By Ajay Shah, on January 13th, 2012
Land ownership in pre-modern India
In India, 50 or 100 years ago, land was a defining feature of wealth. The stock of land generated a flow of income. The landless were low-paid agricultural labour. The landed gentry of rural India were the kings of their heap. They had power, prestige, position, prosperity.
In the eyes of many, the initial conditions of high inequality of land ownership were a key barrier that held India back. It was argued
that a one-time bout of bloodshed was essential, to expropriate the rich, and to transfer land ownership in a more equitable fashion. In India, this capacity for State-inflicted bloodshed was present in some places only. In much of India, the unequal distribution of land ownership found in 1947 was left intact.
Fast forwarding into the present, there has been a sea change in the fortunes of the owners of agricultural land.
Agriculture is less important
Particularly after we escaped from the Hindu rate of growth (3.5%) in 1979, the share of agriculture in GDP has dropped sharply. In
relative terms, the wealth created through firms in industry and services has dwarfed the wealth of the landed gentry. The richest man in India is born of one who started out with no land. Government interventions continued to stifle agriculture, but shifted to a
greater laissez faire approach in industry and services; this helped accelerate the decline of agriculture.
The plight of those who stayed back
Rural to urban migration has unleashed new forces on the role and status of the landed lords. Within rich families, high IQ children may be going off to the city to a greater extent, e.g. based on the filtration by competitive examinations where outcomes are correlated with IQ. To the extent that such a process has been afoot, it has given a selection bias where the low IQ children were the ones more likely to stay back in the `idiocy of rural life’ (as Marx characterised it).
That there was an easy option – to live off the land – was a `resource curse’ which afflicted the households who had land. In
contrast, for landless households, there was no conflict of interest in moving to cities (other than the recently introduced NREG, which tries to perpetuate poverty by hindering rural to urban migration).
The power and status of the landed lords was now twice undermined. Their quick-witted cousins who established themselves in
the cities were connected into capitalism and getting ahead. Families of the landless have tended to move to cities and connect into
capitalism and get ahead. The erstwhile lords have started looking nervously at both groups of escapees, wondering whether land ownership was such a nice initial condition.
In a fascinating recent article, Devesh Kapur, Chandra Bhan Prasad, Lant Pritchett and D. Shyam Babu gave us some insights into these changing social structures. In their survey data, in 2007, 98.3 per cent of Harijans were contracting-out the work of tilling their fields to their erstwhile lords, the upper-caste men who owned and operated tractors. The upper tail of the Indian income distribution has, in a few generations, been reduced to operators of agricultural equipment.
The importance of engaging with the market
A defining issue of modern times, for an individual, is a continued and deep engagement with the market. For insights into this idea, see this interview with Tom Sargent. The Ljungqvist/Sargent story matters even more in India, when compared with what has happened in the West. At 7 per cent GDP growth, every few years, far-reaching change comes about in technology and processes. Each individual builds knowledge and human networks by continually engaging with the market. If a person is cut off from engagement with capitalism for even a few years, this generates a lot of damage to the human capital. At that reduced human
capital, the person has to either accept an offer at a much reduced wage, or stay unemployed (which further undermines human capital).
In this setting, consider the plight of a land owner, who has been living off the land, and has never engaged with modern India. Particularly in the post-1979 period, when India has experienced relatively rapid growth, each year of being a country hick owning land meant being further away from the skills required to participate in the contemporary Indian economy.
We see the plight of adivasis in India, who have been away from the market economy, and are unable to plunge into it. We see the plight of the unemployed of Europe: the welfare state pays them dole to stay warm and well fed for many years of unemployment, but after this they are unable to come back into the labour market.
We see a similar problem with the landed gentry of India. They lack the skills to participate in the market economy. Income from the land, their resource curse, dulls their incentive to overcome the barriers. They are often too proud to accept low wage assignments
which are the starting point through which the unskilled connect to capitalism. These problems have come together to give a unique vicious cycle of dis-engagement with modern India that now afflicts the rural landed gentry.
Sale of land in the outskirts of cities
At the edges of all cities, urbanisation is proceeding through developers buying land from the local landed rich and transforming it
into the endless suburbs. In the short term, this has generated immense windfalls of wealth for the landed rich. But in some ways,
this is a bit of a disaster for many of them. Lacking in knowledge about the market economy, they are scammed by insurance salesmen and such like. Much of this newfound wealth tends to get dissipated in a few years.
Urbanisation and land development throws open vast opportunities for trade and industry. But the erstwhile landed rich tend to be
uniquely ill equipped at harnessing these opportunities. They tend to be too proud to work for someone else, and inadequately equipped to stake out on their own. They experience a brief blaze of glory when paid fabulous prices for their land, and then fade away into insignificance.
Some politicians have been moved to advocate special legal protections for the hapless rural rich who sell land to the modern
sector. It’s quite a turnabout within a few generations: from landed elite that oppress the others, to witless folk who need to be
protected by special laws that inhibit the sale of land.
The curse of land
A few decades ago, the left-of-centre view dominated the thinking in India. It was felt that inequality of land was a major bottleneck
that held India back. Many argued that the failure of Indian democracy to engage in a one-time bout of class warfare was a major mistake that was holding India back. It was argued that the Chinese path was the right one: to expropriate the landowners and then start a capitalist economy where everyone is equal.
With the benefit of hindsight, things look different. I think this story reiterates the dangers of social engineering. We are dealing
with enormously complex systems that we only dimly understand. As far as possible, it is wise on our part to use the force of the State as little as we can, and to always avoid treading on fundamental human rights such as property rights.
Acknowledgments
I am grateful to K. P. Krishnan , Suyash Rai and Mihir Thaker and for insightful conversations.
By The Energy Report, on November 11th, 2011
 Fertilizer companies have felt the pain of global monetary chaos, but as indicators lag, some potash equities are positioned ahead of the curve for big gains. Dundee Capital Markets Vice President and Senior Financial Analyst Richard Kelertas believes investors need to be sharpening their pencils and establishing positions. In this exclusive interview with The Energy Report, Kelertas shares his best names.
The Energy Report: There’s been damage done to potash stocks over the past six months. Why?
Richard Kelertas: Macro issues have hurt all commodities. When the world is worried about its next breath, all these stocks get hit very hard. We’ve had the Euro crisis and then the Greek debt crisis since these stocks peaked in summer. Also, I think there were expectations that North America and Europe would emerge from the last serious recession with half-decent growth going forward, and that recovery would be moderate, measured and continual from 2010 all the way up to 2013–2014. That’s now been interrupted by macro events, and the odds that they will be quickly resolved is almost nil. We are going to have to deal with slower economic growth worldwide, not just in the eurozone and North America, but also in China and all of Asia because it’s all interdependent.
We will also have to expect that the consumer will be drawn back a bit, both in Western societies where food is a necessity and a luxury, and in developing economies where it is a necessity. So, high-end food values, high-end organics and food stocks that are higher priced will be under pressure. That means lower requirements for meats, which means that the farmer may be cutting back on his crop output.
TER: Can you make a case for growth in potash consumption?
RK: For the next six months, I expect flat growth. Prices and volumes have retreated slightly. Inventories dropped in October. That’s good news. I expect prices will be flat to down.
However, if Europe’s debt crisis and low North American growth are resolved in the next 6–12 months, we could then see Asian export nations gear up again. That means that their diets will improve again, and crop prices and speculation in crop price increases going forward will pick up. That will happen sooner than six months in the futures market, but at the same time my expectation is that the next six months are going to be slow.
Within the next year, we should see some growth return. That will be composed of three components: Farmers will use potash at normal levels and growth will be reflected in shipments and prices. Lands that will be brought back into production will expand demand. This is fallow or abandoned agricultural land throughout the world, especially in Africa, that has been bought up by either investment pools or sovereign wealth funds or specialty farm land managers. In the grand scheme of things that doesn’t seem to be a lot in terms of the total farmland area throughout the world; however, potash application rates will be much higher than normal because you are bringing it from infertility to fertility levels. So, we could see a substantial push and it will show up in perhaps a 0.5–0.75% increase in potash demand worldwide.
TER: Are you able to venture a forecast on the price of potash?
RK: My international price forecast, the Vancouver export price, is about $450–465 per ton (/t) right now. For 2012 we expect an average price of $505/t and then moving to $520/t average price in 2013. The peak price in 2013 should be around $650/t, maybe $625/t. But, it won’t be as high as the $700-725/t that I thought may take place when I made that forecast a year ago.
TER: Are fertilizer prices leading or lagging economic indicators?
RK: They are lagging indicators. We need to see economic activity pickup first. The mood of farmers is always pretty gloomy, and getting them to change their view on world markets requires crop prices to move. But, crop prices won’t move really unless you see economic activity pickup.
TER: Is potash still low-hanging fruit? Or is it getting much more difficult to mine?
RK: That’s a good question. We just put on a seminar and heard from ERCOSPLAN, the German exploration consulting firm that has provided a lot of NI 43-101s for potash projects throughout the world. If you’re doing deep shaft, it is very expensive and time consuming, and there are long lead times. I would say that most of the best sites, except in Saskatchewan and Russia, are deep-shaft mines. There may be one or two open-pit opportunities in Ethiopia or in Utah where you’ve got very shallow deposits. Solution mining, though, provides you with the opportunity to get several large sites into production in a relatively short period of time.
But the limiting factor right now is financing, and that’s because you’re dealing with $800 million (M)–1 billion (B) for a 1–1.5 billion tons per year (tpa) equivalent of potash, even for a solution mine. The second limiting factor is cash balances. If we are going to have a long, drawn-out economic downturn here, which is quite possible, then very few of these projects will come to fruition and get into production. They will run out of cash before they can either get taken out or get the financing. So, there are only a couple of strong plays that have plenty of cash and, where cash-burn rates are low, can survive this downturn and lack of liquidity in the marketplace. The third thing is that we could possibly see some deep-shaft mines flood over the next 6, 12, or 24 months like we had in Russia with Sil’vinit (acquired by Uralkali OAO (URKA:RTS; URKA:MICEX; URKA:LSE). We could see something possibly happen in Saskatchewan or in other areas. And I don’t think it’s a question of “if”; I think it’s a question of “when”. Many deep-shaft mines are 2,200 meters down. A lot of money is being spent pumping out water, and you could see some production disruptions. If that’s the case then the market could get tighter very quickly.
TER: Limited access to financing could be a major problem for small companies, couldn’t it?
RK: Yes, absolutely. I think about 100 worldwide projects are being considered in potash, both public and private. I would say 10–15% of them have a hope of getting financing, and of that, I think perhaps three or four might actually get financing.
TER: From everything you’ve just said it sounds like margins are going to have to contract or that prices are going to have to go up. Where does this put the potash producers?
RK: Well, at the current pricing their margins are pretty good. For instance Potash Corp. (POT:TSX; POT:NYSE; Not Rated) is the most visible, and its operating margin, not gross margin, so we’re talking before interest, is about 40%–45%. Terra Nitrogen Co., L.P. (TNH:NYSE; Not Rated) is 65%. CF Industries Holdings Inc. (CF:NYSE; Not Rated) is 60%. Now CF is urea, and it’s a different kettle of fish, but Potash Corp. is about 40%. So, prices can come off quite a bit before they’re going to have any issues. However, I can tell you that any projects that are not in progress will be put on the back burner. You need to have potash pricing power. For instance, BHP Billiton Ltd. (BHP:NYSE; BHPLF:OTCPK; Not Rated) Jansen Project in Saskatchewan needs average long-term potash prices of about $500–550/t really to make a go of it, and from my work the long-term international price is about $410–425/t.
