EV metals: Will you strike it rich or burn your fingers?

Whether you believe the antics of Elon Musk add to, or detract from, the investment appeal of the electric vehicle space, it’s hard to argue with the science that underpins skyrocketing demand for cars from the likes of Tesla, Nio, Nikola, Fisker and some of the more obscure (but still large) manufacturers.

As COP26 kicks off in Glasgow, the scale of attention the global climate conference has garnered already is (here’s that word again) unprecedented. And even if you’re not interested in climate science, there’s money to be made in the metals that make up the specialised batteries and other components of EVs. Or is there?

The demand cycle has been spinning up for a long while already, but in this article – the first of a three-part series – we ask a few fundies why they are – or are not – enthusiastic about EV metals.

In the following wire, I interview:

• Rick Squire, portfolio manager, Acorn Capital
• James Stewart, natural resources portfolio manager, Ausbil Investment Management
• Kingsley Jones, chief investment officer, Jevons Global.

Each attuned to the complexities, their views vary on the appeal of the (arguably) toppy sector. They discussed the different materials that make up the EV thematic, the metals' varying dynamics, and give insights on whether you’re more likely to strike it rich or burn your fingers.

3 reasons EV metals are booming

Rick Squire, portfolio manager, Acorn Capital

These metals are facilitating the global transition to a low-carbon economy, which we only see continuing to gain pace in the coming years. There will be some bumps along the journey, it's never a linear rise, but demand is very strong and that is being driven by financial institutions.

There's a lot of pressure from investors to speed up that transition. For example, BlackRock’s Larry Fink has made the point that climate risk is an investment risk and that companies must speed up this transition.

On the other side, which is government, the Biden administration, for example, is really taking this opportunity to dig themselves out of the COVID lockdowns, the transition forming a core of the national rebuild.

There’s also an enormous social base of people starting to recognise there is a need to speed up this transition.

There's enormous momentum coming from three different quarters, which are pushing it all along. The only way for that to occur is to provide the resources that are going to facilitate that change, and they aren't available today, so they have to come from somewhere. That's where the demand will come from.

So, we remain positive across all those metals in a broad sense. Now, they might all rise equally. Some will outpace each other themselves and then some will be laggards, but that's where the opportunity lies for investors, who must recognise that there’s a changing mix and jump on the right metals at the right times.

“We believe market estimates are too low”

James Stewart, natural resources portfolio manager, Ausbil Investment Management

Currently across lithium and graphite markets, supply is tight, and commodity prices are trending up as demand accelerates.

There’s very limited excess supply capacity available to come online in the lithium market, with existing projects generally already running at capacity, and mothballed projects already restarting. Because of this, we expect lithium prices to remain elevated for some time until we see a supply response, which is likely to take some time.

In the long term, lithium prices are likely to fall when a supply response comes through, but we believe this is at least 18 months away. Right now, we believe market estimates are too low.

So, we expect to see earnings upgrades for lithium companies, which is likely to see producers share prices continue to trend upwards.

Explorers and developers, in the meantime, are in the midst of an mergers and acquisitions  phase, where developers are being aggressively pursued by acquirers. Although M&A is yet to hit the Australian names, globally listed developers Bacanora (AIM: BCN), Millennial Lithium (TSX-V: ML) and Neo Lithium (TSX-V: NLC) are all under takeover by larger producers.

The graphite market is complicated, with the market segregated into natural graphite and synthetic graphite.

Currently, we are seeing production disruptions and cost increases in synthetic graphite, driven by power shortages in China, and input cost increases.

The only existing natural graphite producer of scale is Syrah Resources (ASX: SYR), which has recommenced production, but logistics chains are limiting access to the market, which is seeing further support for pricing. Again, we believe value can be found, with pricing likely to surprise street expectations.

Cobalt and nickel are harder markets to analyse in the short term, with very few significant cobalt producers of scale. Nickel demand is dominated by stainless steel production in the short term.

“Be careful you’re not paying too much”

Kingsley Jones, chief investment officer, Jevons Global

Because these metals have varying degrees of development around different mines, and because the individual metals are at different stages in the cycle, there’s always value to be found in EV metals. But we’re in a period where there’s been heavy investor interest, especially in lithium and copper, especially the former.

We see more value in copper and copper-gold because both metals are near all-time highs – but not after a recent period of moving up very quickly.

In contrast, lithium isn’t nearly as scarce as copper and would be easier for more production to come online – whether it’s a brine project or a hard-rock mine.

Lithium prices are still very firm, particularly the Chinese price, and there’s huge interest following Tesla and its milestone 100,000 unit order from Hertz recently.

We wouldn’t be sellers of the stocks at this stage, but we’d be pretty cautious at where we look to add money to new positions. But right now, our major position would be whatever lithium is hiding in Mineral Resources (ASX: MIN), which is a much bigger story in iron ore. We also own some Galan Lithium (ASX: GLN), which is an up-and-coming prospect.

In the past, we’ve had big positions in SQM (NYSE: SQM) and also Albemarle (NYSE: ALB), but I think they’re both a bit toppy now, they’re well into the 40 times and 50 times earnings multiples, along with significant revenue multiples.

In lithium, you need to be careful you’re not paying too much for them, because they’re still mining operations. While it’s a growth commodity, whatever you’re buying must have sufficient runway on properties they control, which they can develop. It’s all about the land. I don’t think they’re going to collapse any time soon, but they’re a bit rich.

It’s horses for courses. Maybe this time last year, buying anything with lithium on the way was the thing to do. But we’re probably beyond that now.

In nickel-cobalt, changes in the political environment will be a recurring theme. In places like the Philippines and Indonesia, which are big sources of nickel and have a big effect on prices, there can be changes in terms of how much value-add processing they want to do onshore before they ship. This is becoming a big deal in nickel.

Both nickel and cobalt are pretty scarce, which makes them attractive, but we have to be mindful of where it’s coming from and how sensitive it is to things like the economics of processing. One company is Norilsk (LSE: MNOD), a big nickel, copper and platinum miner. It’s a fantastic deposit but comes with baggage. For one thing, it’s in Russia, which has a history of poor environmental standards and pollution. It’s a really challenging area in the scarcity sense. 

The wrap-up

As is so often the case, it might seem the investing herd has already been at the lithium watering hole, leaving little more than a churned up mess. Lithium stocks may be priced for perfection or entirely overvalued by now. But, admittedly, high lithium prices - at around US$190,000 a tonne, it's up 40% in 2021 - might have still further to go. And whether you're willing to invest in some of the opportunities around the world might rely as much on the political risk you're willing to accept as the business fundamentals.

Stay up to date with this series

Make sure you "FOLLOW" my profile to be notified of the upcoming entries of this series. In part two, our respondents weigh some of the risks. And in part three, they will each reveal some favourite stocks for playing the EV materials theme.