Guest post by Isuru Seneviratne, Founder & Portfolio Manager, Radiant Value Management. Isuru has specialized in energy sector analysis and investing since 2004. Visit www.radiantval.com for more information on the author and firm.
While most commodities recovered through 2016, uranium continued on its downtrend since the Fukushima accident of March 2011. Over the year, spot U3O8 prices declined 48% to reach $18 per pound in December, lows not seen since 2004. Spot prices abruptly reversed and sat 46% higher at $26/lb in early February (Exhibit 1). The Global X Uranium Miner ETF generated a total return of 50% for the 3 months ending January, but remains at ~14% of pre-Fukushima highs. Abandoned by most investors, the sector is fertile hunting grounds for contrarian investors. We recently checked the pulse of the industry at the Platts S&P Nuclear Energy Conference in Washington, D.C.
Though current long-term uranium prices of $30-35/lb suffice to cover cash costs at existing mines, no producer makes money full-cycle, based on Ux Consulting analysis of August 2015. New projects will not be underwritten nor shuttered projects revived without long-term contracts at sustainable levels. Thus we expect an erratic march upward through the end of the decade. Before the supply curtailments described below, the Ux Consulting study found that given secondary supplies, “there is enough prospective production below $50 per pound to meet demand through 2023.” Below we highlight positive developments on both demand and supply, but the glacial pace of Japanese nuclear power plant (NPP) restarts and the pending production ramp-up at Namibia’s Husab mine could continue to weigh on prices. In Japan, only 3 reactors out of 35-odd operable NPPs are generating electricity today. In late December 2016, Japan’s Institute of Energy Economics estimated in its reference scenario 14 reactors online (7 in a ‘low restart’ scenario) by March 2018. The Chinese-funded Husab mine is expected to ramp up production to an annualized rate of 15 Mlb U3O8 by end-2017 in a 180 Mlb/a market.
Exhibit 1: Uranium prices per pound. Source: Ux Consulting & Haywood Securities
Supply Cuts Materializing
Despite low prices, production has grown in Kazakhstan and Canada due to prior investments. However, Kazakhstan, where output grew 14%/a between 2001 and 2015, signaled a major reversal in January.
“KazAtomProm is not immune to the challenging market conditions facing the uranium industry… we have an important responsibility to achieve the greatest returns possible regarding our significant geologic endowment of uranium reserves. Putting more and more uranium into an oversupplied market does not serve our various stakeholders’ interests, be they our shareholder… our employees, or impacted communities.”
– Askar Zhumagaliyev, Chairman of KazAtomProm, January 2017
A strategic review by KazAtomProm, the national operator, resulting in a ~10% production cut (5 Mlb U3O8/a vs. ~180 Mlb/a of global demand). Kazakhstan accounts for ~40% of the primary uranium supply, compared to Saudi Arabia’s 13% share in crude oil. Given the significant shift, we are watching for signs of further cuts and for follow-through on stated plans to set up a uranium reserve to reduce spot-market sales. Earlier, Canada-based Cameco, responsible for 24% of global production, announced plans to cut output by 20% (4.3 Mlb/a). While supply cuts are emerging, demand uncertainties remain at the largest consumer.
