- Interim Update 9th December 2020

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TSI Holiday Season Schedule

We will be taking a 1-week break prior to Christmas. As a result, we will be skipping two of our regular reports.

The Weekly Update will be posted as usual on Sunday 13th December, but there won't be an Interim Update next week and there won't be a Weekly Update on Sunday 20th December. Other than that, we expect to maintain our normal publishing schedule over the holiday period, although the Weekly Updates on 27th December and 3rd January probably will be briefer than usual.

As always, if something major happens in the markets during our break we will send an email alert to subscribers with our thoughts and suggested actions.

Commodities

First and foremost, commodities are a currency story

When we wrote that platinum was a clear-cut buy after it had plunged below US$600/ounce in March and reiterated our bullish view multiple times over the ensuing few weeks, we received emails from subscribers asking how we could be bullish on platinum when physical demand for the metal was low and falling. And in response to our bullish outlook for copper, we received emails from subscribers over the past several months asking how the copper price could rise given the dismal economic backdrop. The main part of our answer then and now is that the prices of most commodities rise when the US$ is in a major downward trend. It's as simple as that.

For each different commodity that rises a lot in price, analysts will come up with market-specific supply-demand reasons to explain the price rise. However, there are periods when most commodity markets 'mysteriously' end up having bullish supply-demand fundamentals at the same time, even though in many cases the markets have very different supply and demand profiles. Such periods invariably coincide with US$ weakness.

When the US$ is in a major weakening trend, the US$-denominated prices of most commodities will be in rising trends most of the time. Furthermore, during such periods the amount by which most commodities rise in price will greatly exceed the amount by which the US$ weakens relative to other fiat currencies, the reason being that US$ weakness prompts pro-inflation (currency-weakening) policies around the world.

The crux of the matter is that commodity bull markets primarily are about the depreciation of money, not the increasing usage of commodities.

Dead commodities, lively commodity-related equities

Some commodity-related equities have been bid-up aggressively despite the absence of any upward price movement in the related commodities. In other words, in some cases equity speculators aren't waiting for commodity prices to start rising before loading up on the associated commodity producers.

The best example is lithium. The lithium-mining sector of the stock market has been rallying -- with a 2-month interruption due to the 'coronacrisis' -- for about 12 months while lithium prices have remained in long-term bearish trends. The stock market obviously is expecting that a major upward trend in the commodity price will begin during 2021. We think the stock market will be proven right, but it's unusual for a rally in commodity-related equities to persist for so long without support from the underlying commodity.

The uranium sector is beginning to follow in the lithium sector's footsteps. The uranium price has drifted downward over the past six months (see chart below), but uranium mining stocks recently have rocketed upward to new highs for the year.



We have been bullish on uranium-mining stocks, partly because the proliferation of Electric Vehicles (EVs) will substantially increase the demand for electricity and thus increase the demand for nuclear fuel. In other words, there's a link between the expected future demand increase for lithium and the expected future demand increase for uranium. That being said, the recent surge in the prices of uranium stocks is mostly about traders jumping into the commodity-related speculations that hadn't moved by much yet.

In a general commodity bull market, which, as discussed above, will have US$ depreciation as its primary driver, any bullish commodity story with a hint of plausibility can provide the justification for a large price rise.

Lithium Speculations

As noted above, the stocks of lithium miners are in major upward trends due to ANTICIPATION of a major upward reversal in the price of the underlying commodity. We have been enthusiastic participants in this speculation because we agree that increasing demand for lithium associated with the proliferation of EVs will result in both a much higher lithium price and aggressive M&A activity in the lithium space.

At some point, of course, the bullish trends in the lithium-mining sector will have to be confirmed by a higher lithium price, otherwise the bullish trends will end and stock prices will tank. That's a risk, but it's a risk with a low probability. It's more likely that during the first half of 2021 the prices of lithium hydroxide and lithium carbonate will commence upward trends, leading to acceleration of the bullish trends underway in the associated mining stocks.

For the bulk of the past 12 months Galaxy Resources (GXY.AX), a mid-tier lithium producer with operations in Western Australia and Argentina, was the primary focus of our lithium speculating. However, we also highlighted European Metals Holdings (EMH.AX), the owner of a 49% stake in a large undeveloped hard-rock lithium deposit in the Czech Republic, when it was trading at A$0.30 in August. EMH is a member of the TSI Small Stocks Watch List (SSWL).

