Cobalt Part Two

The last post put Cobalt into a general value area. Now let's look at the supply/demand. This is tricky since it depends on a forecast of electric vehicle demand. Here's my best estimate. Just remember that this is subject to wide ranges.

'000 tonnes of refined metal equivalent

	2017	2025
DEMAND
Batteries	38	117
Superalloys	35	44
Tools etc.	21	14
Others	42	48
Total	136	223
SUPPLY
Existing Mines	120	110
New Glencore/ERG		44
Other New Mine		11
New Artisanal		12
Recycling	13	22
Total	133	199
BALANCE	-3	-24

So there's about 24 K tonnes that has to be satisfied by new mines or additional recycling that have not yet been committed. I think that this can be done without a major price rise. OTOH, it's hard to see the price go down much unless there is a change in the EV outlook. If it did, the necessary new supply would evaporate.

My best guess is that Cobalt will move in a wide band for the next few years, with no major bull or bear market. We are probably near the bottom of the range.

More on Battery Metals

This is the second in a series of posts about battery metals. By battery metals I mean:
Lithium
Cobalt
Graphite
Nickel

This post will be about cobalt (Co).

The bull argument was that increased demand from electric cars and grid storage systems would raise demand for all these metals to a new plateau. There is actually some truth to the argument. Previously, all these metals were used in other applications. Cobalt and lithium are used primarily in the chemical industry, nickel in steel. The new source of demand should force producers to go out further on the cost curve.

But everything has its limits. The above narrative soon became a mania, with the usual suspects (retail, southwestern family offices) piling in. In cobalt,there is even a streaming company, Cobalt27. Nothing attracts retail like streaming.

There are a lot of counter movements.
- Technological improvement. Volkswagen plans to reduce the Co content of its EV batteries from the current 12% to 4%. Li ion batteries are a relatively new technology. There's plenty of improvement yet to be made. It's true that the basic science is known, but there are a lot of improvements that can be made incrementally.
- Recycling. Right now very few Li ion batteries get recycled. That is obviously not a long term solution. The whole point of EVs is environmental, so why create a poisonous landfill problem? This matters to the kind of person who will buy an EV and to the regulators who set the rules. I have seen estimates that 20% of Co demand will be covered by recycling by 2030.
- New mines. Right now the Democratic Republic of the Congo (DRC) is by far the world's largest supplier. I can't think of a less stable source of supply. But Co isn't that rare. New mines are being considered in Australia and the US. These are probably only marginally economic at current prices, but might be worthwhile for security reasons.

OK, enough generalizations. Let's get specific about cobalt. I'm starting with this because I feel it has the best bull case and it's investible.

When looking at any new commodity investment, I always start with long term value. Here's a graph I like to use (BTW, I keep these graphs for about 200 commodities.)

For those of you who haven't seen this type of chart before:
- The X-axis is the real price of vanadium (inflation and currency adjusted) $ /tonne.
- The Y-axis is the 10-year forward price appreciation/depreciation in inflation adjusted dollars.
Right now, the price is about $34,000. So the graph is forecasting about a 20% real price appreciation in the next ten years. That's 1.8% per year, not good enough to cover cost of carry.

But what about the argument that the new source of demand will push Co production out the cost curve? For that we have to build a supply/demand model.

Gotta run. More later today or tomorrow...

New article on Seeking Alpha

I just posted an article on Seeking Alpha, https://seekingalpha.com/article/4264315-new-chinese-tariffs-looking-numbers
I believe it's free for everybody for now.

The Bust in Battery Metals

When markets go into bubble mode, the bust is often worse than you thought possible. Often, the reason is that during the bubble, speculative stocks of the commodity get built up. In some commodities, these stocks may not be visible. They may be the result of producers accumulating inventory or work in process, or consumers accumulating inventory. When the bust comes, it may take quite awhile for these stocks to be liquidated.
This is the story in "battery metals", a group that includes lithium, cobalt, graphite and some others.
Now that we are in the down cycle, let's look at whether there is a long term opportunity here.

I am going to write a series of posts on this. At the end, I'll put it into an article that I'll publish on one of the large financial websites.

For now, here's a graph of cobalt deflated to 2019$. As usual I am using the PCE deflator. I am also adjusting the price for the value of the $US against a broad index of other currencies. You can see that the price has declined to a reasonable, but not dead cheap, level.

An Aside: How to Negotiate

I have no inside information on what is going on with the China trade deal. I only know what I read on the screen. Here's a personal story that may be relevant.