But to answer your question, in a lot of cases their cost inputs have gone up too. So, if they have the combination of prices falling while their cost inputs remain high for let’s say two, three or four quarters, their margins are going to get squeezed quite substantially. But there is no doubt about Q112 and Q212, so If this economic crisis settles down, they’re going to push for higher prices.
TER: The large-cap companies have so many advantages. It seems like there’s so much risk in the small-cap potash equities.
RK: Right: That’s why they’ve been hit very hard. The juniors are the most at risk.
TER: What regions are the most favorable for companies right now?
RK: I would say the best places are Saskatchewan, Utah, Arizona and Ethiopia in Africa.
TER: What specific companies are you telling your clients to invest in?
RK: We’ve been very consistent in the stocks we like since the economic crisis of 2008. On the large-cap side, Agrium Inc. (AGU:NYSE; Buy) has probably had the lowest margins of the big-cap names, but it tends to have the most diversity in its product mix. It has a wholesale nutrient division, a retail division and a specialty fertilizer division, which includes distribution. In a tough economic environment, we opt for diversification. In a very strong commodity market, it makes sense to go to single commodities or pure nutrient plays like Potash Corp., CF Industries, Terra, The Mosaic Company (MOS:NYSE; Not Rated) or Intrepid Potash Inc. (IPI:NYSE; Not Rated). Because we expected the economic recovery to be very difficult, we liked Agrium the best in the large-cap space, and we still feel that way. Until we see commodities fundamentals suggesting a speeding up of economic recovery, we’ll stick with Agrium on the large-cap side.
TER: What about small caps?
RK: On the small cap side our top picks continue to be Allana Potash Corp. (AAA:TSX; ALLRF:OTCQX; Buy) and Karnalyte Resources Inc. (KRN:TSX; Buy). They have the most cash, the lowest burn rate and they are the closest to production and financing. They have all the components in place, including their NI 43-101 resource estimates. But they both have different advantages and disadvantages. Allana has the possibility of being an open-pit mine, or open-pit/solution mine combination, or just a solution mine, which would be low cost because of the solar evaporation in Ethiopia.
Karnalyte is a solution mine, but it’s a gigantic deposit and will probably only need one cavern for 10 years. It does not have to do a lot of drilling. But if it does, the drilling will be horizontal. The key thing with Karnalyte is that it has boron-free magnesium chloride. That is attached to the potassium salt, KCL. The magnesium chloride comes out with the potassium. Thus, its extraction costs are not any different. Refining costs are going to be a little bit more expensive to separate the magnesium chloride, but that’s an extra revenue source.
TER: So, Allana is getting the magnesium chloride practically for free?
RK: That’s correct. Allana has not only the opportunity for MOP (muriate of potash), which is the standard potash, but also SOP (sulfate of potash), which sells at a premium. When the first million tons is fully operational, Allana will be able to produce 20–30% SOP.
TER: Karnalyte is up 31% over the past 12 weeks, and it’s the only one I see with its head above water over that period. Most others are the mirror image of that, down anywhere from 20–40%. Why such high relative strength?
RK: I think there are a few things: One, it has been getting its story out aggressively. Number two, it has been very close to getting the feasibility portion of its magnesium chloride production, and that will be ready by the end of November. I think that’s the most important thing, and it is just now starting to be understood by the market, which has been quite anticipatory of that. Three, there’s been some talk on the street that Karnalyte has worked a 30% contingency into its production costs, which is a lot higher than what it will actually work out to be. That means that its return on the project is much higher, we think, than what the company has been telling the street.
TER: How much per ton is the magnesium chloride right now?
RK: Well, it sells anywhere from $450–700/t depending on the end-product use and the purity levels. It will almost be a one for one. I think that Karnalyte will be able to get 600,000 tpa of magnesium product that they’ll be able to take out of the ground. That’s not factored into its numbers, but my NAV reflects that expectation to a small extent. So, it could be double the size in terms of profitability and revenue than the consensus on the street.
TER: Your target price on Allana is $3.05, which is an implied return of about 200% from current levels. I’m wondering about its preliminary economic assessment (PEA) due out before year-end. What is that going to tell investors?
RK: Well, I think it is going to solidify the resource in terms of measured/inferred. And of course, you’ll get a good idea of whether Allana can go to an open-pit or solution or both. More than everything else it’ll firm up the opex and capex. It will be quite clear that the area will support not just a million tons per year (Mtpa), but 2–2.5 Mtpa.
TER: If it is a solution mine, how much advantage will the solar heat evaporation be?
RK: If it’s open-pit, opex will be $40–50/t. If it is a solution mine it’ll be $65–70. A typical solution mine with natural gas or coal evaporation costs would be close to $90–100/t.
TER: What other companies are you talking to investors about?
RK: Well, at our conference we had nine presenters. Of course Allana and Karnalyte were there. We also had Passport Potash Inc. (PPI:TSX.V; PPRTF:OTCQX; Restricted). There were others at the conference that we have put on our watch list, and we are bringing them forward to investors as items of interest. We are looking at the resource and numbers on each one. They include Western Potash Corp. (WPX:TSX.V; Neutral), which just came out with a further update on its NI 43-101 and firmed up its resource estimate and capex/opex. We had IC Potash Corp. (ICP:TSX.V; ICPTF:OTCQX; Buy). We had Encanto Potash Corp. (EPO:TSX.V; Buy) and we also had ENP Minerals, which is hoping to get going in Utah. We had Rio Verde Minerals Development Corp. (RVD:TSX; Neutral), Epm Mining Ventures Inc. (EPK:TSX.V; Neutral) and Verde Potash (NPK:TSX.V; Neutral). So, we’re talking about those and getting up to speed as well on the numbers and the resource for each one of those companies. We’ve issued research on them and put them on our watch list, but we don’t have firm numbers or target prices for them yet. We will continue to speak with those companies.
TER: Western Potash CEO John Costigan noted that his company has the largest resource base of current junior potash explorers and developers. What does that mean to you?
RK: Well, there’s the old adage: It’s not necessarily how big it is but how low-cost it gets. To me, quality or concentration of the resource is number one. You have to take a lot of brine out before you get a half-decent concentration of potash. So, it is going to be all about costs. It seems to have fairly low opex costs, but I have to check into that and do more work on it. On the surface, costs seem to be a bit low compared with comparable projects. The initial capex of $2.5B to get it started sounds reasonable for a 2 Mta mine. I think it’s going to be a question of distance to market and ease of getting the mine up and running.
TER: Encanto was one of the presenters at your conference. How much can it expand its resource?
RK: From the information we have, we think the resource could be expanded quite significantly. With all the agreements Encanto has with native groups in Saskatchewan and its proximity to the Esterhazy deposit where Potash Corp., Agrium and Mosiac all operate, I think it has a good chance of expanding its resource anywhere from 25–50%. That is quite possible. But, again, before we make any pronouncements on it, we’re going to be speaking with management and talking with the engineers and geologists.
TER: Were there any other companies you wanted to mention?
RK: Not at this stage. We haven’t done enough work on, for instance, Ethiopian Potash Corp. (FED:TSX.V; FED.WT:TSX.V; Not Rated). We haven’t done enough work on IC Potash or EPM Minerals. So, we’ll reserve judgment on those for the time being.
TER: Richard, it was a great pleasure speaking with you once again.
RK: No problem, my pleasure as well.
Richard Kelertas has 25 years experience as a research analyst covering the forest products sector. He has been one of the top-ranked analysts in the sector over the years consistently, and was most recently ranked No. 1 by Brendan Woods. Kelertas has worked for a number of well-known brokerage firms, including ScotiaMcLeod, Deutsche Morgan Grenfell, UBS Warburg, and Desjardins Securities. He has a bachelor’s degree in forestry and a master’s degree in forestry and economics from the University of Toronto. Richard is also a Registered Professional Forester.
By The Energy Report, on September 30th, 2011
 It may not sparkle or shine, but fertilizer has a bright future. In this exclusive interview with The Energy Report, Bruno del Ama, CEO of Global X Funds, tells us why investors should be looking at this “growing” industry and how his company’s new global fertilizer and potash ETF (NYSE:SOIL) provides a great vehicle for profit. He also tells us why his company’s gold and silver mining ETFs are poised to catch up with precious metal market performance.
The Energy Report: Thank you for joining us this morning, Bruno. Before we get into the details of Global X Fertilizers/Potash ETF (SOIL:NYSE), let’s discuss ETF basics and how they operate.
Bruno del Ama: Certainly. Exchange traded funds (ETFs) are fairly similar to traditional mutual funds. Their name indicates their main difference—they actually trade on an exchange like any other stock. ETFs have been one of the fastest-growing segments in the financial services industry. That’s due to many of the benefits ETFs offer, such as low cost, transparency and tax efficiency.
TER: This really is a proliferating field. It seems like every time we turn around there’s a new ETF. What factors does Global X Funds consider when developing an ETF for a particular sector?
BdA: We focus on three very important factors when we decide to bring new products to market. The first starts with the global macro trends. What are the big themes that are shaping the world? Our products have to fit into those very long-term secular trends that will continue to drive performance.
The second one is that it has to be unique and differentiated. So, if you look at the lineup of Global X Funds, there are essentially no products like them. And thirdly, the products in the ETF package must make sense and provide good access to the type of market that we’re considering.
TER: How long has Global been managing ETFs?
BdA: We brought our first ETF to market in February 2009, and we have been ranked by BlackRock as one of the fastest-growing ETF companies in the world. We currently have about $1.5 billion (B) in assets under management and have been ranked by our peers both in Europe and the U.S. as the most innovative ETF company in North America.
TER: What are the advantages for investors buying an ETF versus other investment vehicles?
BdA: The main reason why ETFs have been very popular is their low cost. Their management fees are much lower than those of comparable mutual funds. ETFs also don’t have the loads, distribution and short-term redemption charges that mutual funds typically incur. They’re very cost efficient. Essentially, what ETFs do is bring institutional-like expense ratios to the retail investor. However, about half of the user base for ETFs is institutional so these products have to work well for both investor classes. The retail investor can essentially piggyback off the institutional investor and get access to the exact same expense loads. That has been a huge driver of growth.
Innovation, as you point out, has been another driver of growth. The fact that you can get access to areas of the world that were very difficult to access before is a huge benefit. For example, we have a whole suite of China sector funds. So, if you have a particular view on the China consumer segment, that’s something that you can now place targeted bets on, which was very difficult, if not impossible before ETFs emerged.
The third benefit of ETFs is their tax efficiency. Additionally, market volatility has made the liquidity ETFs offer very appealing. If you have the market swinging up or down 300 basis points on any given day, you can come in at 11:00 a.m. and you then sell your shares at 3:00 p.m.
Transparency is yet another benefit of ETF investment. One of the problems in the market in 2008 was that a lot of investors in mutual funds didn’t know exactly what they owned. In our case, as well as with most ETFs, you can go into our website and see all of the holdings updated daily for any particular ETF.
TER: Typically, how much trading occurs in these funds?