U.S. Demand Stabilizing
The biggest risk to our uranium investment remains the premature closure of NPPs in the U.S., which consumes 1/3 of the world’s nuclear power. NPPs in deregulated U.S. markets are threatened by low natural gas prices and solar & wind subsidies that have destabilized electricity grids. Exelon, the largest U.S. NPP operator, reports that at 3 of their reactor sites in Illinois, wholesale electricity prices were negative during 4.5-6.7% of all generating hours during 2009-2013 (and 6.6-12.9% of off-peak hours) due to excess wind-based generation. The nuclear industry’s struggles will start easing with the strong rebound in natural gas prices. In late 2016, both New York’s Clean Energy Standard and Illinois’ Future Energy Jobs Bill acknowledged the social cost of carbon, and for the first time credited nuclear power for its zero-emission generation. New York’s plan is for 12 years and covers 3 troubled upstate nuclear plants, but Indian Point, deemed too close to New York City, is to shut down in 2020-21. The Illinois bill was aimed to prevent the premature closure of Clinton and Quad Cities, and will cover a 10-year period. Similarly, Connecticut, Ohio and Pennsylvania legislatures are slated to evaluate long-term solutions over the next 2 years. Nuclear provides 20% of the U.S. grid and 63% of emission-free electricity. While enthusiasm for renewable resources is sky-high, Germany’s experience highlights how overreliance on wind and solar can be counterproductive. Energiewende, the most ambitious greenhouse gas emission reduction program ever attempted by an industrialized nation, is estimated to cost €520bn between 2010 and 2025 per the Düsseldorf Institute for Competition Economics. Despite €150bn already spent, the forced shuttering of nuclear plants has caused emissions to rise for 2 years in a row, even as German electricity is the most expensive in Europe.
As uranium prices weakened due to Japanese and German demand reduction, global electric utilities that own NPPs largely postponed signing long-term contracts with uranium miners, shifting market terms shorter and volumes smaller. This has left utilities with historically high ‘uncovered’ uranium needs, requiring the purchase of ~1 billion pounds of U3O8 over the next 10 years. We expect prices to appreciate as utilities re-enter the long-term market in a meaningful way. The recent price recovery could be partially responsible for the increased buyer interest recently observed by Ux Consulting, as utilities look to lock in prices.
The U.S. consumes 46.5 Mlb U3O8/a, but in 2016 domestic production declined to a mere 2.9 Mlb, 7% of consumption. Kazakhstan, Russia and Uzbekistan provided ~40% of U.S. uranium purchases, in stark contrast to an ‘America First Energy Plan.’ Rick Perry, the incoming U.S. Energy Secretary, has committed to review U.S. Department of Energy’s sale of 5-8 Mlb U3O8-equivalent/a, long-term nuclear waste storage and the staggering regulatory burdens that have hurt the industry. For the first time, Republican leaders are promoting a market-based climate tax-and-dividend solution that helps working-class Americans. Nuclear would benefit from such a technology-neutral plan, unlike the Obama administration’s prescriptive Clean Power Plan. As was demonstrated in New York and Illinois, preserving nuclear power is an issue that can unite progressives, conservatives, labor unions, businessmen and environmentalists. U.S. producers with low environmental footprint and local support may be the first to benefit from these developments.
Clean and Safe Electricity
Many of the world’s fast-growing cities are facing severe air quality crises. In 20 mega-cities across China and India, air pollution is many multiples of levels considered safe by the World Health Organization. While renewable resources are helping, only nuclear generates emission-free baseload electricity. China currently has 31.6 GW of nuclear power (35 reactors) in service and 24.2 GW capacity (22 reactors) under construction. The government seems unlikely to meet its 2020/21 goal of having 58 GW online plus a further 30-35 GW under construction, partially due to slower-than-expected growth in electricity demand.
Exhibit 2: Health effects of electricity generation in Europe by primary energy source Source: Electricity generation and health – Anil Markandya and Paul Wilkinson, The Lancet, September 2007
All forms of energy have costs beyond the price paid by the customer. The most misunderstood aspect of nuclear power is its safety record. While fear of nuclear is maximal, its actual deaths and illnesses are extremely low on a per-TWh basis (Exhibit 2). The above study was conducted before Fukushima. However, six years after the accident, doctors corroborate a 2013 UN report which found the radiobiological consequences to be negligible and future deaths from exposure extraordinarily unlikely. However, the clean-up cost of the accident is astronomically high – recently estimated at ¥21.5 tn ($188 bn). Even if the nuclear renaissance stalls, existing NPPs and those under construction will need uranium to keep the lights on.
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