When I was younger I sold my first house. The buyer was antsy, and it was hard to come up with a price both sides could live with.  We finally did, and met to sign the deal. At the signing, the buyer came up with another demand. He told me that after relooking at the house, he wanted a discount for some issue (forgot what it was). Since he had previously had an engineer go over it, this seemed pretty fishy.
My father said that this was a typical although somewhat sleezy negotiating tactic. One side figures  the other has become psychologically invested in the deal, and will be willing to give a little more to get it done. He recommended I say no. I did. A couple of days later we signed the deal. I gave him a very small discount (I think about 0.1%) to sooth his ego. In return part of his down payment was made non-refundable, to sooth mine. The deal went through smoothly.

Sound familiar?

China deal off? What comes next.

Well. I guess I was wrong. I had thought the US-China trade deal was going to happen. It was always in the interest of the US, and I thought it was likely in China's interest as well. But I suppose asking China to change what had been a successful economic strategy for 40 years is asking too much.
There's of course still a chance that a deal can be reached. But if not, here's what I see will happen...

- Over the short term, the increased tariffs will largely be paid by the Chinese private sector. These factories really have no where else to sell their output, so their prices will go down. Some of it will be paid by US consumers, but not much. US companies (and other multinationals) that have established worldwide supply chains in China will suffer, as these factories are now stranded assets. There is a lot of this, so it is negative for the stock prices of these companies and thus the market as a whole.

- Longer term, supply chains will be relocated to other emerging Asia. So it's actually bullish for some assets in these countries, like real estate. Banks in places like Indonesia, Vietnam etc. would also benefit. I want to stress that this is longer term stuff. Shorter term, assets in EM will suffer, with the risk of a blowup in highly stressed ones like Turkey or Argentina.

- The next trade domino will be the EU. Since that area is already in secular stagnation, this could have serious consequences. A lot of the EU stock market is auto-based, and this would be the main target. If the Germans allow a fiscal stimulus, this could be managed. Don't bet on it.

The most important trading advice I can give is not to trade on stuff you don't have a strong view about. I felt that the deal was going to go through, but I knew I didn't have any insight that the market didn't already know. So I did not trade it. If I had shorted bonds, like I was thinking about a few posts ago https://thecommoditystrategist.blogspot.com/2019/04/long-time-no-post.html, I would already be out of pocket.

More on Tesla Bonds

Here's a link to a good article on TSLA bonds: https://seekingalpha.com/article/4244261-tesla-netflix-bonds-likely-smarter-bet-shares This will be a paywall for some of you. The article is about the capital structure of high yield companies: basically junk bonds do better than junk equity. I believe that this is widely studied and agreed with by academics.

The latest TSLA refinancing round went well, but I do not believe that is the end. Tesla has two problems:
1. Subsidies for electric cars have/are ending in several important markets.
2. Tesla's European competitors are launching similar products. They are doing this without a need for profitability. Germany is much like China. If the elite want something done, it gets done without regard to economics. Look at what happened to their electricity prices after they decided to invest in wind. This is bad for Mercedes/BMW/VW stockholders, but they don't count for much.

So the bonds are risky. I still believe that Tesla has technology worth the value of the bonds. The 8/25 bonds have rallied a point or so. I took a small position, and am going to watch for a place to add more.

US Agriculture

The US ag markets will probably get a big kick up when (if?) a US - China deal is struck. How much depends on the type of deal. If it looks like a realistic deal that both sides can enforce, it will be major, not just for the ags but for all risk markets. OTOH, if it looks like something where the Chinese are biding for time until a Democrat takes office, not so much. I think it will be bullish.

Longer-term tho, US agriculture will have problems. Here's my list...

- The US is no longer the low cost producer. US farming methods are now widely disbursed, and labor and land costs are lower in much of the world.
- The bull case for ags was always that developing countries will transition to a high-protein, high-fat diet like the US. I am beginning to think this will not happen. The US diet is basically a northern European diet. That was OK when people lives were pretty much farming and warfare. No one should eat that kind of diet now, but at least the northern Europeans have genetic association with it. It's especially bad for everyone else. The diabetes rate in China is higher than in the US. So I do not think that the animal-intensive diet will go worldwide.
- Climate change!!!!! I have explicitly avoided mentioning the CC phrase in this blog. I'm averse to conflict, LOL. But here it matters. The increase in CO2 is contributing to a "greening" of the planet which is increasing ag yields worldwide. Maybe good for humanity, but bad for the markets.
Here's NASA's take: https://www.nasa.gov/feature/goddard/2016/carbon-dioxide-fertilization-greening-earth
How to play this. This is not a commodity market story. The real play will be in farmland. There are several farmland REITs that I am looking to short, the most obvious being FPI. But we have to wait till the China story resolves.