Due to country risk (Argentina) and valuation concerns, we recently removed GXY from the TSI Stocks List for a gain of around 100%. EMH remains in the SSWL and probably offers the best value in the lithium-mining sector despite the large gain in its price over the past few months, but at this stage it's a fairly illiquid stock and therefore not ideally suited to be our primary focus.

Which brings us to the main point of this discussion: As forewarned in the email sent to subscribers on Wednesday 9th December, we have added Piedmont Lithium (NASDAQ: PLL, ASX: PLL) to the TSI List. This company trades in both the US (NASDAQ) and Australia under the symbol PLL. Currently its primary listing is in Australia, but the company announced on Wednesday of this week that it plans to become a US-domiciled company early next year. This move makes sense given that its flagship project is located in the US and the US currently is the best place for such companies to raise money.

Note that each US-traded PLL share is equivalent to 100 of the Australia-traded shares. Also note that following the shift to the US the shares will continue to trade on the ASX in addition to the NASDAQ.

PLL is developing the Piedmont Lithium Project (PLP) in North Carolina. The project is at least two years away from production, but the goal is for it to be an integrated operation comprising a mine/concentrator producing 6% spodumene concentrate (SC6) and a chemical plant that transforms the SC6 into battery-grade lithium hydroxide (LiOH). The construction cost is estimated to be US$168M for the mine and US$377M for the chemical plant.

Assuming a long-term LiOH price of US$12,910/t, the project is estimated to have an after-tax NPV(8%) of US$1.1B and an after-tax IRR of 26%. The current LiOH price is only US$9,000/t, but we expect that US$12,900/t will be achieved within 18 months and that 5 years from now the price will be much higher. Therefore, we have no problem using $12.9K/t in our valuation.

The total US share count is 13.85M (equivalent to 1,385M ASX-traded shares). This means that the company has a market cap of US$360M at US$26.00/share (the stock ended Wednesday's US session at US$25.94). The company has net cash of about US$70M, so the current enterprise value is around US$290M.

Applying a 50% risk discount to the NPV mentioned above gives us a back-of-the-envelope valuation (the only type of valuation that can be done at this stage) of US$550M. This suggests valuation-related upside potential of around 90%, but we think that the 1-2 year upside potential is greater than that due to the combination of increasing lithium-related speculation and an increasing lithium price.

With reference to the following chart, the moon-shot in the stock price in late-October was a reaction to news that PLL had signed an offtake agreement with Tesla covering about one-third of its SC6 production over the first 5 years of operation. The market reaction to this news was ridiculous because the news didn't change the company's value. That being said, the fact that its production will be US-based gives PLL a significant advantage over want-to-be lithium miners in Australia.

The PLL stock price has pulled back sharply since the Tesla-inspired surge and could drop further in the short-term. Specifically, we won't be surprised if the stock trades as low as US$20 within the next couple of months. However, there's no guarantee that the price will drop to a significantly lower level before resuming its major upward trend.

It's important to manage upside risk as well as downside risk, so for anyone interested in adding exposure to lithium it would make sense to start averaging in now.

Further to the above, the NASDAQ-traded PLL has been added to the TSI List as a long-term position.



The Stock Market

The 1980 Model warns of a sizable December correction, but currently the market is following the seasonal pattern. The seasonal pattern can be described as follows: When the market is strong and making new highs in early-December the rally tends to persist, with only minor pullbacks along the way, until at least mid-January.

Some sort of corrective move could begin at any time, but at the moment there are no signs of trouble. There are signs of risk, such as the optimistic extremes indicated by some measures of sentiment, but no signs that an end to the rally is imminent.

Here are some of the charts on which we are focussed.

The first chart shows that the Dow Transportation Average (TRAN) made a new all-time high on Wednesday 9th December. TRAN tends to lead the market to the downside, so its continuing strength is a short-term plus.



The second shows that the NASDAQ100 Index (NDX) was down by more than 2% on Wednesday 9th December after making a new all-time high the day before. This COULD be the start of a significant correction, but at this stage the odds favour a minor reaction.



The third and fourth charts show Schlumberger (SLB), a proxy for the oil services sector, and the Bank Index (BKX). These charts represent the 'cyclical' plays that have been relative-strength leaders over the past two months and should continue to be relative-strength leaders over the bulk of the next six months if our expectations regarding fiscal and monetary policies are close to the mark.