BdA: Essentially 90%–95% of ETFs are what’s called passive funds. They track indexes developed and maintained by a third-party, such as Standard & Poor’s, Dow Jones, FTSE, etcetera, and those indexes don’t change very often. They’re typically rebalanced two or four times a year. There’s not a lot of trading that takes place. Of course, you could have corporate actions within a quarter where a couple of companies within the index merge or there’s a spinoff. There’s some amount of trading that happens inter-quarter between rebalance dates, but these funds provide exposure to a complete market in a passive way.
TER: So why did you start this particular potash and fertilizer ETF?
BdA: The only way to invest in the fertilizers/potash market is to buy individual stocks, most of which actually trade on foreign exchanges. This ETF allows investors to get diversified exposure to the whole fertilizers/potash sector, including stocks from 15 different markets, including Israel, Australia and China, to name a few. We had received inquiries from institutional investors looking for a simple and cost-effective vehicle to invest in the fertilizer/potash market. These investors are driven by the significant growth in the food and agro business market. Fertilizers are the nutrients that farmers require to increase crop yields, and as such, they are the first link in the global food supply chain.
TER: What are your growth expectations for this sector?
BdA: The prospects for continued growth in the fertilizer/potash business are very compelling. Purchasing power growth and the result of diet shifts in emerging markets are driving crop usage from grains toward high-protein feed, fruits and vegetables, which require about double the average application rate of fertilizers. The resulting growth in crop yields is enormous. For example, grain yields in India are less than one-half of those in the U.S., with lack of proper fertilization being the key reason.
TER: So the big markets are overseas. Is the North American market relatively saturated in terms of fertilizer usage?
BdA: Yes and no. I wouldn’t call it saturation, because the U.S. is a big farming country and you continue to see growth in farming. But, certainly from a fertilizer use perspective, the U.S. is a much more efficient market and so the penetration of fertilizer is very high. Emerging markets such as India have low penetration of fertilizer, so there’s a lot of catching-up that has to take place.
TER: Can you give us a little more of the specifics on your new Global X Fertilizers/Potash ETF?
BdA: Our Fertilizer/Potash ETF invests in the largest and most liquid companies involved in the fertilizer sector globally. It currently includes 29 companies from 15 different countries. What’s unique about this sector is that it sits at the intersection of commodities and agro business—probably two of the most significant bull markets currently taking place.
TER: Are there any other similar funds out there at this point?
BdA: There is nothing else focused on these markets specifically. There is a fund that invests in the broader agro business market. They may have a quarter of their exposure to the fertilizers market but it’s more diversified and includes farming operation and equipment. Ours is the only fund that has focused exposure on just the commodity/fertilizer aspect of the agro business market.
TER: You have a very geographically diverse group of stocks and most of them are companies that most investors have never heard of. Are there certain countries and regions that appear to be performing better at this point than others?
BdA: The emerging markets will clearly be the key engine of growth. Asia and Latin America already account for about two-thirds of global consumption of fertilizers to support food production for their large, growing populations. Global fertilizer consumption is growing fastest in these emerging markets with historical annual growth rates of more than 3% over the last 15 years. China and India specifically will be the key engines of growth. Annual consumption in China, for example, is expected to return to their pre-2008 growth levels of nearly 10% per year. Major growth has been taking place and will continue to take place in emerging markets.
TER: Are companies based outside of emerging markets included to provide geographical balance?
BdA: The fund represents the full fertilizer market, wherever those companies are located. China imports about 70% of the fertilizer they use. So, when you look at some of the names of companies in the U.S. or Israel, you know that some of their production is consumed at home but a big percentage of it is exported, primarily to emerging markets. There is a tremendous amount of trade and export taking place. Even by investing in some of the Australian or U.S. names, you will get access to the emerging markets. Obviously, when you invest in some of the fertilizer companies that are physically located in places like China, they’re expected to generate outsized growth because their local market is growing the fastest.
TER: What are some stocks our readers might find interesting on an individual basis?
BdA: As a fund manager, we don’t necessarily provide recommendations on single names. Most of these stocks are in foreign markets, but there are a handful of stocks that can be bought on U.S. exchanges, including CF Industries Holdings Inc. (CF:NYSE), Intrepid Potash, Inc. (IPI:NYSE), The Mosaic Company (MOS:NYSE), Scotts Miracle-Gro Co. (SMG:NYSE) and Terra Nitrogen Co., L.P. (TNH:NYSE). There’s also one Chilean fertilizer company that can be bought as an ADR, Sociedad Química y Minera de Chile S.A. (SQM:NYSE; SQM-B:SSX; SQM-A).
As a whole, this is clearly a growth market, and valuations will reflect the growth dynamics that are taking place. We certainly believe that this is a great market to be in going forward.
TER: What are some of the other ETFs that Global X Funds manages?
BdA: Global X Funds operates, perhaps, the broadest suite of commodity producer ETFs across a number of markets, including gold, silver, copper, aluminum, lithium, uranium and oil. The best performing of our funds has been the Global X Pure Gold Miners ETF (GGGG:NYSE), which is a relatively new fund launched in March of this year. It tracks the Solactive Global Pure Gold Miners Index and provides exposure to companies that generate the vast majority of their revenues from gold mining. The other fund that has performed well is the Global X Silver Miners ETF (SIL:NYSE), which tracks the Solactive Global Silver Miners Index and is currently our largest fund with around $500M in assets under management.
TER: Do you have any other food for thought for our readers?
BdA: The one observation I would make is that when considering investing in the commodities space and precious metals miners in particular, you have seen relative underperformance for the miners relative to the physical metal. We are big believers in investing in the commodities markets through mining stocks and producers for a number of reasons. Reason number one is that these are operating companies, and even in an environment where commodity prices are flat, they’re still generating revenues, earnings and growth. They’re paying dividends so they’re income-producing, as opposed to the metal itself, which doesn’t pay any dividends. We see an opportunity in this relatively underperforming market for the miners. Gold and silver miners have done pretty well, but not as well as gold or silver itself. A lot of it is driven by the analysts not factoring in the current high gold and silver prices into the earnings forecasts of these companies because they do not expect them to remain at those levels.
If you think about that dynamic, three things can happen: If the price of gold remains at the level where it is, a fund that invests in physical gold wouldn’t go anywhere because the price is not going up. But as the price stays at that level, the analysts are going to start factoring in those price levels into their earnings forecasts, so the price of the miners should go up while the prices of the physical gold stays flat. In an environment where the price of gold itself goes down, the physical gold ETF performance will be down. At that point, the miners have an advantage because they haven’t factored in that higher gold price into the expectations so they should perform relatively better.
If the price of gold goes up, the physical gold ETF should go up. But that should also factor into the miners, who typically have had an exponential return relative to the price of gold because their costs remain relatively flat while their earnings go up. They have a leveraged return versus the physical metal, and this is a good time to look at the metal producers as opposed to the physical metal as an investment. Our clients are very well positioned to benefit from that exposure.
TER: We appreciate your time and insights today.
BdA: Thank you for having me.
Bruno del Ama is the cofounder and CEO of New York-based asset manager Global X Funds, which has $1.5 billion in assets under management. Previously, he served as head of operations in the structured products business at Radian Asset Assurance, and was a senior consultant at Oliver Wyman. He is a CFA charter holder and received his MBA from the Wharton Business School.
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By Ajay Shah, on September 20th, 2011
A nice story about UIDAI, by Lydia Polgreen, in the New York Times.
A new insight into India’s north-east states: they are part of a region provisionally named Zomia. An interesting article in the Chronicle of Higher Education by Ruth Hammond. The book.
On 21 April 1956, Jawaharlal Nehru did the first convocation address at IIT, Kharagpur. It’s a good read, and it’s surprising how much of it makes sense in 2011. E.g.: in the larger context of history, and looking at it in this way it seems to me that at the present moment there is no more exciting place to live in than India. Mind you, I use the word exciting. I did not use the word comfortable or any other soothing word, because India is going to be a hard place to live in. Let there be no mistake about it; there is no room for soft living in India, not much room for leisure, although leisure, occasional leisure is good. But there is any amount of room in India for living the hard, exciting, creative adventure of life. In case you have not yet seen the Steve Jobs commencement speech, it is worth watching.
How civilised: Literature festivals in India, by Abhilasha Ojha in Mint.
A fascinating story from rural India about the differences between boys and girls on mathematics, by Maia Szalavitz in Time magazine.
Who’s to blame for India’s inflation and India’s Inflation Is a Lesson for Fast-Growing Economies by Alex Frangos in the Wall Street Journal.
When do stock futures dominate price discovery? by Nidhi Aggarwal and Susan Thomas, IGIDR working paper, has some surprising results.
Anupama Chandrasekaran and Vidya Padmanabhan, in Mint, on Indian ventures into farming in Ethiopia.
Raghu Dayal in the Business Standard on the huge opportunities in better India-Bangladesh relations.
Mobis Philipose in Mint, on recent developments in SEBI and on currency derivatives trading.
We need a Hazare in the financial sector by Tamal Bandyopadhyay in Mint. N. Sundaresha Subramanian in the Business Standard. Ex-SEBI member to PM: ID leaked, family at grave risk by P. Vaidyanathan Iyer in the Indian Express. CVC to Fin Min: Probe both sides’ complaints by Ritu Sarin in the Financial Express. And, reportage in India Today. Spat between Abraham, SEBI, finance ministry gets murkier by Appu Esthose Suresh in Mint. Supreme Court wants petition on SEBI refiled by Nikhil Kanekal and Appu Esthose Suresh in Mint. A first and then a second article on these issues, by R. Jagannathan, on FirstPost. An editorial in the Business Standard. Subhomoy Bhattacharjee in the Financial Express.
R. Jagannathan on post offices as banks (on firstpost). And, you might like this related document.
China’s A. Q. Khan problem: an article by Michael Wines in the New York Times.
A great story by Anthony Shadid in the New York Times about being on the run in Syria.
A great article by Paul Berman, in the New Republic, about Islamism.
Why is it so hard to find a suicide bomber these days by Charles Kurzman, in Foreign Policy.
Love and war, by Janine di Giovanni, in the New York Times.
What’s next for the dollar? by Martin Feldstein.
Sussane Craig has a great profile, in the New York Times, of how Howard W. Lutnick brought Cantor Fitzgerald back to life after the
firm was savaged in the 9/11 attacks.
By The Energy Report, on August 31st, 2011
 The recent tumultuous downturn in stocks has created deeper values and new opportunity in the agricultural space. Dahlman Rose & Co. Managing Director Charles Neivert is a near-term bull on fertilizer companies, but the window could close and diminish prospects in the not too distant future. In this exclusive interview with The Energy Report, Charles talks about the complex dynamics that affect the farming and fertilizer industries, and reveals his best pick for a core holding.
The Energy Report: Charles, I was looking at an un-weighted basket of fertilizer stocks, and they were down about 23-24% for the last week of July through the first six trading days of August. Has this opened up some tremendous value for investors? Or is this downturn signaling a commensurate slowdown in agriculture along with the general economy?
Charles Neivert: I think that as a group this is probably more of a signal of a very strong value for investors over the next three to six months—possibly longer than that depending on the company. We don’t see a great change in the agricultural landscape due to the changing economy. It is certainly part of the things going on, but it may have less bearing on the fertilizer names than some other material spaces. That’s simply because food is involved and the grain crop out there that may have been damaged in some ways—though possibly not quite as definitive as we might see in other products. As a result, we think there is a lot of value in the fertilizers.
TER: The key difference is that it’s food?
