A long term view creates opportunities for commodity investors: Interview with Mike Alkin part 2

Yesterday you received Part 1 of my interview. In this part you’ll learn more about Mike Alkin’s views on geopolitics in the uranium market, that some uranium mines also produce a valuable by-product and finally Mike’s view on future careers in finance.

How should investors think about the risk of resource nationalism affecting their investments, particularly in places like West Africa?

In the world of uranium there is so much geopolitical risk and opportunity. If I just step back and look at the US, the US is an example of a country that has been asleep at the switch in terms of their nuclear program. Around 20% of the lightbulbs in America are powered by nuclear power but here’s a country that has allowed itself to go from being self-sufficient in uranium in the 1980’s to today where 95% of its uranium needs are imported. Who do they import it from? They import about 40% from the Russians, the Kazakhs and the Uzbeks. Countries that don’t necessarily have America’s best interests at heart.

I look at that and I say my goodness there are a handful of US miners and their market caps are too small to notice. But is there anything political that’s taking place under foot? I find it absolutely stunning that a nuclear super power and the leader of a nuclear power doesn’t have a nuclear fuel cycle. There’s been a lot in the press recently about Trump not liking the enrichment program that Iran has which says that you can only use low enriched uranium for nuclear power. At least the Iranians have the ability to enrich uranium. The US doesn’t.

So if I look at the enrichment cycle, uranium comes out of the ground and it gets crushed into yellow cake, and then it gets put into a barrel to be turned into a liquid gas called US6. It then gets sent to an enricher where it gets enriched so it can either be used for nuclear power or as a nuclear weapon. It gets fabricated into pellets and then gets sold to the utility.

When you look at the US nuclear fuel cycle the mining industry is on its knees. They can’t make money, many of them have shutdown. We own none of our own enrichment and the only thing that matters to that process is enriching it as coming out of the ground uranium can’t power anything, it has to be enriched. The US does not own any new nuclear technology. They are completely dependent on outside enrichers of which there’s the Russians of which control over half of that. So they are really at the mercy of others when it comes to energy security in terms of nuclear power but also energy security when it comes to nuclear weaponry. They do have stockpiles but for some of the important elements of those stockpiles they have to depend on others and they only have a limited life of it. So that’s a geopolitical risk to the US and I like to say their playing chess with the Russians and in the game of nuclear power and nuclear weaponry that’s a game I would rather not be playing against them.

Then you start to look elsewhere and as your thinking about uranium there’s three ways to look at it; there are exploration companies, there’s near term producers and then producers. There are only a couple of producers, the rest are on care and standby ready for prices to go back up or many are in the exploration stage. And then geographically there’s not a lot of choice for investors either. There’s a handful of US ones, there’s those in that Athabasca Basin, there’s mines in Australia and then you go over to Africa.

There are those that say you don’t want to own anything in the AK-47 countries where there’s bad guys right, and there’s some validity to that. However, Africa is a big continent; Africa is comprised of many countries, different rulers with democracies and autocracies. I think you have to look at each case in particular.

When you look at the uranium mining landscape there’s Namibia, which if you look on the world terrorism list its very low and its relatively safe. There’s lots of uranium production that takes place there and has done for years. And then you move to West Africa, it’s a tough neighbourhood, you have Mail and Niger, your dealing with Boko Haram and other terrorist factions.

If you take Niger, it produces uranium that powers one out of three light bulbs in France, its a former French colony. In Niger you do have those terrorist groups but it’s also the size of Texas, a huge landmass. Uranium accounts for a big proportion of their exports and so it’s an important revenue source for the country and so you have help from the Niger government.  The French, because they’re so dependent on nuclear power have two big uranium mines there and so they keep French military presence there. The US has been beefing up its military presence in the region also for many reasons.

So to say that broad brush West Africa is bad and full of terrorism, it’s really not that simple. You have to drill down further, what are the economic impact of uranium for that country, therefore how motivated is that country to provide military support, what other countries are depending on it and are they willing to provide military support? I don’t like the broad brush AK-47 rule that some people come out with. And actually that produces some stunning risk-reward for some people.

And then when you look down to Australia, it is the country with the biggest uranium reserves in the world. Kazakhstan is the largest producer, but Australia has the biggest reserves by a country mile. You can’t get it out of the ground though in some parts of the country for political reasons as there is lots of government resistance in parts of the country.

There’s value all over, you just have to know what you’re looking for.

What is your view on the future balance between renewables and nuclear power?

Its very easy to say when the wind doesn’t blow and the sun doesn’t shine, that’s when you need nuclear. As you get to grid scale storage they can store this electricity, and that day is coming when it won’t be cost prohibitive. Nuclear Power, because of the carbon free nature, because of the always on power there is no question.

When Westinghouse or Areva build a reactor its way over budget and over deadline, but when the Russians or Chinese build them they are on budget and on time. So you can build those where they are cost competitive. The Chinese are building their renewable capacity, just as they are nuclear.