SLB and BKX made new 9-month highs on Wednesday 9th December. They both are short-term 'overbought', but probably will become more stretched to the upside if there's an agreement regarding a stimulus bill in the near future.

The concluding paragraph from the Stock Market discussion in the latest Weekly Update remains applicable. Here it is again:

"We don't know whether there will be a shakeout within the next three weeks as per the 1980 comparison or a continuing rise until at least mid-January as per the seasonal pattern. The first scenario would create buying opportunities near the end of this year while the second scenario would cause us to become very defensive during January."

Gold and the Dollar

Gold

The price action in the gold market over the first three days of this week didn't answer any questions. The rebound extended beyond the US$1850 lateral demarcation level to the 50-day MA, at which point there was a reversal to the downside that has left the US$ gold price roughly unchanged since the end of last week.

We don't know whether or not gold made a sustainable price low in late-November, but there is no evidence that it did. Therefore, the door remains open to a final plunge.

A plunge that tests or breaches the late-November low within the next couple of weeks would create a good set-up for at least a 1-2 month rally.



Silver

The significant industrial component of its demand has enabled silver to hold up better than gold over the past two months. Silver's resilience is evidenced by the fact that whereas gold broke below support defined by its September low, silver did not.

Like gold, however, silver is at risk of experiencing a final plunge prior to a sustainable low. As previously advised, we think there's near-term downside risk to around US$19.



Gold Stocks

The HUI extended the rebound from its 27th November low on Monday of this week and then pulled back over the next two days. This price action didn't provide us with any significant new information.

It remains possible that the HUI set a sustainable low on 27th November, but it's also possible that the rebound from the 27th November low is a countertrend reaction to be followed by a plunge to the final low. The probability scales currently are tipped in favour of the latter, but this will change if the HUI closes above its 7th December high (307.5).

Either way, we think that a multi-month low will be in place before the end of this month. It's just a matter of whether the low was set in late-November or will be set via a plunge within the next couple of weeks. The low should be followed by at least a 1-2 month rally and could be followed by a 3-6 month rally.

We reiterate, however, that the gold mining sector should not be the main focus of new buying, because the stage is set for the strength exhibited by industrial metals relative to gold over the past several months to continue during the first half of 2021.



The Currency Market

The Dollar Index (DX) stabilised over the first three days of this week, meaning that it stopped going down.

It looks like we are getting a minor 4-8 day reaction within a short-term downward trend. If so, the DX probably won't do any more than test its 20-day MA (91.9 and falling) before resuming its decline.

Note that there is long-term support at 88.0 that probably will act as a floor if it is tested within the coming few weeks.



Updates on Stock Selections

Notes: To review the complete list of current TSI stock selections, logon at http://www.speculative-investor.com/new/market_logon.asp and then click on "Stock Selections" in the menu. When at the Stock Selections page, click on a stock's symbol to bring-up an archive of our comments on the stock in question.

Largo Resources (LGO.V), a vanadium producer, was added to the TSI List as a trading position in the 16th November 2020 Weekly Update.

At the time the stock was added we pointed out that the vanadium (V2O5) price was languishing near a multi-year low and that there were no signs of strength in the market. However, we also wrote: "...if the general bullish trend in commodity prices continues during the first half of next year as we expect, then the LGO stock price could double from here even if the V2O5 stays near its multi-year low."

Since then the vanadium price has not budged from its low, but the LGO stock price has gained 45%.

At the end of last week it looked like the stock was getting ready to complete a 12-month base by breaking above resistance at C$1.20-$1.25, which is why we identified it as a good candidate for new buying in the C$1.10-$1.15 range. The breakout happened on Tuesday of this week on the back of a news catalyst.



The news that catalysed the breakout was LGO's announced acquisition of VRFB (Vanadium Redox Flow Battery) technology that previously was owned by VionX Energy, a company that spent more than US$150M developing the technology before going bust. LGO has formed a new company called Largo Clean Energy with the goal of commercialising the VRFB technology and establishing a vertically-integrated business (from the mine to the final product).

This deal has a high reward/risk ratio for LGO because it paid only US$3.8M to VionX's creditors for the patented technology.

The deal probably won't have a significant effect on LGO's revenue or profit over the next two years, but it should be good for stock promotion purposes. In addition to being a profitable miner, the company can now promote itself as a clean energy play.

Chart Sources

Charts appearing in today's commentary are courtesy of:

https://stockcharts.com/
https://tradingeconomics.com/