CN: Yes. The demand for food is less elastic. Certain amounts of food are needed to keep going and global inventory is limited. This year, a number of grain crops were not exceptionally large. As a result, we don’t see a big rebuilding of inventories. The potential is that the price of some of these grains could continue to go up if the harvest does not come up. So, you could see things going up even though the economy is backing off simply because supply is being cut away.
TER: It sounds like you are near-term bullish on some fertilizer names, but that you have longer-term fundamental concerns.
CN: Yes, that is the case. Company prospects really depend on which nutrient is involved during which timeframe. The near-term is very good, I think, for any nutrient given the food and grain situation. However, as you mentioned, fundamentals for some of these products could potentially deteriorate over time while others are likely to be stronger for a little bit longer.
Again, given the nature of the agriculture business, it is really difficult to have a very long-term outlook within the context of a potentially extremely volatile production range, meaning grains. That is because the grains can go anywhere from very, very large harvest years to rather challenged times without any real rhyme or reason. There are no traditional business cycles. The agricultural cycles are all based on weather. If weather is extremely cooperative across a broad range of geographies, you could have an enormously large crop at a time when you don’t really want an enormously large crop. You may already have inventories, but there is not much you can do about it.
You might also get a small crop on top of small inventories, or something in-between. You don’t have the same control, particularly on the supply side, as you do with a manufacturing operation that can back off production when inventories are long. For the most part, the rules that governments have put into place to enforce land set-asides to help control production, have largely been abandoned. Those policies are no longer used, particularly in the U.S. and even in some other areas. So, you can get large or small crops completely opposite of what you might want or need at that time.
TER: Let me just flip here to the macro-economy for a moment. In a detailed statement following a meeting of the Federal Open Market Committee on August 9, the Fed signaled a prolonged period of slow growth and, in an extraordinary comment, said that interest rates are expected to remain low until mid-2013. How does this affect the agricultural universe?
CN: Well, those rates are pretty much focused on the United States. So, I don’t think it really has that much of an impact on the Ag space. In fact, it may have none. Low interest rates, to the extent that they affect the dollar could present some potential challenges because the dollar is weak or because the dollar is strong. That does have a lot to do with corn or soybean costs to potential importers of U.S. products versus some competitors. But, it will have nothing or little to do with what the farmer is going to plant in any given year.
TER: Charles, what are your institutional investor clients telling you now during this selloff? Are they holding off on buying stocks for fear of needing cash for redemptions at this point?
CN: Each portfolio manager may take a different tack, so really this one is a little hard to answer. My guess is that now people are moving and seem to like the Ag space for the time being. We are seeing good activity. A lot of it is to the buy side where activity levels are good.
TER: Can a case be made that some of these plant nutrient producers are defensive stocks?
CN: In the current environment, you can make that argument. They are not typically defensive in the way you think of a food stock in a recession. In a recession, these guys get hit. When grain production is being challenged, they become defensive opportunities.
TER: Potash is traded in a negotiated market, not a globally efficient and tight market. But we have seen some transactions of $490/ton in India. Could this represent an upward trend?
CN: Well, the price of this product has been coming up for over a year now as demand has come back from the trough of 2009. I won’t say it’s impinging on capacity, but it starts to be a snug market because we have run through a fair amount of inventory over the last year to a year-and-a-half. That is what ultimately justifies the fertilizer price. For the sake of argument, if this year’s crop turned out to be extremely large and we rebuilt inventories substantially, fertilizer pricing would have a very tough time going up from here. By the same token, if the crop comes in short, and the way it’s looking, it would increase the price of grains and therefore be a bit supportive of a price increase in potash. What we found in 2008 was that crop price is a very important determinant in what the fertilizer price can ultimately do.
TER: Are you currently bullish on potash as a commodity?
CN: No. Near term I like all the names and products, but on a longer-term basis, I’m not as bullish. I see an awful lot of capacity on the horizon. Some has begun to come up and more is coming over the next few years. It will be a pretty steady stream from a very wide variety of potential producers and some new entrants.
TER: At what price-per-ton would you be bullish on potash equities generally?
CN: I don’t look at the price of the product as a sign at all. I look at the price and prospect for the grains and consider what needs to happen from that point. So, when grains are at low prices and the crop is looking strong, I’m not going to be bullish.
TER: Is the extraordinary heat wave in the U.S. affecting crops?
CN: It’s definitely affecting crops. The timing of the heat wave is also an issue. If you get periodic rain, it reduces that impact. But, there are times where heat can be extremely damaging and other times when it’s less damaging. If heat hits at certain points of the growth cycle, plants can be far more damaged than at other stages of their growth. The heat that came through the Midwest earlier in the year hit around a time when certain plants were going through a key stage maturation, and that can be a problem.
TER: Is there a play for investors on drought-resistant crops?
CN: Seeds haven’t yet gotten there. There is no seed out with the label of drought-tolerant. It’s hard to say resistant. It’s really a matter of degrees. If you get no water, nothing will help you. But, if you get smaller amounts than normal, some seeds under development will still produce near- or full-yields under less-than-ideal conditions, but they are not in the market yet. They are within a few years, so the claim goes, and we will see when they make it. All the major seed players are working on that particular trait. You can get into the companies that would provide that pipeline by looking at the typical seed names of the world—du Pont de Nemours & Company (NYSE:DD) and Monsanto Company (NYSE:MON).
TER: Low equity prices have left a lot of companies with cash on their balance sheets. What does this bode for M&A activity?
CN: It’s a tough call. It depends on the product because some of the markets may be so consolidated already that it will be difficult to get anything by the antitrust people. Cheap prices may or may not allow for acquisition because people will look at the price from six weeks ago for comparison. A perfect example is what PotashCorp (TSX:POT; NYSE:POT) went through when BHP Billiton Ltd. (NYSE:BHP; OTCPK:BHPLF) took a run at them. The stock was down in the high ’80s to low ’90s for a long time. BHP was thinking it could get the company for $130, but just before the offer, PotashCorp’s share price went up to $106 because the wheat market in Russia started to give way. Russia was experiencing a serious drought. The prices started to move up, and even though the $130 offer was actually still a pretty substantial premium, it was not accepted. Not only was it not accepted by the company, but, as conditions in the grain marketplace worsened with stress from the U.S. corn crop, that price got even higher. So, it easily surpassed the offer number. Either people were expecting a much higher bid, or something is going on that makes the stock just worth more—like getting another bid. When the BHP bid was pulled, the stock didn’t drop.
TER: What are you telling your clients right now Charles? Where are the value and the growth stories?
CN: The name we like the most in the group is CF Industries Holdings Inc. (NYSE:CF) because we see the pressure on the corn crop in particular leading to a very positive, constructive situation for corn into 2012. The biggest beneficiary of a corn crop that needs to have a very large planting is more likely to be a name that is heavy in nitrogen, as opposed to one heavy in potash and phosphate.
We think there is going to be a fairly significant increase in corn acres planted next year, and if you need acres in corn, the U.S. doesn’t have a lot of new, unplanted acres to go after and would have to probably use acres currently in another crop. Often that tradeoff is in soybeans, which would result in an increase in the application of nitrogen.
TER: Even in this downturn, CF Industries is still up 82% over the past 12 months and it’s flat over the past month. So, it’s held up pretty well under this pressure.
CN: CF Industries is our only straight-out buy. We’ve been recommending this stock for a long time. Even when I was less constructive on the industry, this was the name we liked the best.
TER: Even though CF Industries is your only straight out buy-rated stock, you still recommend that money managers create a basket of these stocks, do you not?
CN: Right.
TER: And, what would that basket include?
CN: We are sort of constructive on all the fertilizer names, at least through the fall application season and possibly a bit beyond. CF is only in nitrogen with some phosphate exposure and no potash exposure. So, we would tell people to get some potash exposure, but pick your name carefully. We lean toward PotashCorp as a name, but you have to look at it at that moment in time and see how the company is performing against The Mosaic Company (NYSE:MOS) or Intrepid Potash Inc. (NYSE:IPI). It’s really a close call based on a lot of different metrics. That is why we recommend a basket within the group to your preferred weighting. You have to own some of everything, but include some of all of the nutrients. You could cover it all with two or three stocks in the basket.
We have upgraded the entire industry to an attractive level, and in a strong agricultural situation, you don’t want to be left completely unexposed to one particular nutrient because they will all move well and you want to catch some of that. It’s always hard to tell which one will be the best of the group.
TER: These companies are all mid- and large-cap. Are there any small- or smaller caps under a billion dollars where investors might be able to get a little more leverage?
CN: The only one that I deal with that gets down close to that range is CVR Partners LP (NYSE:UAN). It is a pure play on the nitrogen side structures as an MLP (Master Limited Partnership). It features a good payout, but tends to mute the share price a bit.
TER: Want to mention any other phosphate, potash or nitrogen companies?
CN: The only company I haven’t mentioned in the universe is Agrium Inc. (NYSE:AGU). I hesitate to use the word defensive play, but it has a big retail operation that it uses very effectively to move an awful lot of product. It does very nicely in that business. It is also spread across all the nutrients. It has nitrogen, potash and phosphate exposure. It also happens to be based-in and sell a lot of product in Canada, which means that it is a bit isolated from the rest of the market. That actually gives the company a pricing advantage because the market up there is a bit higher-priced. Its big retail exposure is sometimes a little bit of a turnoff if what you are trying to do is play the fertilizer space in a pure way. It’s a good company and well run. But, people tend to look at it and say it’s not exactly what they are after.
TER: Charles, thank you very much for your time today.
CN: Thank you.
In May 2009, Charles Neivert joined investment bank Dahlman Rose & Company LLC as managing director to head the firm’s new Agriculture and Chemicals Research division. Prior to Dahlman, Charles was an executive director at Morgan Stanley where he re-launched the firm’s commodity, specialty and fertilizer chemical equity research practice. He was also co-founder and president of New Vernon Associates, an equity research boutique specializing in global chemicals, which was awarded Institutional Investor’s “Best of the Boutiques and Regionals—Commodity Chemicals” honor for nine consecutive years. At New Vernon, Charles conducted all fundamental industry research on a global level, including analysis and forecasting of 50 distinct chemicals. He earned his Bachelor of Arts degrees in chemistry and economics from the University of Pennsylvania.
By Ajay Shah, on August 23rd, 2011
The Anna Hazare silliness is depressing. Writing in the Indian Express, Shekhar Gupta has an interesting angle on why there is so much interest in this snake oil.
India’s $2 trillion economy means we have to reform faster by R. Jagannathan on FirstPost.
Meera Subramanian has a beautiful story about how Diclofenac, fed to cows, is killing off India’s vultures. We’re down from 50M vultures to 60k. The consequences are bigger than we think.
Former Sebi member Abraham?s claims under CVC lens by Appu Esthose Suresh in Mint.
China’s port in Pakistan?, by Robert D. Kaplan, in Foreign Policy.
The 10 most corrupt Indian politicians.
A promising band: Menwhopause. Listen.
The decline of Asian marriage, in the Economist.
Vinayak Chatterjee on ten projects that matter in India today.
The new draft Microfinance Bill. Back story.
Nirvikar Singh in the Financial Express on the CCI order about NSE.
Think again: War by Joshua S. Goldstein in Foreign Policy.
Hegemony with Chinese characteristics by Aaron L. Friedberg, in the National Interest. Arab Spring, Chinese Winter by James Fallows, in the Atlantic. The South China Sea is the future of conflict by Robert D. Kaplan, in Foreign Policy.
