Wednesday, January 15, 2014

Squeezing Nickel Till It Screams -- Extended Cut

My columns are regularly edited for Investment U, often for length, because I am loquacious to a fault. I don't worry too much about it, except, ah, sometimes the stuff that's cut out is pretty good too.

Here, below is the original version of my story for today's Investment U. They gave the story the subject line, "Huge Opportunity in This Metal," but I prefer the original title ...

Squeezing Nickel Till It Screams

The price of the metal nickel touched a three-week high this week. The short-term trend is up. The bigger trend is even higher.  And you can potentially make a boatload of dollars on nickel.

Nickel is facing supply problems. And those problems start in Indonesia, a mineral-rich country on the other side of the world.

On January 12, Indonesia imposed an export ban on raw mineral ores. The intent is to force companies to build smelters on Indonesian soil. This affects all sorts of minerals. The list includes copper, iron, lead, zinc, chromium, tin, gold, silver and bauxite. But it especially affects nickel. 

An Indonesian nickel mine

Why? Because there aren’t many nickel smelters in Indonesia.  Meanwhile, that country supplies 20% to 25% of the world’s nickel. And most of it exported as raw ore.

So we could see nearly a fourth of the world’s nickel supply shut off.

Mark Selby, vice president of Royal Nickel (TSX: RNX) explains, “This is the equivalent to all of the OPEC Gulf states ceasing oil production.

“About three-fourths of China’s nickel pig iron is sourced from Indonesia,” Selby adds.

Chinese nickel pig iron producers imported more than 30 million metric tons of nickel ore from Indonesia last year.

 “And the export ban will also severely impact nickel producers in Ukraine, Australia and Japan,” Selby says.

Sure, there are stockpiles of nickel. And those stockpiles were built up in anticipation of the ban. But those will deplete rapidly. If the ban is strictly enforced, Selby says, the world could enter a severe nickel shortage as early as 2015.

Indonesia Shoots Itself in the Foot

It doesn’t help that Indonesia issued its export ban WITHOUT written guidelines. Some miners halted operations while they tried to sort things out. 

So why is Indonesia causing this chaos? Like many wrong turns on the road to hell, this starts with the best of intentions.  Indonesia wants miners to build smelters on its soil to process ore.  That would create local jobs.

Smelting ore

 Except that it’s difficult for miners to adapt quickly enough to meet the new regulations. The small, private operators that do most of the mining in Indonesia can’t afford to build smelters. So this is actually going to cost jobs … a LOT of jobs. 

For example, Ibris Nickel does not have a smelter. It had to halt operations entirely at its 2-million ton-per-year mine. 1,400 workers were shown the door.

So far, the ban already triggered the lay-off of 30,000 mine workers as mines cut back operations. And there could be more to come.

At the last minute, before the ban went into effect, India’s President, Susilo Bambang Yudhoyono – who, if we ever met, I would insist on calling “President Bangbang!” – amended the regulation. His new loophole allowed exports of copper, lead, zinc, iron ore and manganese concentrate to continue.

However, “minerals that have to be refined before export are bauxite, nickel, tin, chromium, gold and silver because they don't have intermediate products,” R. Sukhyar, Indonesia’s director general of coal and minerals at the energy ministry, told reporters.

The good news is that big exporters like Freeport McMoRan Copper & Gold, Vale and Newmont Mining already smelt the gold they export or ship out copper that is concentrated enough to slip by under the new regulations. 

The bad news is that smaller, local producers do not have this capacity. So, the new regulation is costing thousands of jobs at local firms.

Does that make any sense? I guess to a politician it does.

Minerals that still can be exported under the new loophole are heavily taxed. The six concentrate exports will pay a 20% tax that will increase to 60% in the second half of 2016. Indonesia says it will ban ALL exports of mineral concentrate from 2017.

The Biggest Loser? Guess Who

You probably can guess that the biggest loser in this is Indonesia. Political unrest is starting to go from simmer to boil as laid-off miners seethe with anger. 

Meanwhile, the nickel and bauxite industries ship more than $2 billion worth of product annually. As those shipments grind to a halt, Indonesia’s tax revenues go down. Meanwhile, its current account deficit goes up. Indonesia’s current account deficit is already high at 3.8% of gross domestic product. The Indonesian rupiah hit historic lows ahead of the ban as currency traders voted a lack of confidence.

How You Could Win Big

Maybe Indonesia’s politicians will wise up. After all, this entire crisis could go away with the stroke of a pen. But in case they stay stubbornly stupid – and nobody’s stubbornly stupid like politicians – there are ways you can profit.

  • The iPath DJ-UBS Nickel TR Sub-Index ETN (NYSE: JJN) tracks the physical metal. It has very light volume, so think twice before you buy it, and use a limit order if you do. There is another nickel ETN, the iPath Pure Beta Nickel ETN (NYSE: NINI), but its volume is even worse. Avoid that one.
  • The ISE Global Platinum Index Fund (NYSE: PLTM) is weighted nearly 9% to OAO GMK Norilsk Nickel, a Russian company that is the world’s largest producer of the metal. Again, volume in this ETF is very light. Be very careful.

For my money, some great nickel miners are in Canada. After all, Canada is one of the world’s top five nickel-producing countries AND you avoid the political risk that is ruining other parts of the world.  And that brings us to …

  •  Vale SA (NYSE: VALE) is the second biggest mining company in the world. It is the largest iron producer, and the second biggest nickel producer. Vale owns seven nickel mines in Canada. It also has one in Indonesia. Vale processes the nickel it mines in Indonesia into nickel-in-matte, an intermediate product, so it is avoiding the ban.
  •  First Quantum Minerals (TSX: FM) is a Canadian copper-gold producer that also produces nickel.
  •  Lundin Mining (TSX: LUN) is an international mining conglomerate with operations in Portugal, Sweden, Spain and the U.S. that produces all sorts of metals, including nickel from its high-grade Eagle Nickel/Copper Mine in Michigan. That stock has been on a tear since December.
  • There are also some development-stage nickel companies in Canada that could do very well if the ban sticks as they rush into production. Royal Nickel (TSX: RNC) could be one of those. PolyMet (NYSE: PLM) could be another.

 Just remember: While investing in a development stage miner offers upside potential, in this market it is not for the faint of heart. To avoid cardiac arrest, you might want to stick to a producing miner like Vale, First Quantum or Lundin.

I’m not recommending any of these companies or funds today. Just citing places to start as you conduct your own due diligence before you invest in anything.

Sean's note -- if you liked this article, please click through to the version posted on the InvestmentU website. More hits on my story won't hurt.

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