and Canada. I think the lukewarm reception that the Livent and Ganfeng IPOs were met with last month are largely a head fake and not indicative of the need for these companies to successfully execute their growth strategies. With lithium demand set to grow at 20% per year going forward, you almost need to handicap each project and hope that very few, if any, production problems surface – a long shot at best. While I don’t see any technological leaps in brine extraction on the immediate horizon, I do see a need for this technology in the lithium space. Even at today’s high prices, and I expect some sort of a leap here in the next five to ten years, I would encourage investors to learn as much as possible about the various extraction processes. Innovation has always come at the unlikeliest of times and in the unlikeliest of places, and given lithium’s demand outlook, it seems ripe for a burst of innovation. High margin businesses (like lithium mining) are always the first to get disrupted.
b.Cobalt
While I used to love the cobalt story and am biased in a bullish way given the supply and demand outlook, there are too many unknowns here to pound the table and call for higher prices and limitless demand. With Glencore and ERG adding ample supply to the market in the immediate term, conversion capacity continuing to ramp up in China, and a slow and gradual shift in cathode chemistry to NCM 811 from today’s more prevalent NCM 523 or 622, my modelling suggests no reason to panic here before 2022-2023, which gives mining companies, financiers, and end users ample time to prepare (although to achieve meaningful production by that time requires securing off takes and funding today). I think you could see a refined cobalt chemical market that is 2.5X larger in 2025 than it is today overall, with EV demand expanding by 5X, but given the above concerns, this doesn’t translate into permanently higher pricing.
c.Copper
The real challenge with copper is that, given the size of the existing market – roughly 23 million tonnes, EV sales and investment in electrification infrastructure won’t move the needle of copper pricing in the same way it will for lithium or cobalt. The real drivers for copper will remain traditional end uses and, considering a lack of investment in recent years and geopolitical challenges in Chile and Indonesia, the bullish case for copper is quite compelling. I would think you could see a price spike to $5 per pound by 2020 with a longer-term average price of $3 per pound. Higher prices are coming to the copper market – soon.
d.Nickel
Similar to my comments above, it is a stretch to believe that demand from the electrification theme will be the sole driver of higher nickel prices. Nornickel sees batteries at 15% of nickel demand in 2025 up from 4% in 2017, and clearly battery end uses will compete with the stainless steel market for nickel units going forward. Forecasts for nickel demand from the EV sector are quite broad with a range of between 370,000t to 525,000t by 2025, up from 34,000t today. This is a huge jump, but still only a relatively small part of a much larger nickel market. My sense is that the actual number will be closer to the 370,000t mark, as the transition to NCM 811 cathodes will take longer than many believe. What you really need to see is a higher nickel incentive price to bring more supply on stream first, perhaps a floor of $15,000/t for sulphide deposits and higher for laterite-based deposits. Recently, I’ve been asked on numerous occasions if a high cobalt price would green-light an expansion at a nickel/ cobalt deposit, and the answer is a resounding no. The capital intensity of a new nickel project is famously high, so the assumption that strong demand for cobalt will somehow result in funding for nickel projects with $1B plus cap ex numbers is flawed, to say the least. The traditional demand drivers for nickel, such as stainless steel, will need to reassert themselves along with the slow and steady shift to nickel-heavy lithiuion cathodes through 2025 to incentivize additional nickel supply. Though the nickel market is in a deficit, the gap has been plugged by above-ground stocks, and this is expected to continue early into the next decade. This will obviously have to change. To be clear, should the forecasts around more nickel-heavy cathodes be accurate (and I believe they are), we are going to need more nickel to come to market, but the scenario for structurally higher nickel prices is a longer-term phenomenon.
e.Vanadium
Of all of the battery metals, vanadium worries me the most. The current narrative of China requiring re-enforced rebar steel in construction, coupled with the ad- vent of vanadium redox battery (VRB) deployment, is one that has been in play since 2012 when I first started studying the market. Will this time be different? The speculative end of the market sure seems to think so, having pushed vanadium pentoxide pricing sky high off its lows of $4/ lb to over $30/lb at the time of this inter- view. Strangely, the reaction of the juniors vis-à-vis share price has been mixed with some winners and some that have been left behind. This is odd given the relatively reliable trend of junior share prices following the trajectory of underlying commodity price. You’re also starting to see uranium juniors include the word ‘vanadium’ in their name and state their intentions to produce vanadium alongside uranium. Historically, this is the sign that a rally is overdone and due for a correction. Given that vanadium can account for 40% of the cost of a VRB, the current vanadium pricing environment renders a VRB arguably uncompetitive with lithiumion and other battery technologies. One area to watch here is new business models around VRBs. As the vanadium electrolyte doesn’t degrade, leasing it is an option which can help battery economics overall. I have no conviction on where I think vanadium prices will go, but given the narrative and basic battery economics, it would appear that steel demand is going to remain the real driver of vanadium demand for some time. My sense is that this ship has sailed.
f.Graphite
Unloved relative to lithium and cobalt, natural graphite suffers from the fact that there is a (higher cost) substitute in synthetic graphite, which can be, and is being, blended by anode manufacturers today to produce high purity product for the battery business. While there is a legitimate concern in the markets that the advent of solid state lithiumion batteries will become more prevalent and render graphite-based anodes obsolete, I think this fear is largely misplaced. While solid state batteries are in our future, the graphite industry that sells into the anode business has very little to worry about here until the middle of the next decade. Syrah Resources is the new 800-pound gorilla in the graphite sector, and the market is in a ‘wait and see’ period with respect to the ramp up of the company’s operations. Should the company hit its production goals, which it has had trouble doing thus far, many of the development stage natural graphite companies will be challenged in getting adequate funding to push their own, smaller projects forward. For this year and the next, supply and demand for flake graphite appears generally balanced (allowing for surpluses in small flake and anode production capacity). China, which has historically accounted for 70% of graphite production, is currently rationalizing production capacity thanks to resource depletion and environmental concerns. The ‘pinch’ in graphite is yet to be felt, but I anticipate upward pricing pressure by 2020, breathing new life into non-Chinese natural graphite development companies.