The problems of dogs in Iran.
By The Energy Report, on August 19th, 2011
Rising corn production acreage highlighted in the latest USDA crop report could lead to increased fertilizer demand and prices, says Richard Kelertas, a senior analyst at Dundee Securities. In this exclusive interview with The Energy Report, he points to which potash juniors could hit the market while demand is still high.
The Energy Report: U.S. corn production is up 4% from last year, according to a new Crop Production Report released this month by the National Agricultural Statistics Service. The August 11 report forecast a 12.9 billion bushel harvest. “If realized, this will be the third largest production total on record for the United States,” the report stated. Will this result in an increase in domestic demand and prices for fertilizer, particularly potash?
Richard Kelertas: Yes. We expect a gradual, but steady increase in crop and fertilizer prices going forward.
TER: Last May you predicted potash prices of $750/ton. When might that occur and what countries are the main drivers for this?
RK: A peak could come anywhere from 18–24 months from now. Our thoughts are as follows: We are seeing very tight potash markets. The Chinese have been asking for more. The Indians have now settled a contract for significantly higher than what they wanted to pay. Farmers have been pressuring the government to make sure there is plenty of fertilizer—especially potash and urea—in the fields, but they also want to make sure it’s at a half-decent price.
The supply is now getting out to the fields, but the price has gone up simply because there is a bit of a monopoly, with the major producers represented by Canpotex Ltd. Our view is that the price pressure will continue for the next 12–24 months. No major new capacity additions—brownfield or greenfield—are planned for the next two to three years. Really, the new capacity doesn’t kick in until 2014–2015. So 2011, 2012 and 2013 are going to be very tight markets. That’s on the fertilizer side.
On the food side, we have stock:use ratios that are very low. Crop prices are starting to recover although the second economic crisis we are going through now may cause those prices to ease off a little bit. Some crop harvests are going to be low throughout the world. The stocks of various staples will be tight for the next one to two years. So we think this is a perfect storm for fertilizer prices to continue to run up. It won’t reach the level of the last run up in 2008–2009, but it is certainly a very buoyant market.
TER: What impact do short-term stock fluctuations and economic challenges have on both food prices and fertilizer prices? What about the prospect of a weaker dollar?
RK: As you’ve seen in the past, it has had a short-term impact. If the fundamentals were weak to begin with—meaning crop stocks were high, harvests were very, very good throughout the world and inventories of nutrients were either at their 5–10 year averages or above—then you saw a significant downturn in nutrient and crop pricing along with usage. Farmers back off if crop prices aren’t high enough because they won’t get enough per-acre to justify putting in more nutrients. Plus, the bounce back in 2009–2010 and the beginning of 2011 was because of both strong fundamentals for fertilizers and crops and a tremendous amount of stimulus from governments that were pumped into the market. It remains to be seen whether governments still have those arrows in their quivers. I would suspect that this is going to be a little more drawn out.
Several governments are near crisis situations. The European Central Bank has said it will buy Spanish and Italian bonds; that will certainly help for the time being. The real question is: Are international consumers going to back off on buying feedstuff for cattle, poultry and their own diets? Will the middle class throughout the world continue to demand better nutrition? If that’s the case, even with an economic crisis, you will still see crop prices hold up fairly well. If everyone goes into a cocoon and cuts back on everything, then we could see prices fall back and the recovery will be that much longer. So it does have an impact. In this particular case, we think it is going to be short lived. We think it is going to be a couple of months where everyone steps back and commodity prices generally step back along with that. Nutrients and fertilizers are like any other commodity. They react to the individual fear factors going on in world markets.
As the U.S. dollar continues to weaken over time compared to other major currencies, potash prices in U.S. dollar terms will strengthen alongside the strong fundamentals.
TER: You mentioned some new capacity that might be coming on in 2015. Where is that and what companies are going to be behind it?
RK: PotashCorp (TSX:POT; NYSE:POT; Not Rated*) and Agrium Inc. (NYSE:AGU; Buy Rated) have some new plants. Those are brownfields. We also have the possibility of a couple of larger mines. Allana Potash (TSX.V:AAA; OTCQX:ALLRF; Buy Rated), for instance, may have its open-pit mine in Ethiopia up and running in early 2014. You will probably see only 300–500 thousand tons of potash come out of that operation in 2014, and it probably won’t be fully ramped up for 1 million tons (Mts.) until 2015–2016. We may have some more brownfield projects, but if they are deep shaft, those are going to take a heck of a long time. So, the most we are going to see is probably 2–3 Mts. with some brownfield plant expansions coming on by 2014–2015. Allana, which would probably be the first greenfield operation to come on-line, could be producing by sometime in 2014.
TER: Are fertilizer company stock prices going up along with food prices?
RK: No, they haven’t. Q211 results for most of the major players—The Mosaic Co. (NYSE:MOS; Not Rated), PotashCorp and Agrium—showed a bit of a perk up, but just as some real traction was starting to develop again, the debt ceiling issue put a stop to all upward momentum. Then we had the debt downgrade. That is going to put us on ice for the time being. Stock prices for all commodities will be off. If the U.S. dollar weakens enough, which we think it probably will over the next several weeks, then you may get a pickup in commodity prices as international buyers find it cheaper to come into the marketplace and any commodity priced in U.S. dollars tends to perk up. The light at the end of the tunnel could be negotiations with the European banks and U.S tax and spending reform.
TER: Let’s talk about what companies are going to be in a good position to capitalize on global demand when stock prices do come back.
RK: There will be, we believe, another run up going into 2012–2013 on stock prices. A prevailing fear factor will position well-established producers as the first ones to benefit when the market recovers. So Agrium, Potash, Mosaic—those are the key ones along with CF Industries Holdings Inc. (NYSE:CF; Not Rated) and Terra Nitrogen Corp. (NYSE:TNH; Not Rated). Those are the companies that have been around, have established solid earnings growth, have upped their guidance for 2011–2012 and have the volume and the staying power in this particular market. They have clean balance sheets, are well run and have some new capacity in brownfield tonnage coming into 2013–2014. So they are in good shape. Those are the ones we think will recover first.
The juniors will follow if there is a sustained market recovery. That includes Allana, PotashCorp, Karnalyte Resources Inc. (TSX:KRN; Not Rated), Passport Potash Inc. (TSX.V:PPI, OTCQX:PPRTF; Watchlist Buy Rated) and IC Potash Corp. (TSX.V:ICP; OTCQX:ICPTF; Not Rated). We could see Ethiopian Potash (TSX.V:FED TSX.V:FED.WT; Not Rated) and Encanto Potash Corp. (TSX.V:EPO; Not Rated) move as well. It all depends, however, on how far along these companies are in their development and the results of either updated resource reports or first-time NI 43-101s.
These things will all depend on how strong the potash market has remained even though the stock market has fallen off. So in the next three to six months, if the economy is actually in the dumps and all these potash prices have come off, then these juniors will basically go nowhere. Farmers are a pretty fickle bunch. If they smell that there is going to be any weakness in the overall economy or in crop prices and their returns, they will step back. And they can step back fairly quickly.
If, on the other hand, potash prices hold up at the $474.90/ton price recently signed by the Indians, then you are going to see these juniors perk up. As it stands right now, the fundamentals are still extremely strong—they haven’t deteriorated at all. Demand is high worldwide for crops, the stock:use ratios are very low and farmers have lots of money in their pockets. They are feeling pretty good about the next harvest. This is important because right now they are making decisions about the spring plant for next year. We expect crop prices to be very good and that application rates will actually be higher in 2012 because farmers are planting more and trying to bring back drought and floodplain areas with extra fertilizer applications where nutrients have been washed out of the soil.
TER: You mentioned some of the catalysts that would be necessary for the junior stocks to start appreciating. Do you want to go through a few of those, starting with Allana?
RK: We expect Allana to go ahead with its plan to get an open-pit operation in Ethiopia up and running by 2014. Additionally, Allana could be a takeover target for the Indian government, which is still bristling about signing a higher-priced contract for 2011 and 2012 delivery. Along with the Chinese government, the Indians have been very active in Ethiopia, delivering foodstuffs to drought victims and committing $300 million to a major railway infrastructure project. They may be looking to sign either long-term contracts or purchase a producer or an up-and-coming junior to deliver 2–3 Mts./year reliably. That makes a lot of sense long term. So, it is quite possible that someone like Allana or Ethiopian Potash—although it doesn’t even have drills in the ground yet—may have several suitors come calling. That is one catalyst.
We also believe Allana is talking to several banks to act as a project finance lead bank. When that is announced and the market sees that Allana is serious about going forward with production plans in 2014, we think that will perk up the stock. That is catalyst number two.
Catalyst number three will be the updated resource report coming out toward the end of the year and the bankable feasibility report coming out in February or March of 2012. That will show quite clearly the low open pit mining and extraction costs predicted. We believe it will be the lowest-cost operation and the first to production in the world. Once that becomes clear, it will be a catalyst for the stock price. So we have three events coming up in addition to the extra drilling in the Danakil Depression deposit. Those will be smaller catalysts that continue to show 25%+ potassium chloride (KCI) at very shallow depths and significant thicknesses.
TER: Another one you mentioned was Karnalyte?
RK: It is a solution-mine potential operation in Saskatchewan so you don’t have any of the country or transportation risks that you might have in Ethiopia. Investors who want to stick close to home during an uncertain market might like Karnalyte. It is a contiguous, large-scale deposit. There could be anywhere from 2–3 Bts. of potash there. The company has come out with its NI 43-101 and an updated resource report will be out at the end of the year. It believes it can get up to 3 Mts. in the next five years quite easily. This would be a solution mine with high capital costs to start up, but it is not a deep-shaft mine, which is five to six times the cost. It will be very low extraction costs, $100–$120/ton delivered to British Columbia seaports. The added benefit here is the extent of the magnesium-oxide deposits along with the KCl. Magnesium oxide is used for many applications, including as liners for arc furnaces in steel manufacturing. Manufacturers are willing to pay more for secure, zero-boron content magnesium oxide. That is another revenue stream that has not been factored in by the markets. The company has hired a specialist in magnesium oxide extraction and end-use processing to capitalize on that opportunity. It will issue a report in the next six months on the conclusions. That could be the catalyst that drives Karnalyte to new heights.
TER: Very impressive. How about Passport Potash?
RK: Passport is coming out with its NI 43-101 in September, so that will be the first catalyst. It is not as great a deposit as Allana or Karnalyte, but it is located right smack dab in the middle of Arizona with all the infrastructure in place—road, rail, power and water; it has everything there. There are no environmental issues to deal with and all state, federal and local governments, including the Native American community, are on the company’s side. They all want this thing to be developed. The area is economically depressed and this project will employ 300–400 full- and part-time workers. So the catalyst here is the NI 43-101, that is number one. Number two is that the deposit could be big, although with not as high a KCl content as Karnalyte and extraction costs may be a little bit higher as well. To get the concentration of KCl that it needs to produce a good, modern organic product, it is probably going to have to extract more slurry than some of the other producers. However, this deposit could be 2–2.5 Bts. and there are other interested parties. A large oil company just to the south of Passport Potash’s concessions is looking to diversify its product mix. So it is quite possible that we could see Passport Potash have a suitor or two come calling.
TER: Interesting. IC Potash?
RK: IC Potash has a very interesting story. It is a little bit further behind everyone else in terms of getting its project up and running. We will probably have more information for you in the next call.
TER: The last one you mentioned was Encanto?
