Just less than a year ago on July 26, 2006, I inaugurated my uranium field bet to play the long-term growth in nuclear power and the wave of demand for uranium to power these plants. The field bet has proven successful, up on average more than 100 percent since its inception and up 25 percent so far in 2007.

However, the ride hasn’t been completely trouble free. There have been a few notable pullbacks in these stocks during the past 12 months.

Although spot uranium oxide (aka yellowcake) prices are still up more than threefold over the past year and have nearly doubled since January, much has been made of the tiny 6.5 percent drop in spot prices since the middle of June. Many uranium-related stocks are down 20 to 30 percent from their early April highs.

But this type of pullback isn’t at all unusual; it marks an opportunity, not a cause for concern. Spot market prices are heavily influenced by short-term events, and the summer is seasonally weak for uranium stocks. Meanwhile, the vast majority of uranium is actually sold under long-term contracts—not in spot deals—and prices for these contracts are still at multi-year highs.

The intermediate- to long-term case for owning the group is intact and undimmed. Like other pullbacks during the past few years, I see the current move as an opportunity to jump in ahead of a further run-up later this year.

In This Issue

In this issue, I offer a detailed update of the global uranium market, coming demand and prospects for supply. I’ll also take a closer look at short-term action in the spot market as well as signs of continued strength in the contract market for uranium. Finally, I’ll take a look at how to play the uranium bull trend.

Nuclear power plants are an excellent source of electricity generation, but several Western countries have been opposed to new construction because of prior disasters at nuclear plants. Meanwhile, other Eastern countries are ramping up production as increased electricity demand begins to set in. See Uranium Demand.

There are primary and secondary sources of uranium available for consumption. Although there are several secondary options available, none will be sufficient enough to last in the long term. See Uranium Supply.

As uranium prices have risen considerably in the past few years, so has interest in new exploration and development of mines. Owners of some of the largest reserves in the world are now estimating what they can produce. See Primary, Mined Construction.

Spot price concern is abounding on the Web because of a recent 6.5 percent drop in uranium, never mind the 79 percent they’ve gain so far in 2007. Some market changes may factor in to the drop but shouldn’t affect prices negatively going forward. See Short-Term Considerations.

I offer several different ways to play the uranium market within the TES Portfolios. Most of these have done very well. Here’s an update. See How to Play It.

In this issue, I’m recommending or reiterating my recommendation on the following stocks:

• Cameco (NYSE: CCJ)
• Exelon (NYSE: EXC)
• Electricité de Franc (Paris: EDF)
• Paladin Resources (Australia: PDN, TSX: PDN, OTC: PALAF)
• Pitchstone Exploration (TSX V: PXP, OTC: PEXPF)
• UEX Corp (TSX: UEX)
• UNOR (TSX V: UNI , OTC: ONOFF)
• Uranium One (TSX: SXR, OTC: SXRFF)
• Uranium Participation (TSX: U, OTC: URPTF)
• Uranium Resources (NSDQ: URRE)

Uranium Demand

Because nuclear power plants are used for electricity generation, it helps to review a few basic terms surrounding the industry and electricity in general. Most consumers are familiar with the basic unit of electricity, the watt; almost all household electrical appliances, from light bulbs to microwaves, are rated by how many watts they consume.

Technically speaking, a watt is equal to one joule of energy per second. To put that into context, one joule is equal to 0.24 calories and there are around 1,055 joules in a British thermal unit (Btu). Long-time subscribers will be familiar with the Btu; it’s the amount of energy needed to heat one pound of water by 1 degree Fahrenheit.

Of course, the watt is a rather small unit of measurement. Typically, the standard measurement of electricity is the kilowatt hour (kWh), the amount of electricity consumed by a 1,000-watt load over a period of one hour. So, for example, a 500-watt microwave operating more than two hours will consume 1 kWh of electricity.

Most consumers are familiar with kilowatt hours because utility bills are typically quoted in terms of how many kilowatt hours are used in a given month. Utilities also charge a certain amount for each kilowatt hour to determine monthly fees.

