The first half of 2019 is in the rear view mirror. Most lithium investors I speak with seem on the verge of despondency rather than taking the current period of negative sentiment to add to their portfolios at attractive valuations. The question I get asked most often is “when is price going up?” My normal response is: what do you think price is? The answer can vary widely.
Many believe whatever they see about price on Twitter or in a recent email from Platts or other reporting services that have said recently that the “North Asia Price” has dropped to almost $10,000/MT. Some believe that the Morgan Stanley “apocalypse” pricing of under $7,300/MT will soon be a reality and others accept what I believe: that SQM’s quarterly average price (~$14,600 in Q1) is currently the best overall indicator of both global average pricing and the current price trend when plotted vs prior quarters.
Of course, the price dialog is connected to the fears of lithium chemical oversupply which logically speaking would drive lower pricing. We have entered at least a short term oversupply of spodumene concentrate but it should also be pointed out there was never a real shortage in the first place just well executed oligopolistic behavior by the two owners of Talison in 2015 which caused the lithium chemicals price panic late that year which continued throughout 2016.
I will make at least one purchasing executive of a major cathode producer happy by saying that I also believe low quality lithium carbonate (think Qinghai Province China, Orocobre and the low end of China converter supply) is currently in oversupply. The to be unnamed exec told me at a breakfast in Santiago during the recent lithium conference that he wanted to hear me say “oversupply” at some point. Well, at least he can read it here but it won’t help him because I will also say battery quality lithium chemicals are at best in balance and will go to shortage again within 24 months.
The key point is that when you look at lithium demand growing from 270K MT in 2018 to roughly 1,000K MT in 2025 and well over 90% of that growth being battery related, you can see that temporary oversupply of precursors and lithium chemicals unsuitable for battery use are mere distractions to the central theme that in the future only battery quality supply (and price) really matters.
Lithium sentiment is often fueled by bad assumptions, emotion and greed on the part of investors. That certainly was the case in 2015-2016 when some (wrongly) predicted an “endless summer” in the lithium market. Stock valuations of non-producing assets rose to ridiculous levels leaving many investors well positioned for disappointment which they are now living through.
Before I continue with my thoughts about price, I should make it clear that even if price went to $8,000/MT for battery grade lithium carbonate, the “Big 4” lithium companies and the “best of the rest” would do just fine from a financial return perspective. In the next five years we could have another shortage scenario where price exceeds $20,000/MT but that too will be short term panic pricing. Over the next few years, global average pricing above $11,000 for battery quality material will enable the best producers to make great margins but will also incentivize higher cost players to stay in the game and expand. You are unlikely to see another two-year stretch where five new WA hard rock mines enter production any time soon. SQM and ALB have recently pushed back Atacama expansion dates, Sal de Vida isn’t financed or advancing significantly and conversion capacity in China is well below what many believe. All the hard rock and brine that can reasonably be expected to come to market by 2025 will have adequate demand to absorb it.
On episode 45 of the #GlobalLithiumPodcast you can hear Jon Evans, formerly the top executive of FMC Lithium and now the CEO of Lithium Americas state that he is not worried about the price of lithium carbonate. Even an unanticipated drop to $8,000/MT would not be of concern. He remembers very well when prices were below $5,000/MT. From Jon’s perspective LAC’s Cauchari and Thacker Pass projects will have a position on the cost curve where even $8,000/MT would yield significant margins. I don’t believe we are headed for $8,000/MT battery quality pricing over the next several years but the point is the majors and the best juniors are fine even if my pricing belief proves incorrect.
One more time: all the worry over lithium pricing is misplaced. The “Big 4” and top juniors are fine even if my “new normal” price estimate of $12,000-$14,000/MT proves high. What investors need to be concerned about is if the companies they own shares in will produce a vast majority of battery quality product. Battery related demand is over 60% of total demand now and heading for 85% by 2025. SQM clearly was indicating on their last quarterly call that they need to reevaluate their expansion with a focus on upgrading their overall quality.