RK: Encanto is, again, in Saskatchewan. It has all the native groups on its side. It has a substantial resource, but will come online later than some of the others. We don’t expect it to be up and running until 2015–2016. It is a solution mine with a good management team and a fairly contiguous deposit. We wouldn’t rank it at the top of our list. Allana is No. 1, Karnalyte No. 2, Passport No. 3. Encanto is in the middle third of the juniors we watch.
TER: Anything else that our readers should be watching out for in the potash space in the next six months?
RK: I think you will find that there is going to be a race to get things up and running as quickly as possible. The savvy investor should get into the space now. By 2015–2016, you will have a lot of projects, and if any of these juniors come online, which two or three of them certainly will, you are going to have enough potash coming on market to supply all demand through 2017–2018. That could lead to a pullback in these stocks from 2014–2015. So you have two-and-a-half years of good market returns coming. To take advantage of that window, get involved with potash players that are established—Agrium, PotashCorp. or Mosaic, and Agrium is our favorite of those three. But also play the select juniors that have a good chance of getting up-and-running with a better-than-even chance of getting linked up in a large offtake agreement or having a suitor come calling. Those would be Allana, Karnalyte and Passport Potash.
TER: Thank you so much for your time today. It has been very enlightening.
RK: Thank you.
*Dundee Securities rating
Richard Kelertas has 25 years experience as a research analyst covering the forest products sector. He has been one of the top-ranked analysts in the sector over the years consistently, and was most recently ranked No. 1 by Brendan Woods. Richard has worked for a number of well-known brokerage firms, including ScotiaMcLeod, Deutsche Morgan Grenfell, UBS Warburg, and Desjardins Securities. He has a bachelor’s degree in forestry and a master’s degree in forestry and economics from the University of Toronto. Richard is also a Registered Professional Forester.
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By The Energy Report, on August 12th, 2011
 The Williston Basin is a hot area of exploration and production that oil and gas analyst Jason Wangler follows from his SunTrust Robinson Humphrey office in Houston. In this exclusive interview with The Energy Report, he shares his thoughts on the near-term prospects for oil and gas demand and prices, and tells us about several attractively priced names with good upside potential from current levels.
The Energy Report: Thanks for joining us today, Mr. Wangler. You and your associate, Neal Dingmann of SunTrust Robinson Humphrey, follow quite a number of energy stocks as well as the oil and gas markets in general. Oil prices have been relatively stable over the last few months with oil in the $90-$100/barrel (bbl.) range, and gas in the $4.20-$4.80/thousand cubic feet (Mcf) range. What are your expectations for the oil and gas markets in the next 6 to 12 months?
Jason Wangler: I think we’re really going to see a lot more of the same trading ranges. In the last couple of years, the economy, especially in the United States, has been building back from the terrible situation of late 2008 and early 2009. In 2009 and 2010, we were growing slowly and getting back to a level that was making more sense. But now that we’ve gotten a little more than halfway through 2011, there are still a lot of issues here in the United States. The debt ceiling and budget crisis and the general concerns with the economy not growing as fast as people expected have all had their effects.
We see the Brent crude prices $15 to $20 ahead of where the West Texas intermediate (WTI) oil prices are here in the States because there is excess supply in the U.S. right now and not as much expected demand for that oil. If you look at gas, it’s very much the same way, not only in the U.S. but worldwide. The other countries around the world would love to have the amount of natural gas that we have. The U.S. is blessed with the riches of natural gas from its shale plays. So you’re probably going to see gas stay in the $4-$5/Mcf range and, I think, probably below $4.50/Mcf for the most part, until we have either a demand or supply change that’s very dramatic. That would probably have to come from the demand side either in exporting natural gas or additional uses, whether it be for vehicles or heating more homes or something of that nature.
TER: It’s interesting how the whole gas situation has turned around because there was all this talk a few years ago about building ports to import liquefied natural gas (LNG) and now we’re talking about exporting LNG.
JW: It is amazing. The “shale revolution” has really changed the dynamic for a fuel that was very hard to come by but can’t be easily transported. You have to build these very large, expensive ship-loading facilities. Some people looked at the market in the U.S at the time and wanted to build import facilities because we would need them and we’ve leaned on Canada and Mexico for quite a few years to supply us with natural gas. Now we have so much at $4/Mcf, we wish those countries would need some of ours. Exporting LNG could start to balance out how much oil we have to import.
TER: Looking at your coverage list, some of the stocks are under $0.50 with market caps under $20 million (M), and others are big institutional favorites that trade above $100 with market caps over $50 billion (B). How do you decide which companies you want to follow?
JW: My colleague Neal Dingmann and I look for names and stories that interest us. We look at the management teams as well as where the assets are located and actually break our coverage down based on specific basins. I cover the Williston Basin in North Dakota and everything west. He covers Eagle Ford in Texas and everything east. And then we try to cover a group of names in each basin in different life cycles of each play. It could be one that’s just a very early entrant, which may have a $100M market cap, such as a Voyager Oil & Gas Inc. (NYSE.A:VOG) in the Williston, up to somebody who’s in the $10B+ range, such as a Continental Resources Inc. (NYSE:CLR) or a Whiting Petroleum Corporation (NYSE:WLL).
TER: You seem to be quite hot on the Williston Basin. Tell us why you like it so much.
JW: It’s one of the most economic and best resources that we have, not only in the U.S., but, really, in the world. There’s lots of running room and we’re very early into the play with lots of acreage still to be drilled. We could be up there for 50 or more years drilling very, very strong wells and putting lots of oil into U.S. tanks. The Eagle Ford and the Utica in Ohio have interesting and up-and-coming plays, but the Williston really has been shown to be as economic as any other, if not the best. It’s always nice to be in an asset that has the best type of results.
TER: A lot of these Williston stocks that you’ve recommended in the last few months have had some respectable moves. Is there still some good upside available there?
JW: I think there still is. The winter was colder than usual in North Dakota and Montana. After the winter season they had floods, which caused a lot of problems throughout the Midwest in general, starting up in North Dakota and Montana.
So, there were a lot of problems with shut-ins. They couldn’t work at the same pace they typically had been able to so production numbers were not as high as expected. Wells were not coming in on the expected timeframe. So, some of these stocks took a significant hit. The weather has been good since the beginning of June. Now we’re really starting to see some very impressive rates. Going through the second quarter earnings season, when we start hearing these names report, I think people are going to understand why they’re going to be a little bit lower than we originally expected entering the year.
Today, a month or two since the weather improved, we are able to say that this is a resource that makes sense. And as long as the weather works, we can really start churning out some very impressive numbers. So, I look for the Williston names to really have some impressive growth rates, not only for the full year, but, mostly based on just the second half of this year, because the weather has finally started to cooperate.
TER: Can you tell us about some small-cap names you particularly like at this point?
JW: One of them is a very early stage play in the Williston called Kodiak Oil & Gas Corp. (NYSE.A:KOG). The company has about 100,000 net acres at this point and is really starting to turn on a lot of wells. It should actually be able to start talking more and more about some very impressive production growth rates, not only for this year but next year. In the next couple of quarters, Kodiak could double production in only one quarter because it is able to bring on three, four or five wells. It currently has a couple of rigs running and will be moving to five rigs by the end of this year. Next year, 2012, we should see explosive growth much as we saw from Brigham Exploration Company (NASDAQ:BEXP) a few years ago. So, I look at Kodiak as an earlier stage play in the Williston with a very nice acreage position and cash on the books. When the additional rigs start running, it’s just a matter of focusing on operations and getting the oil out of the ground.
One other one is GeoResources Inc. (NASDAQ:GEOI). It’s a very interesting small company with a strong management team and a great balance sheet. The company has been around for quite some time and has been able to put together nice positions in both the Williston and the Eagle Ford. It’s just starting to drill now on those positions as the operator. It has a couple of wells in the Bakken that weren’t as great as maybe some other results. But, I think you will see some better results coming out of there as the company comes to understand the resource. Then down in the Eagle Ford, GeoResources just reported some very impressive results a few weeks ago coming out of the Gonzalez County area, a little bit further north than most people thought the Eagle Ford to be. It has some good partners and I think you’ll continue to see it be able to add rigs and really start moving that production level much higher.
TER: What else do you like?
JW: Another one that makes a lot of sense to me is Gulfport Energy Corp. (NASDAQ:GPOR). The company is in the Utica Shale as well as a lot of other places. Utica has become a play that everyone’s really curious about and Chesapeake Energy Corporation (NYSE:CHK) is really the only other one that’s talked about Utica very frequently. According to Chesapeake, Utica has the potential to be better than the Eagle Ford. It will be very interesting to see as we start getting some results out of that Ohio area. Gulfport is also drilling wells in south Louisiana and in the Permian Basin of Texas, and in the Niobrara in the Rockies. It also has some oil sands in Canada. Gulfport has a lot of different very strong assets predominantly focused on oil. And it’s been able to keep the production moving forward. So, I think that the good asset base will continue to turn into better and better cash flows moving forward.
TER: Any other low-priced ones you like?
JW: One other one I like is Abraxas Petroleum Corp. (NASDAQ:AXAS). It’s a smaller name with a position in almost every interesting play that’s not only already being produced in the U.S, but also a few others that are emerging as well. The company is in the Bakken area, the Eagle Ford and the Niobrara. It’s also in a couple of other plays including a small one called the Alberta Basin in Montana that’s becoming more and more exciting as Newfield Exploration Company (NYSE:NFX) and Rosetta Resources Inc. (NASDAQ:ROSE) start to do a little more work there. Abraxas is really a very good company getting out there early and picking up some acreage. Now it’s focusing on drilling that acreage, getting the production to the market and then growing its cash flows. But it’s one that I think is very interesting from an asset standpoint. With a stock price under $5, this is one you could really look at as a nice entry point into quite a few different interesting plays.
TER: You also cover Venoco Inc. (NYSE:VQ). Do you have any thoughts on it?
JW: Venoco is an interesting story but the company has had a tough year so far. It’s in the Monterey Shale in California. It and Occidental Petroleum Corp. (NYSE:OXY), are really the only two companies that are in that play in size, at least that we hear about on a regular basis. It’s taken the company a little bit longer than I think it would have hoped for. Tim Marquez is a smart guy and he’s been the CEO for quite some time. But the play has just really not come along quite as quickly as it had expected. Venoco has got some solid assets and solid production but the stock’s really gotten hit pretty hard over the past six months or so.
A lot of people are banking on this Monterey Shale becoming a very interesting and substantial shale play, and it just hasn’t done that yet. I think ultimately it will work, whether it’s Venoco or somebody else out there. I think Venoco has a great position. But, like a lot of other things, it just takes a little bit more time than we or even the company would like to see and so we’ve seen the stock come down. But it’s starting to get a lot more interesting down here in the sub-$12 range. I think it’ll start looking a little better as production ramps up and Venoco gets a little further up the learning curve on the Monterey Shale.
TER: So, generally, what are your expectations for the coming months that people ought to be aware of, concerned about or hopeful for, as far as investing in oil and gas stocks?
JW: The last few quarters really have all been very strong for the entire industry. Oil prices have been very healthy but gas prices not necessarily as much. The biggest questions have really been the macro situation. Is the economy going to grow? Is there going to be a situation like we had a few years ago where oil just absolutely fell off of a cliff? If it can stay in a range bound area, it will be much easier to make smart decisions on a company-to-company basis regarding who you really like and why you like them, as opposed to the whole industry having to come down.
