Ok ladies and gentlemen, I'd like to welcome you to today's broadcast. I've got Rick Rule here and we're going to spend a little bit of time talking about energy. First off, uranium uranium prices had a tremendous move a few years ago, going up from, what? $8 a pound to well over $120. Prices backed off considerably to $40/lb. around July, and since have moved up to about $61/lb. a 50% increase in six months. Did we miss the boat or what?
Rick Rule : We haven't missed the boat but, to me, being 50% up means 50% less attractive. When we talked several broadcasts ago, I thought uranium stocks and uranium prices were table-pounding cheap. They are no longer table-pounding cheap, but I think they have room to go up. Later in this discussion, we're going to talk about the energy sector generally but let me lead off by saying that, for five years I've been very, very bullish on energy all forms of energy. To me, uranium is one of the most attractive forms of energy.
One of the things that's interesting is that, although new plant construction is not progressing well in Europe and North America, it is progressing better than I had anticipated and I was bullish in East Asia. New plant construction in the People's Republic of China, South Korea, Japan and Taiwan is progressing well despite the fact that the long-term prognosis for uranium doesn't supply existing plants, let alone new plants. That sets up an interesting paradox in uranium; if you're building or financing a plant now, what you have to do to secure financing of the plant is obtain long-term contracts that give you enough uranium supply to amortize the loan out over 15, 20 or 30 years or for the duration of the term. Interestingly, that means the long-term price of uranium (i.e., contracted uranium prices) is above and sometimes substantially above the spot price; thus, uranium consumers are paying a premium over market to lock in long-term supplies. This is important because for the first time in my career, relatively small companies that make a significant uranium discovery can finance the discovery into production without selling it to a multinational mining company because these consumers large power companies and utilities are willing to assist in financing the mine in return for an offtake agreement. This is a game-changer for the uranium exploration sector.
The second thing that makes uranium particularly attractive to me is that vast amounts of money were raised in the stupidity of the uranium bull market that occurred four five years ago. As is normal, most of the money was wasted but some was spent intelligently. As a result of the 25-year bear market that existed in uranium prior to the bull market, not much exploration had been done for 25 years. Consequently, there was lots of low hanging fruit and the money that was raised has begun to find it. That means we're in a discovery cycle in uranium at the same time the long-term outlook for uranium producers is the brightest it's been in my 57-year lifetime. This is a very bullish set of circumstances looking forward just 50% less bullish than it was six months ago because the price of admission has gone up.
We are extremely attracted to the uranium business in the next five-year timeframe, though the rising tide will not float all ships. Remember that most of the 500 companies purportedly looking for uranium four years ago were run by management teams that couldn't even spell uranium. The benefit associated with the market conditions that I'm describing will be extremely constrained to a very small group of companies, probably no more than 20.
JH : Ok, so those are the sectors that have done very well in the last year or so. Let's talk about some of the sectors that haven't done as well because that's usually what you migrate toward. Alternative energy jumps out as one geothermal and hydro developers have actually done fairly well in the field from what I can tell, but not in the market. Considering the BP Plc (NYSE:BP; LSE:BP) oil spill back in spring and everyone talking about reducing our dependence on fossil fuels, you'd think this market would have gone on fire. But it hasn't happened. What's the outlook?
RR : Well, I think energy is where it's at for the next five years. I think energy prices are going to surprise people to the upside, and all forms of energy nuclear, alternative, oil and gas (O&G) and the great b te noire, coal are going to work. I think they're going to work for a couple of absolutely inescapable reasons. We've talked about this in the webcast before, but there are two billion people around the world who aspire to the lifestyle that we enjoy and that lifestyle requires energy. Unlike 20 years ago, those people can increasingly afford to compete with us for those energy supplies. That's a long way of saying that people in central India would enjoy the lifestyle you have and, increasingly, at least their children are competing with your children on a very, very direct basis; more per-capita demand for energy spread over literally billions of capitas. Not enough energy to go around, so the price is going to go up no doubt about it.