What can junior miners do to highlight their investment case and overcome investor hesitance to invest in battery materials stocks?
There really is no magic formula here. Junior miners will always be held hostage to the tyranny of commodity price volatility. Junior miners need to ensure that they can demonstrate a project that will reside at the low end of the cost curve despite the fact that the demand for these metals should remain robust for years. This is one obvious way to ensure that a company can play a role in the spectacular potential growth around the electrification theme. Low cost profile is important, but the mineralogy and metallurgy of a project is likely more important, as a clear understanding here can lead to producing a high purity product that an end user can inject into their supply chain. This really drives project economics. The offtake is a precursor for project financing and is dependent on the junior miner showing multiple off- take partners that they have ‘the goods’. Finally – and I really shouldn’t even need to mention this – these markets are so specialized that management experience with both the technical and financial aspects of battery metals markets is a must-have.
Turning to cobalt – what are the risks to the supply chain of having most of the world’s cobalt produced in the Democratic Republic of the Congo? What opportunity does this create for investors and miners to develop projects in other locations? And are there regions that could potentially match the DRC in terms of cobalt opportunities?
No. This is pretty straightforward. When you have a decades-long supply of a critical battery metal located in a jurisdiction with a history of political upheaval and unsafe mining practices, pricing volatility cannot be far behind. To combat this, numerous Western manufacturers have poured extensive amounts of time and money in to audit cobalt supply chains and give their customers a degree of comfort that the cobalt used in various electronics is ‘clean’. These efforts should be applauded; however, I see the percentage of cobalt mined in the DRC increasing from 60+% of the market to well over 70% in the coming years. This has to do with the fact that it will take several years for pure play cobalt assets outside of the DRC (of which there’s a lack) to attain adequate financing, get built, and achieve commercial production. The majority of cobalt deposits outside of the DRC are either copper-cobalt or nickel-cobalt, so the real economic drivers of those projects are the copper and nickel prices rather than that of cobalt. To be clear, I see a refined cobalt chemicals market that is 2.5X larger than today by 2025, and supply from the DRC won’t be able to handle it alone, so you can expect to see additional potential supply emerge from other parts of the world such as the US, Canada, or Chile, which will be characterized by smaller projects. There won’t be a viable lithium-ion supply chain without it.
As an investor, I would start paying much more attention to evolution in battery chemistry as well as battery recycling. The evolution from NCM 111 cathode technology to NCM 811 is underway and will be slower and bumpier than many predict. While a cobalt-free cathode is still a distant reality vis-à-vis mobility, there is an enormous amount of intellectual firepower moving in this direction. Battery recycling is dependent upon a number of factors too numerous to enter into here, but given the dismissive eye that most industry participants view lithium-ion battery recycling with, I think a need for this technology is going to become much more important, much sooner than people think.
Finally, Chris, how do you think the US-China trade war might impact battery metals markets, given China’s dominance in this sector, and are there opportunities?
If there is something missing in the bull/bear debate around battery metals, it is the role of macro forces in the economy. US Vice President Pence’s recent, not-so-subtle declaration of a new Cold War with China is a clear indication of the new geopolitical battle for economic and technological superiority. Additionally, the rise towards populism and away from free and open markets may be more than just a passing concern. No- body can be sure how this will play out, but a good book that offers some insights into how existing and emerging powers compete is Graham Allison’s Destined For War – Can America and China Escape Thucydides’s Trap? Without spoiling the ending of this excellent book, the results aren’t terribly promising. Chinese economic data has always been somewhat suspect, but it’s clear that the days of double-digit GDP growth are behind us, and a slowdown to a more ‘sustainable’ level is the focus in Beijing. Given that so much of the battery metals supply chain touches China, and this is likely to continue, I do worry about excess industrial capacity in the country given what I have witnessed during my visits on the ground there. Additionally, interest rates are moving higher in the US and the strong USD has surprised everyone given the rapid expansion of deficits due to loose fiscal policy. This, along with a hawkish Federal Reserve, is going to put downward pressure on emerging market currencies (including the Renminbi) and force some uncomfortable decisions to be made in global political and economic power centers around the management of current and capital accounts. We can argue about President Trump’s odd behavior, but he is right to confront China on trade practices and intellectual property theft. In the end, the whole investment thesis around electrification is no longer a trade – it’s an investment and, as such, should be viewed with a return expectation measured in years rather than weeks or months. Despite the near-term jitters, I think the electrification thesis is one that will create many more opportunities than it will destroy, and educating yourself about the effects along the entire supply chain is the optimal strategy.
Chris Berry
Founder, House Mountain Partners
Based in New York, Chris has been an independent analyst since 2009 with a focus on Energy Metals supply chains including lithium, cobalt, graphite, vanadium, and rare earths. His advisory work provides strategic insights to asset managers, banks, and corporates and has a specific focus on how disruptive trends in energy, strategic metals, and technology create opportunities. Before shifting focus to analysis of these trends, Chris gained twelve years of capital markets experience on both the buy side and sell side. He has visited metals deposits on five continents and has been featured in the Financial Times, the Wall Street Journal, CNN International, and other media outlets providing insights around raw material supply chain dynamics. Chris holds a Master of Business Administration in finance with an international focus from Fordham University, and a Bachelor of Arts in international studies from The Virginia Military Institute.