Larger still is the megawatt (MW), equivalent to 1,000 kilowatts. This is the standard measurement of a particular power plant’s size. Therefore, a plant with a total generating capacity of 1,000 MW operating at full capacity will produce 1,000 megawatt-hours (MWh) in an hour, or 1 million kWh.

Finally, you’ll sometimes hear the terms gigawatt and gigawatt hours, particularly used in reference to a particular country’s total electric production capacity. A gigawatt is 1,000 megawatts.

According to the World Nuclear Association (WNA), the world’s fleet of nuclear power plants generated about 2,658 billion kWh of electricity in 2006. That accounts for about 16 percent of total global power demand for the year.

In total, there are currently about 437 nuclear reactors worldwide with a total operating capacity of 370,040 MW. To supply these reactors with sufficient fuel will require about 78,458 metric tons of uranium oxide, or roughly 173 million pounds.

But that’s only the beginning. Check out the chart below.


Source: WNA

This chart shows data from the WNA on four categories of nuclear plant capacity: current operating plants, plants that are currently under construction, planned and ordered plants, and proposed plants. Obviously, each of these categories is a bit less certain than the category that precedes it.

Plants currently under construction are on ground that’s physically been broken and on which concrete has been poured; these are likely to be completed. Planned plants typically have funding and approvals in place but are somewhat less likely to be completed than plants under construction. And proposed plants likely have considerable permitting and approval hurdles to clear; these could be years away from completion, and there are plenty of potential roadblocks.

Nevertheless, the trend here is clear. Reactors currently under construction will add another 6 percent to global nuclear capacity. If we include planned and ordered plants, that figure jumps more than 28 percent in capacity. And, of course, if all the currently proposed plants are actually built, global nuclear capacity could jump by close to 70 percent.

Consider also that, according to WNA figures, each gigawatt of additional power capacity spells another 195 metric tons (430,000 pounds) per year of additional uranium demand. And that’s just an ongoing figure; the Energy Information Administration (EIA) estimates that a power plant needs three times that uranium in its first year of operation to load the reactor.

Of course, it will take considerable time for all these plants to be built. And it’s likely that not all of the proposed plants and, for that matter, the planned plants, will actually be finished and put into operation. Some plants will be built simply to replace older plants that are no longer efficient or have been operating for too long and are due for decommissioning.  

Nonetheless, the WNA’s reference case is that global uranium demand will be around 110,000 metric tons (243 million pounds) by 2030. The organization also suggests that, in a more optimistic case where nuclear power plant construction accelerates globally, this figure could be closer to 350 million pounds of uranium required.

Although these are just estimates, it’s worth noting that the epicenter of new plant construction is the emerging markets. Check out the chart below illustrating where plants are being sited or proposed. (This includes planned, under construction and proposed plants.)


Source: WNA

Although new plant construction is never a sure thing, many of the big planned plant builders are countries that are committed to nuclear power. For example, China is currently in the process of building four plants with a total capacity of 3,170 MW and just completed two plants; contrast that to the US and most of Europe, where few new plants have been built in decades.

The planning, siting and permitting issues that seem to plague many would-be nuclear power plant builders in the West haven’t been as big problems in China. And faced with the reality of China’s rapidly growing demand for electricity, described at length in the July 26, 2006, issue of TES, The Nuclear Option, China’s government is committed to nuclear power plant construction.

Also note that the European countries where opposition to new plant construction is most fierce aren’t represented at all on these tables. Clearly, no new plant construction is proposed, planned or underway in Germany.

In fact, the only countries in Western Europe that have any plants currently under construction—planned or proposed—are Finland and France. Combined, these two countries have around 5,000 MW of capacity in the works. This figure represents less than 2 percent of all plants proposed worldwide.  

Eastern Europe is friendlier to nuclear power and, to an extent, more concerned about Europe’s growing reliance on imported natural gas from Russia. (See the June 20 issue of TES, Europe’s Gas.) Slovakia, Slovenia, Lithuania and Bulgaria all have plants in various stages of construction or proposal. But these are small countries with modest yet growing electricity demand; these planned new buildings barely register on a global scale.