On the supply side, there are also challenges, at least challenges if you're a consumer. The thing that carries the day is oil and gas, particularly oil because it can be used as a motor fuel. Most people believe oil is produced largely by the big multinational oil companies Royal Dutch Shell Plc (NYSE:RDS.A), Exxon Mobil Corp. (NYSE:XOM), Total (NYSE:TOT), Chevron Corporation (NYSE:CVX) and Eni S.p.A. (NYSE:E). That's not true; most oil worldwide is produced by national oil companies (NOCs) companies controlled by politicians the people who can't deliver the mail, can't deliver you future energy security. This is exacerbated by the fact that some of the national oil companies that have large supplies of oil and generate large free cash flows are not and have not for a decade reinvested enough working capital to sustain their current production. In fact, they've looted the patrimony of their oil business to fund politically expedient domestic programs. The countries I'm referring to include predominantly Mexico, Venezuela, Ecuador, Peru, Indonesia and probably Iran. Those six countries generate between 20% 25% of global export supply.
Within the next five years, I believe that group of countries will cease to be petroleum exporters. Unless and this is the wild card Iraqi production kicks up to replace that supply (something that, from a political point of view, looks doubtful now) or the Saudis, Kuwaitis and the United Arab Emirates are able to increase their supplies enough to offset these declines, we have a situation wherein 20% 25% of global export crude supply comes off the market while demand for export crude is increasing 1.5% per year. Dramatically reducing supplies in the face of steadily increasing demand can only do one thing to oil prices push them higher. And as oil prices go higher, I believe it will raise all energy pricing.
While demand for oil as motor fuel is increasing, worldwide demand for electricity is also increasing and this phenomenon is not limited solely to emerging markets. The United States and some parts of Western Europe are facing electrical energy shortages. Brownouts have become common during summertime peak demand in the U.S. So, increased demand for electricity is no longer limited to citizens of countries that you can't pronounce; it's happening right here in the good ol' USA. So, although energy, electricity, oil are nowhere near as sexy as rare earth elements (REEs), unpronounceable commodities, gold or silver, I think these prices have to go higher not just can go higher, but have to go higher.
Let's start off with alternative energy, which is sort of the alter ego of rare earths. The fundamentals in this sector are extraordinary, but the market performance has been terrible the mirror opposite of REEs. I am attracted particularly to the alternative energies that actually work and work without subsidies, meaning geothermal and run-of-river hydro.
Money will be made in wind and solar because the population demands these uneconomic sources of energy in their quest to be green. But, as we've discussed before, these forms of energy have very real problems. In the case of solar energy, the insurmountable problem is night; it relies on the sun. Wind power, on the other hand, requires constant and steady wind, which isn't something that exists in many places around the world. However, there will be money to make in both wind and solar.
Nobody ever went broke underestimating the stupidity of various governments, but the real money will be made in industries that do not require subsidies, particularly geothermal. The geothermal stocks have performed poorly for a variety of reasons. Two years ago, expectations for the stocks probably got ahead of themselves; but, more importantly, these are very capital-intensive businesses. A lot of money has to go in the front end before cash flows are developed, and it's the analysis of future cash flows that causes these stocks to go up. I suspect most of the front-end money needed to establish the validity of the sector has now been contributed, and I expect geothermal news flow will be extremely attractive over the next six months.
In the next two years, I expect the geothermal industry will continue to consolidate and rationalize. In fact, my fear in the geothermal industry is that consolidation takes over before it has a chance to mature and give us the values that we want. I see all the current geothermal juniors, at least those we follow, selling at substantial discounts to what I believe is the net present value (NPV) of their realizable cash flows. We are starting to see that by off-balance sheet deals; two geothermal juniors recently made off-balance sheet funding deals with large utilities and/or power producers that value the companies' assets at strong premiums to the net asset values (NAVs) suggested by their market caps. So, I am very, very attracted to the geothermal side.
Unfortunately, there aren't many names to play; and those of you who require momentum, immediate gratification or sort of a rationalization or justification regarding near-term share price advance will not like the geothermal sector whatsoever. Those of you who remember the success we had buying uranium stocks early in the last decade when nobody cared about them and selling into the spectacular run-up that followed might have more of a sense of humor about geothermal stocks. I think those of you who do have that patience will be very, very well rewarded, particularly juxtaposed against the risks you will take.