I think that the industry right now is still severely undervalued, probably closer to the $70–$75/bbl. range for these stock prices versus oil trading in the $80-95/bbl. range. That’s because there’s a fear that the economy is going to pull down the market and oil and the stocks are just going to have to come down because higher oil prices have taken a toll on potential growth.
But the $90/bbl.+ range is a fair range. I think it makes sense as far as the world economy and I think that there’s still enough room for the country to grow, in terms of GDP and everything else, to keep these stocks moving and to keep oil prices where they should be. So, I think there’s a lot of room for these stocks to move. I would just continue to watch what the economy and oil prices do because those are going to be your two big drivers as, right now, these companies are making a lot of money at this $90-$95/bbl. range.
TER: So, to sum up, as far as you’re concerned, there’s more upside at this point than there is downside.
JW: Yes, I think so. For the companies, there’s a lot of upside and not as much downside. The assets they should be able to find with these shale plays are very repeatable. They are capital intensive but as long as the companies can maintain a good balance sheet, you’re safe there. At this point you’re in a price area where you really need to pick one or two that you want to get into and get comfortable with their management teams. The biggest overriding factor at this point is going to be what oil prices do. And what drives that is what the economies, not only here but across the world, are going to do. That’s the thing I think is going to be the most important factor.
And, like you said about the upside, I think one other thing that’s interesting and that could be one of those big upside drivers is that there’s going to be a lot more consolidation. Many of these smaller names will get picked up by larger names that have a lot of cash and want to find a way to grow their production and cash flows further. They need to go out to these new emerging plays in order to do that. So, I think you’re going to see continued consolidation in the market, which I think again, would be very positive for investors who go into these smaller to mid-cap names that may be taken out by the larger names at a nice premium.
TER: That sounds like a pretty optimistic picture for people who are willing to take a shot at some of these promising deals.
JW: Absolutely.
TER: We appreciate your taking the time to talk to us this afternoon and all the good information you’ve given us, Jason.
JW: Thank you.
Jason Wangler has over five years of equity research experience focused on the exploration and production (E&P) and oilfield services (OFS) sectors of the energy space. Jason previously worked at Wunderlich Securities Inc. and Dahlman Rose & Company before moving to SunTrust Robinson Humphrey. He also previously worked at Netherland, Sewell & Associates, Inc. as a Petroleum Analyst. He received his master’s in business administration from the University of Houston, where he was also named the 2007 Finance Student of the Year. He received his bachelor of science degree in business administration with a focus on finance from the University of Nevada, where he was named the 2003 Silver Scholar award winner for the College of Business Administration. In 2010, he was highlighted as a “Best on the Street” analyst by the Wall Street Journal and has been a guest on CNBC.
By The Energy Report, on June 29th, 2011
 Uranium and potash prices seem to be inversely correlated lately: As potash prices reach their highest levels, uranium prices have suffered. But Richard (Rick) Mills, host of Ahead of the Herd online and editor of the Ahead of the Herd newsletter, believes the prospects for both industries are bright. In this exclusive interview with The Energy Report, Rick explains why the U.S.’ commitment to nuclear power and even biofuels is helping to propel both markets.
The Energy Report: German Chancellor Angela Merkel recently decided to shut down the country’s nuclear reactors that began operating prior to 1980. Germany will ultimately disband its nuclear energy program in favor of gas and wind power following the fallout from Japan’s nuclear disaster in March. Meanwhile, Japan is also attempting to lessen its dependency on nuclear power. How has that disaster permanently changed the uranium market?
Rick Mills: It’s a short-term hiccup and it’s probably presenting us with one of the greatest buying opportunities for carefully selected uranium stocks that a retail investor can get. The global nuclear renaissance that was underway in early 2010 was happening for specific reasons: concerns about climate change, reducing carbon footprints, energy security and the rising cost of fossil fuels. And then the disaster hit. It gave pause to the renaissance, but none of these reasons have gone away.
Germany’s kneejerk reaction shut seven of its nuclear reactors. They won’t be opened again. Its other reactors will also be completely mothballed by 2022. But the thing is that in 2002 Germany’s center-left coalition enacted a law to phase-out nuclear power. Last autumn, Merkel’s center-right coalition government decided to extend the lifetimes of the country’s 17 reactors by an average of 12 years. That decision was based on a judgment that Germany could not meet its power demand using only natural energy sources, such as wind and solar. The country doesn’t have abundant natural gas reserves. So, I find it pretty ironic what’s happening over there. I think Germany may suffer when it finds it can’t maintain its manufacturing competitiveness. Germany is now burning more coal, and already buying more nuclear power-generated electricity from France and the Czechs, who use the old Soviet-style reactors.
TER: There’s a lot of talk right now about thorium replacing uranium as the fuel in nuclear reactors. These reactors could use thorium, which is much more stable than uranium, and roughly performs the same function. Do you think that thorium will ultimately replace uranium?
RM: Ultimately, but we’re 35 to 40 years away from incorporating that technology. Uranium’s got a long way to run. I believe thorium will be the answer one day, but not for several decades at least.
TER: What about the U.S.? It has some reactors slated to come onstream over the next 5 to 10 years. Do you think that the U.S. is going to follow suit with Germany?
RM: The U.S. is going to ramp up its nuclear power. On April 21, the U.S. Nuclear Regulatory Commission renewed the operating license for the U.S.’s largest atomic plant, the Palo Verde nuclear generating station in Arizona, for 20 years. The U.S. Department of Energy just dedicated a new research facility on May 3. The U.S. is accelerating the advancement of nuclear reactor technology. It’s studying the performance of light water reactors and developing highly sophisticated modeling that will help accelerate upgrades at existing nuclear plants.
That doesn’t sound like the U.S. is in any way, shape or form going to cut back. As a matter of fact, U.S. Secretary of Energy Steven Chu just said nuclear energy is the nation’s largest source of carbon-free power and it is an important part of the U.S. energy mix moving forward.
Uranium supplies are going to get very tight. There’s going to be fierce competition for available material in both the spot and long-term markets. Investors should be looking at uranium-focused juniors with money in the treasury. We’re being set up for the perfect storm in uranium.
TER: Since the disaster at the Fukushima plant in Japan, the spot price for uranium has fallen to about $50/lb. from around $73/lb. in early March. Many junior uranium miners and explorers have seen their share prices fall dramatically since then, too. What are some companies that you think offer a lot of value as a result?
RM: Uranerz Energy Corp. (TSX:URZ; NYSE.A:URZ) is one of the best uranium companies out there. The management is top-notch. These guys wrote the book on in-situ leach mining.
Uranerz is going to be included in the Russell 3000 Index again. If you want to see something interesting, pull up a chart from June 2009 when it was included on the Russell the last time. Funds that track that index have to include these new additions. We’re talking about an awful lot of money. It’s going to be interesting to see what happens to Uranerz’ share price as this becomes common knowledge.
Uranerz is waiting for its final permit to start well field construction and build its production facility. Currently, the company has $45M in the treasury; that’s $0.60 a share. Costs to get into production are estimated to be $35M, so the company has some money for contingencies. I expect Uranerz to be in production in 12 to 15 months. Currently, two drill rigs are performing exploration drilling. Uranerz has identified over 483 kilometers (km.) of alteration-reduction trends on its project areas which cover 38,000 hectares. Uranerz has explored only 15% of the identified trends. One drill is doing delineation drilling for the construction of the well fields.
TER: We’re talking about the Powder River Basin Project in Wyoming?
RM: That’s right. The Nichols Ranch project is expected to produce a maximum of 2 Mlb. of yellowcake annually. Initially, the project is targeting 600,000 to 800,000 lb. per year. The company has long-term offtake agreements signed for a portion of production with two major U.S.-based nuclear operators, including Exelon Corp. (NYSE:EXC). The U.S. produces 27% of the world’s nuclear power from 104 nuclear reactors—these reactors use 50–55 Mlb. of uranium a year but the U.S. only produces 4 Mlb.
Uranerz is a company that has its act together and is definitely sitting at a sweet spot for investors. While there’s a little bit of blood in the streets right now concerning uranium, people should be looking at this sector.
TER: That production could be coming on-stream right about the time when uranium prices could be rebounding.
RM: The spot market is definitely going to tighten up before then and people are going to be looking for long-term contracts. This setback, if anything, makes the market stronger. Prices will eventually move higher.
TER: Potash has somewhat of an inverse relationship to uranium prices. Earlier this month, corn futures reached an all-time high, which ultimately means higher food prices for all of us. It also means there’s a greater need for fertilizer and that bodes well for junior mining companies looking for potash. Do you believe that potash prices will remain as high as they are now?
RM: Yes I do and going higher. Food and how we grow it are going to be dominant investment themes for decades to come. Our population increases geometrically. Our food supply can only increase arithmetically. We’ve got major problems in addition to our growing population. One of the biggest threats we are facing is the loss of arable land that was used for food production. Land is being used for biofuels, topsoil is being eroded away and the agricultural land base is being paved over. We’re destroying our freshwater aquifers. But world population growth and three billion people climbing the protein ladder are the elephants in the dining room. Tonight, 220,000 new mouths will need to be fed at the dinner table.
TER: How does potash mining differ from gold or copper mining?
RM: Unlike other resource plays, potash does not have a cycle. Demand is always going to be there, which makes potash an excellent play in a long-term agricultural commodities bull market. Potash markets are never disrupted by political interference. Food shortages will always trigger social and political instability, such as the riots in the Middle East and Africa. All governments fear a hungry populous.
Companies like Agrium Inc. (NYSE:AGU) and PotashCorp (TSX:POT; NYSE:POT) have very solid bottom lines, but they are mature companies. Investors should start moving down the value chain to junior companies with big potash resources that are going to create value for their shareholders.
TER: What companies fit that bill right now?
RM: We’ve been following three companies on Ahead of the Herd for quite some time now.
Verde Potash (TSX.V:NPK), formerly Amazon Potash, is putting together a fairly large project in Brazil. By the time it finishes, I wouldn’t be surprised if it had enough potash to supply the Brazilian market, the largest potash market in the world, for 30 years.
The company also has phosphate at the Apatita Project and should have a resource calculation out by the end of the third quarter. It is also planning drilling on five other targets bordering their thermal potash product, the Cerro Verde. Recent news suggests they will have a limestone resource as well. This is a company that is definitely in the right area at the right time with the right resources.
The thing about this company that most people don’t realize is that if the potash price is $430/t in Saskatchewan, Canada, it would take $100/t to reach a port in Brazil. Then it would take another $100/t to get it to a blending facility near farmers. The price that Verde’s competing against is not $430—it’s $630—they are already close to that blending facility. According to the last test the company did on its product, thermal potash is about 17% to 19% more effective than KCI, or typical potash.
TER: Verde’s chairman, Peter Gundy, was an executive with PotashCorp. He certainly has some significant background in the potash mining business. He also has the right connections to get the money necessary to bring this company forward.
RM: Absolutely true, and let’s not forget to mention the tremendous efforts of President and CEO Cristiano Veloso, who has done an amazing job pulling it all together, and VP of Corporate Development Jed Richardson, who has been there from day one. Also the government of the Brazilian state of Minas Gerais has signed a memorandum of understanding regarding support for potential financing.
TER: What’s the next name you’re following on Ahead of the Herd?