So I think people get caught up in the debate between renewables versus nuclear where instead they should take a step back and ask is there a place for all of these to grow? Yes, and then it comes down to supply and demand for this particular commodity so those who get engrossed in the debate between renewables versus solar are not seeing the forest for the trees. For as far as the eye can see nuclear is not going anywhere. Those nuclear plants need uranium, but there’s not enough of it at anywhere near these low prices.

Another thing I think people overlook is that for grid scale storage adoption to take hold you really need better storage. One of the big technologies is vanadium batteries and they have been shown to have a number of advantages. And it just so happens that vanadium is a by-product of uranium. You’ve seen the price of vanadium go up from a couple of dollars to 12-13 dollars per lb, and while that’s also because the Chinese have introduced environmental restrictions on the manufacture of steel (vanadium is used to strengthen steel) the next level is grid scale electricity storage adoption and that’s where vanadium comes into mix.

There’s very few pure vanadium plays out there and the next level down you get the uranium miners and for those miners that have the commodity as a by-product that helps to drive your cost of production down. So for those investors that have the time and inclination to drill down further and understand uranium and then think who has vanadium and is it economical to mine, they are often surprised at what value they are getting in those deposits.

Is vanadium a by-product of all uranium mines?

No, only certain ones so you have to go line by line and look at them. But it can have stunning implications for the economics of the uranium mine especially as the cost of vanadium keeps going up that keeps driving down the cost of producing uranium. The revenue that you get from selling the vanadium drives down your cash cost of producing uranium.

What was your biggest mistake in the markets and what timeless lesson did you learn from it?

That’s a great question. I’ve made a lot of mistakes in my investing career. It depends on how you size them, and I think this is important for individual investors. I’ve had some long positions that have gone to zero but I’ve sized them appropriately where I’ve thought that if I’m right my return could be 100 X but there’s a good chance that I’m wrong and if I’m wrong how much am I willing to lose? And that’s pure speculation and sometimes you will be wrong. When you make mistakes, if you’ve sized them appropriately and you understand what your risks are then so be it.

The biggest lessons I’ve learnt on the short side are, and thankfully I learnt this very early on in my career when I worked for a legendary hedge fund manager, a guy by the name of Joe Dimenna. I was very fortunate to have great exposure to him early on and to learn from him. I learned early on that I can’t be the arbiter of value; I can’t decide what somebody is willing to pay for a stock. So when you are shorting something you are betting against something and it’s trading at a valuation that makes no sense. It’s arrogant of me to even think that because without any decline in the market fundamentals people might not continue to pay higher and higher prices. What’s the saying?, “The market can stay irrational longer than you can stay solvent.”

I think early on in my career I would look at valuation and that would help guide my investment decisions, whereas now valuation is secondary. If I see the fundamentals improving, either long or short I have to see that first before I get around to what the valuation should be.

The other thing is that trends can go on longer than you can imagine. You can be early but if you don’t identify a catalyst, or a handful of catalysts you are sitting on dead money for a long time. As I said if you are ok with that that’s fine, but if you are managing professional money you’ve got to be more aware of time.

Another thing is trusting management teams. Probably early in my career I learnt not to believe what management teams tell you. It’s not that they are bad guys, there are many nice people there but you don’t get to the level of CEO or CFO without being a fabulous salesman. They are very good at telling their story; they are not in the business of talking down their stock. It’s what a Russian writer said to Ronald Reagan – trust but verify.

I’ve also made mistakes when you think you know something, when you think the thesis is so easy and repeatable and you start to sound like a broken record. I test myself on my uranium thesis all the time. When I talk to hedge fund guys about it they come at me with all these arguments as to why its not going to work. I can’t tell you how superficial their arguments are as they have just spent an hour on it. Nothing gives me more comfort because I know as soon as it turns they’re going to be rushing to get in.

One final question. If you were going to give some career advice to a forward thinking kid looking several years into the future what would it be?

In terms of finance I think the glory days of the hedge fund industry are behind us. There was a period between the late 1980’s and the early 2000’s when the hedge fund industry was a place where you make lots of money for yourself and your investors. But for all of those reasons I mentioned earlier, like the institutionalisation of hedge funds it’s made it very difficult with both hedge funds and mutual funds under-performing. And that causes fee compression and people lose their jobs. So I personally don’t steer people into being a hedge fund analyst or manager. The financial markets are a tough place to make a living going forward. Many of the jobs are being disintermediated by electronic trading. So these jobs are fleeting.

Study maths, study science, become an engineer. That would be my advice.

A great answer. Where can people follow you and find out more about what you’re doing?

The best place for people to get in touch is on Twitter @FootnotesFirst. I’ve also recently started doing a weekly podcast called The Mike Alkin Show: Talking Stocks Over a Beer.

Thanks for your time today Mike, I really enjoyed our conversation.


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