Rick Rule : We haven't missed the boat but, to me, being 50% up means 50% less attractive. When we talked several broadcasts ago, I thought uranium stocks and uranium prices were table-pounding cheap. They are no longer table-pounding cheap, but I think they have room to go up. Later in this discussion, we're going to talk about the energy sector generally but let me lead off by saying that, for five years I've been very, very bullish on energy all forms of energy. To me, uranium is one of the most attractive forms of energy.
One of the things that's interesting is that, although new plant construction is not progressing well in Europe and North America, it is progressing better than I had anticipated and I was bullish in East Asia. New plant construction in the People's Republic of China, South Korea, Japan and Taiwan is progressing well despite the fact that the long-term prognosis for uranium doesn't supply existing plants, let alone new plants. That sets up an interesting paradox in uranium; if you're building or financing a plant now, what you have to do to secure financing of the plant is obtain long-term contracts that give you enough uranium supply to amortize the loan out over 15, 20 or 30 years or for the duration of the term. Interestingly, that means the long-term price of uranium (i.e., contracted uranium prices) is above and sometimes substantially above the spot price; thus, uranium consumers are paying a premium over market to lock in long-term supplies. This is important because for the first time in my career, relatively small companies that make a significant uranium discovery can finance the discovery into production without selling it to a multinational mining company because these consumers large power companies and utilities are willing to assist in financing the mine in return for an offtake agreement. This is a game-changer for the uranium exploration sector.
The second thing that makes uranium particularly attractive to me is that vast amounts of money were raised in the stupidity of the uranium bull market that occurred four five years ago. As is normal, most of the money was wasted but some was spent intelligently. As a result of the 25-year bear market that existed in uranium prior to the bull market, not much exploration had been done for 25 years. Consequently, there was lots of low hanging fruit and the money that was raised has begun to find it. That means we're in a discovery cycle in uranium at the same time the long-term outlook for uranium producers is the brightest it's been in my 57-year lifetime. This is a very bullish set of circumstances looking forward just 50% less bullish than it was six months ago because the price of admission has gone up.
We are extremely attracted to the uranium business in the next five-year timeframe, though the rising tide will not float all ships. Remember that most of the 500 companies purportedly looking for uranium four years ago were run by management teams that couldn't even spell uranium. The benefit associated with the market conditions that I'm describing will be extremely constrained to a very small group of companies, probably no more than 20.
JH : Ok, so those are the sectors that have done very well in the last year or so. Let's talk about some of the sectors that haven't done as well because that's usually what you migrate toward. Alternative energy jumps out as one geothermal and hydro developers have actually done fairly well in the field from what I can tell, but not in the market. Considering the BP Plc (NYSE:BP; LSE:BP) oil spill back in spring and everyone talking about reducing our dependence on fossil fuels, you'd think this market would have gone on fire. But it hasn't happened. What's the outlook?
RR : Well, I think energy is where it's at for the next five years. I think energy prices are going to surprise people to the upside, and all forms of energy nuclear, alternative, oil and gas (O&G) and the great b te noire, coal are going to work. I think they're going to work for a couple of absolutely inescapable reasons. We've talked about this in the webcast before, but there are two billion people around the world who aspire to the lifestyle that we enjoy and that lifestyle requires energy. Unlike 20 years ago, those people can increasingly afford to compete with us for those energy supplies. That's a long way of saying that people in central India would enjoy the lifestyle you have and, increasingly, at least their children are competing with your children on a very, very direct basis; more per-capita demand for energy spread over literally billions of capitas. Not enough energy to go around, so the price is going to go up no doubt about it.