RM: Western PotashCorp (TSX.V:WPX) has done really well for its shareholders and we were early into this one as well. It’s adjacent to BHP Billiton Ltd. (NYSE:BHP; OTCPK:BHPLF) and Agrium’s exploration permits, and within 13 km. of PotashCorp’s Rocanville facility. The company has 34 Mts. of indicated potash with 245 Mts. of inferred.
Pat Varas and his team have done an exceptional job advancing this project so quickly. The company is doing a prefeasibility study to be completed in the fall, and is planning to start on its feasibility study in August. That’s an amazing amount of engineering going into the project right now. WPX has a memorandum of understanding signed with the city of Regina for water. It’s doing environmental studies and community visits.
Western’s land acquisition program has now successfully secured over 2,550 acres at the company’s preferred plant site location. Securing the plant site location is an important aspect of the ongoing feasibility process as the environmental and regulatory approval processes and project schedules are dependent on it.
TER: Is it a takeover target given its proximity to PotashCorp?
RM: It could be. One of the majors might want to take it and put it on the shelf; the Chinese or Indians have to be interested. I think that’s very possible.
TER: Is there a point where juniors get on the radar screen of larger companies and wake up the sleeping giants like BHP Billiton?
RM: Definitely. I think the major players, the BHPs of the world, are probably looking for at least a prefeasibility study. They want to see solid numbers—capital expenditures and costs of production, net present values and internal rates of return that actually have solid studies behind them. None of these majors have a history of moving too quickly. They’re trudging behemoths that do things at their own pace and need surety in a deal.
TER: There was one more potash company you wanted to talk about. What was that one?
RM: Encanto PotashCorp (TSX.V: EPO) in Saskatchewan, Canada. What makes this one interesting is that they are collaborating with several First Nations groups to develop projects on their lands.
TER: In fact, Encanto was developed with that in mind, right? It was developed with the idea that it would work with First Nations to develop these resources.
RM: Absolutely. The first project Encanto started was developing an 80-to-100-year resource on the Muskowekwan’s land. The goal is to develop a producing mine as quickly as possible. EPO’s upcoming preliminary economic assessment (PEA) remains on schedule to be released in the first half of August. The PEA is designed to determine the most economical method for potash extraction and will make a recommendation on a solution or conventional mining operation.
It hasn’t had the success in the market that Verde and Western have seen because the necessary reserve vote on continuing with development of the project hasn’t happened yet and that creates uncertainty. The vote will happen in the fall; it’s scheduled for late September.
TER: The whole operation hinges on that vote?
RM: Yes. Newly elected Chief Bellerose ran on a pro-potash forum. The majority of candidates also ran on a pro-potash forum, as did all eight successful councilors. I firmly believe it’s going to be passed. But there seems to be some hesitation in the market over it.
TER: If the vote does go through as expected, we could we see a bump in the share price. It’s at $0.23 right now.
RM: The band has approximately 1,050 eligible voters, many of whom don’t live on the home reserve. For the vote to be considered a legal vote, at least 51% of eligible voters must cast a vote. For the vote to be successful, at least 51% of those voting must cast in favor. If a sufficient number of voters don’t participate in the first vote then the vote is considered a failure; a second vote will be held on the home reserve 35 days after the first vote. For the second vote to be successful, a simple majority is required from those who vote. In an effort to ensure that all band members are fully aware of the benefits offered through the partnership with Encanto, Bellerose is holding open sessions in Regina, Calgary, Winnipeg, Saskatoon and Edmonton.
There are really two drivers for the stock: the vote and getting the Home Reserve Lands, which will double the land acreage (and potentially the resource). It’s been a long haul, but I believe that this is going to be a successful company and we’re going to see it move forward.
TER: What are some things that investors should keep in mind when investing in potash companies?
RM: It’s a long-term investable trend and with surging prices for agricultural commodities, farmers are looking to boost crop yields, opening the door for fertilizer makers to raise prices. There might be temporary weaknesses, but everybody has to eat and there are 220,000 more of us at the dinner table every night. So there are compelling reasons to be looking at these companies. Also, these are not cheap mines to build. The companies need management teams capable of going out there attracting the interest from the institutions and raising the money necessary (all three companies I mentioned do). Their neighborhood is also important. Who’s in the neighborhood? Could a company be a takeover target?
TER: Thanks, Rick.
Richard is host of www.Aheadoftheherd.com and invests in the junior resource sector. His articles have been published on over 300 websites, including: The Wall Street Journal, SafeHaven, Market Oracle, USAToday, National Post, Stockhouse, Lewrockwell, Uranium Miner, Casey Research, 24hgold, Vancouver Sun, SilverBearCafe, Infomine, Huffington Post, Mineweb, 321Gold, Kitco, Gold-Eagle, The Gold/Energy Reports, Calgary Herald, Resource Investor, Mining.com, Forbes, FNArena, Uraniumseek, and Financial Sense.
By The Energy Report, on June 26th, 2011
 Domestic demand for fertilizer is good news for small, U.S. potash producers. In this exclusive interview with The Energy Report, Weiss Research Natural Resources Analyst Sean Brodrick explains the international market forces behind agriculture-related stocks and points to the companies that could benefit in the long term.
The Energy Report: I understand you’re not really bullish on energy these days. Can you give me a brief synopsis as to why?
Sean Brodrick: I’m concerned about the perception of a slowdown in the global economy. With so much free money floating around the market, the psychology becomes so much more important. And, right now, people are really worried about a slowdown in the global economy. They’re starting to pull back and retrench.
Recently, we saw a rally in the market that could go on for a while because things have gotten so oversold to the downside. But the fundamentals haven’t changed. We are seeing fewer government financial injections, thus taking away the punch bowl. That weighs on energy stocks and a recovery generally. Also, we’re seeing worrisome news out of China. The country is still using a lot of energy—more each year. But, the demand for copper is falling off quite a bit. In fact, the most recent numbers I saw said that last month we saw Chinese copper demand drop off 47% year-over-year. May was down 6% from April, which was another down month. Copper is often an indicator of the global economy. Now, the Chinese just might be messing with us as they often do because they like to manipulate the market to get cheaper prices, but it also could indicate a global slowdown. If that is the case, then energy prices usually follow. So, we could see lower energy prices for some time.
You and I know that these energy companies make fantastic money even when oil is over $85/barrel. They make great money. But, again, it’s the perception, the psychology. People worry about quarter-over-quarter comparisons. They tend to punish stocks—perhaps a little unjustly, but they punish them anyway. So, we could see more downside in the broad energy sector.
TER: However, I understand you are very bullish on the potash market these days. Why is that?
SB: Short-term perceptions and worries about a global slowdown aside, the long-term reality is that we have 70 million people in China who are joining the middle class every year. We have millions more in places like India and Malaysia. All these people want to eat and live like big, fat Americans. So, the agricultural producers of those regions are hard-pressed to keep up with that demand. In fact, global consumption of things like grains, nuts and seeds—everything except meat—has gone up 2.5 times since 1970 and it keeps accelerating. This is driving the demand for potash, which has gone up something like 5.6% for the last three years in a row. It doesn’t seem like it’s really going to slow down. Now, if we saw a major downturn in the global economy, we would have to worry about that. But until we do, we’re going to see increasing global potash demand because farmers need it to increase their yields. The green revolution sent agriculture yields much, much higher. Now you have to put in a lot more fertilizer just to get incrementally larger yields. The only way you’re going to get those grain yields is by using potash.
Only 12 countries actually produce potash. Canada, Russia, Bellerose and Germany account for more than 75% of the global supply. And only eight companies control 80% the world’s potash production. Do you see how this could lead to a price squeeze? China will probably try to lock in potash supply going forward because of its need to feed its people. As China starts hoarding international potash supplies, we will have to look for domestic sources. That is good news for new, small potash producers in the U.S, which is already an agricultural powerhouse. We are to grain what OPEC is to oil. Increased U.S. demand for potash could certainly make a difference in the share prices of these small companies as long as they can continue to go into production and/or increase production.
TER: The U.S. gets most of its potash from Canada today, correct? What are the small players in the U.S. you like right now? Can they completely fill the domestic potash demand? Where do you see that market going?
SB: Right. Well, I like Intrepid Potash Inc. (NYSE:IPI) in New Mexico. This company seems to be doing things right. This is an example of a stock being punished unjustly. It has been brought down with the rest of the broad market. The correction in the broad stock indexes compressed the price of Intrepid Potash even as the company increased production.
Another one I like is Passport Potash Inc. (TSX.V:PPI, OTCQX:PPRTF), which you and I visited. It is a developer in Arizona with a great project near the American heartland. The company is doing more drilling, moving it along. I think the dominos are lining up. Passport is moving down the path to production of a million tons a year. This company is in a good position to do pretty well, but it has to get into production first.
TER: Passport Potash announced some initial drill results recently.
SB: Yes, they did and boy, they were good. Preliminary results from two core holes showed significant potash deposits at relatively shallow depths. The company intersected 9.5 feet of 12.29% KCL. Some parts were actually richer. More results should be coming in over the summer. As they report those, maybe the market will take a second look. Because of the risk of not being in production yet, Passport has really been punished along with the broader market. But the payoff could be much higher, especially if the company attracts the attention of one of the big boys, which I believe is going to happen down the road. Then I think Passport could do very well. We could see this thing jump quite nicely. Remember, Passport won’t be ripping up a huge hole in the desert with big trucks. This is planned as an in-situ leaching project. Passport will pump solution in one side of the field through the potash deposit and filter it out the other side. So, you don’t move a lot of dirt. That makes it easier to get environmental approvals.
TER: There has been some talk about the possible end of the ethanol subsidy affecting the broader fertilizer industry in the U.S. Do you think that is significant?
SB: It is significant in that it affects market psychology. The market mentality impacts all kinds of stocks. There was some action in the corn markets that you would not believe. However, let’s face it, 2012 is an election year. Do you want to be the political party that takes away the ethanol subsidy when you’re going into the Iowa caucuses? You could argue about whether subsidies are a good thing or not, but I just don’t think it’s politically feasible to take it away. I don’t think it’s actually going to happen. It’s all politics in ethanol.
TER: I hear even Al Gore is now saying that it was a mistake to suggest that ethanol could be a significant alternative energy source.
SB: Right. But that subsidy is probably not going away. It looks like an easy target, but when you take political considerations into account, and you have to, then it’s not a target you’re going to hit. Ethanol subsidies will be in place at least through the 2012 elections.
TER: Thank you very much Sean.
SB: Sure.
A natural resources analyst for Weiss Research, Inc., Sean Brodrick travels far and wide seeking out investment values, primarily among the small-cap and micro-cap players. He edits Weiss Research’s Crisis Profit Hunter and Red-Hot Global Resources, as well as making regular contributions to Uncommon Wisdom Daily. He is also a contributing columnist to Dow Jones MarketWatch and a frequent commentator on one of Canada’s premiere financial websites, HoweStreet.com. Sean’s expertise has led to many financial talk show appearances, including CNBC Squawk Box, Fox Business, CNN, The Glenn Beck Program, Your World with Neil Cavuto and Bloomberg Market Line. He is the author of The Ultimate Suburban Survivalist Guide, a guide to surviving the ever-changing economic landscape from stock market shakeups to oil and currency crises to natural disasters. A graduate of the University of Maine, Sean has more than 25 years experience as a professional journalist and financial analyst, including a stint as investment director of the Sovereign Society—the world’s leading publisher of offshore asset protection strategies and global investment opportunities.
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