In the past, the major lithium companies had an industrial (lower quality) market that could absorb their lesser quality product. In the future, with juniors ramping up the industrial market will be at times grossly oversupplied further bifurcating lithium prices. Battery Quality material will finally get the premium that juniors have always talked about.
Outside of China a true premium for battery grade carbonate has never really existed.
An increasing supply of low grade material will either need be sent to a reprocessor for upgrading or will sell at the marginal cost of the high cost producer. Industrial grade lithium will be a commodity but for the foreseeable future battery quality will remain a specialty chemical with increasingly tougher specifications. Look at the difference in how Orocobre’s price for their mostly low quality product has fallen vs the much lower percentage decline in SQM’s pricing. Bottom line: quality matters now and will matter more in the future.
Another trend will be the emergence of multiple levels of “battery quality”. Perhaps Iggy Tan the former CEO of Galaxy was on the right track when he attempted to create “EV Grade” almost a decade ago but I saved my favorite part of the price discussion for last – the disappearing hydroxide price premium.
In 2019 there is still a modest premium for lithium hydroxide but in the case of both Livent and SQM the narrowing premium no longer recovers the cost to convert carbonate into hydroxide. Hard rock producers don’t have that worry since the production cost of both products is similar and that is the key point - as more and more hard rock hydroxide capacity gets built you will see the premium eventually go to zero. I can even make the case that eventually hydroxide will sell for less than carbonate as often was the case in China not that long ago.
The recent announcement that Fastmarkets was selected by the LME to provide price data for their “lithium product” was seen by many as a positive step towards more price transparency in the industry; however certain major producers were quick to pour cold water on the idea but indicating they were not supportive of the exercise for among other reasons the fact that battery quality lithium is “not a commodity”. I am a fan of what the LME is trying to do but believe it will take a significant period of time for a product to gain acceptance. Where I see the initial value is not in setting contract prices but in agreement that the LME lithium price index could be used to determine periodic increases or decrease in contract prices based on the percentage change. I believe initial contract prices will continue to be negotiated but an agreed upon price change mechanism will be valuable for both buyers and sellers.
The lithium industry is in a period of growth and change. Investors still struggle to understand how the industry works and are looking for simple answers to complex questions. During their Q1 earnings call ALB announced lithium prices were up 3%, SQM’s price clearly declined, and Livent said that carbonate prices in China have fallen to “the marginal cost of the nonintegrated producer”. Three different messages that all rang true. The fact is ALB’s prices increased because of their nonsensical long term contracting strategy where their prices were well below global average pricing. Their price went up while SQM’s decreased yet SQM still sells at higher average pricing. Livent is the low cost carbonate producer but focuses on hydroxide. A misguided strategy they have acknowledged needs to be “adjusted”. I won’t say the lithium industry intentionally attempts to confuse you but I will say they do an excellent job even if they aren’t trying. Mixed messages abound.
If you believe the consensus demand forecast in 2025, then your concern should be seeing adequate capital flow to lithium projects. Financing has dried up for most lithium juniors. Projects like Nemaska, where the need for new capital seems unending continue to scare off new investors. For an approximately 30K MT LCE facility it now looks like total spending will approach CAD 2 billion. Well over double what it should be with proper planning and management. This is the second lithium fiasco in Quebec in just a few years.
It seems odd that battery and car companies that are assuming lithium will somehow magically be supplied for the soaring demand they forecast. Early in the next decade they are likely to see their ambitious plans slowed down by years not months. This unfortunate situation will ultimately benefit the top lithium companies. When demand outstrips supply price tends to take of itself.
Are my prognostications about price correct? Maybe yes, maybe no but I think they are “directionally correct” and as good as anybody else. What I think is more meaningful is to echo Jon Evans by saying: for investors in high quality lithium assets, the price will be ultimately be high enough to ensure excellent margins. What you really need to focus on is investing in producers who are capable of delivering a high percentage of increasingly tighter specification material in the lower half of the cost curve. For those producers, price will not be an issue.
Keep the (lithium) faith……..