On the supply side, there are also challenges, at least challenges if you're a consumer. The thing that carries the day is oil and gas, particularly oil because it can be used as a motor fuel. Most people believe oil is produced largely by the big multinational oil companies Royal Dutch Shell Plc (NYSE:RDS.A), Exxon Mobil Corp. (NYSE:XOM), Total (NYSE:TOT), Chevron Corporation (NYSE:CVX) and Eni S.p.A. (NYSE:E). That's not true; most oil worldwide is produced by national oil companies (NOCs) companies controlled by politicians the people who can't deliver the mail, can't deliver you future energy security. This is exacerbated by the fact that some of the national oil companies that have large supplies of oil and generate large free cash flows are not and have not for a decade reinvested enough working capital to sustain their current production. In fact, they've looted the patrimony of their oil business to fund politically expedient domestic programs. The countries I'm referring to include predominantly Mexico, Venezuela, Ecuador, Peru, Indonesia and probably Iran. Those six countries generate between 20% 25% of global export supply.
Within the next five years, I believe that group of countries will cease to be petroleum exporters. Unless and this is the wild card Iraqi production kicks up to replace that supply (something that, from a political point of view, looks doubtful now) or the Saudis, Kuwaitis and the United Arab Emirates are able to increase their supplies enough to offset these declines, we have a situation wherein 20% 25% of global export crude supply comes off the market while demand for export crude is increasing 1.5% per year. Dramatically reducing supplies in the face of steadily increasing demand can only do one thing to oil prices push them higher. And as oil prices go higher, I believe it will raise all energy pricing.
While demand for oil as motor fuel is increasing, worldwide demand for electricity is also increasing and this phenomenon is not limited solely to emerging markets. The United States and some parts of Western Europe are facing electrical energy shortages. Brownouts have become common during summertime peak demand in the U.S. So, increased demand for electricity is no longer limited to citizens of countries that you can't pronounce; it's happening right here in the good ol' USA. So, although energy, electricity, oil are nowhere near as sexy as rare earth elements (REEs), unpronounceable commodities, gold or silver, I think these prices have to go higher not just can go higher, but have to go higher.
Let's start off with alternative energy, which is sort of the alter ego of rare earths. The fundamentals in this sector are extraordinary, but the market performance has been terrible the mirror opposite of REEs. I am attracted particularly to the alternative energies that actually work and work without subsidies, meaning geothermal and run-of-river hydro.
Money will be made in wind and solar because the population demands these uneconomic sources of energy in their quest to be green. But, as we've discussed before, these forms of energy have very real problems. In the case of solar energy, the insurmountable problem is night; it relies on the sun. Wind power, on the other hand, requires constant and steady wind, which isn't something that exists in many places around the world. However, there will be money to make in both wind and solar.
Nobody ever went broke underestimating the stupidity of various governments, but the real money will be made in industries that do not require subsidies, particularly geothermal. The geothermal stocks have performed poorly for a variety of reasons. Two years ago, expectations for the stocks probably got ahead of themselves; but, more importantly, these are very capital-intensive businesses. A lot of money has to go in the front end before cash flows are developed, and it's the analysis of future cash flows that causes these stocks to go up. I suspect most of the front-end money needed to establish the validity of the sector has now been contributed, and I expect geothermal news flow will be extremely attractive over the next six months.
In the next two years, I expect the geothermal industry will continue to consolidate and rationalize. In fact, my fear in the geothermal industry is that consolidation takes over before it has a chance to mature and give us the values that we want. I see all the current geothermal juniors, at least those we follow, selling at substantial discounts to what I believe is the net present value (NPV) of their realizable cash flows. We are starting to see that by off-balance sheet deals; two geothermal juniors recently made off-balance sheet funding deals with large utilities and/or power producers that value the companies' assets at strong premiums to the net asset values (NAVs) suggested by their market caps. So, I am very, very attracted to the geothermal side.
Unfortunately, there aren't many names to play; and those of you who require momentum, immediate gratification or sort of a rationalization or justification regarding near-term share price advance will not like the geothermal sector whatsoever. Those of you who remember the success we had buying uranium stocks early in the last decade when nobody cared about them and selling into the spectacular run-up that followed might have more of a sense of humor about geothermal stocks. I think those of you who do have that patience will be very, very well rewarded, particularly juxtaposed against the risks you will take.