Bottom line: I often hear investors express doubt about whether all the nuclear plant buildings currently proposed globally will be built. In my view, this reaction is logical in the context of current European and American politics and regulation. But it’s worth remembering that most of the planned new plant buildings aren’t in Europe and the US.

Therefore, it won’t require a major shift in US or EU policy toward nuclear power to make currently proposed plants a reality. Such a shift would actually be additive to the WNA statistics I’ve outlined above. The real growth will, in fact, come from countries like Russia and China, where a new generation of nuclear plants are already becoming a reality.

The big wild card on the demand front is global warming. As always, I’m not trying to make a judgment as to whether global warming exists or how big an issue it is for the world. My goal in this newsletter isn’t to save the world; it’s to recommend stocks that make money. In that regard, attitudes toward global warming and regulation designed to limit carbon-dioxide emissions can’t be ignored.

This is a positive for nuclear power. Historically, the groups most opposed to global warming have been environmental groups. In Germany, for example, the Green Party was behind plans to legislate the closure of all of Germany’s nuclear plants.

The German Green Party has historically taken strong stances on environmental issues and has been anti-nuclear from the beginning; in fact, in the wake of the 1986 Chernobyl disaster the Greens saw their popularity in Germany double. And, of course, it’s not just Germany but the US, France and the UK where opposition for nuclear tends to come from environmental groups.

That anti-nuclear position is becoming less palatable because of global warming. Specifically, carbon legislation has become the cause célèbre for environmentalists all over the world.

And because nuclear power is carbon free, it’s an obvious candidate for helping to reduce the world’s emissions of greenhouse gasses. The opposite is also true: Any policy to shut down nuclear plants or reduce nuclear capacity is certain to increase greenhouse gas emissions under any imaginable scenario.

I don’t mean to pick on Germany, but its decision to phase out nuclear power offers an obvious case-in-point. Consider the following excerpt from a June 4, 2007, communiqué from the International Energy Agency (IEA):


Source: IEA, June 4, 2007, press release

Clearly, the IEA has concluded that, “without a doubt,” a nuclear phase-out would limit Germany’s ability to reduce carbon-dioxide emissions. Signs are beginning to emerge that the German public and Chancellor Angela Merkel agree with the IEA.

A series of polls taken earlier this year indicate that more than 60 percent of the German public disagrees with the decision to phase-out plants by 2020 as currently legislated. And earlier this month, the German government unveiled a study that shows that the government’s own greenhouse gas targets just aren’t feasible in light of a policy of nuclear plant closure.

It’s widely rumored that Merkel will look to reverse the anti-nuclear policy and perhaps promote new plant construction. This is a concrete example of how global warming and carbon legislation are forcing a re-examination of nuclear power.

Not all environmental groups are opposed to nuclear power. One group, the Environmentalists for Nuclear Energy (EFN, http://www.ecolo.org/), is firmly in support of nuclear power. EFN President Bruno Comby has written two guest articles for The Energy Strategist; check out the July 26, 2006, issue and the May 31 issue, Stability in Income.

All said, after roughly two decades in which few new nuclear plants were built, nuclear power is back in growth mode. This spells a considerable rise in demand for uranium in the next 20 to 25 years. And if global warming does melt opposition to new plants in the EU and US, this will undoubtedly increase demand for uranium even further.

Back To In This Issue

Uranium Supply

There are really two sources of uranium supply globally—primary and secondary supplies. Primary supplies refer to natural uranium produced in mines globally. At a uranium conference in late May, mining giant Rio Tinto stated that total output from global mines was 46,530 metric tons (103 million pounds) in 2006.

As explained above, total global consumption was around 173 million pounds; the world consumed 70 million pounds of uranium more than were produced in mines last year. Therefore, global mine production accounted for about 64 percent of global demand. There are few commodities to be found anywhere in the world where the gap between mine production and global consumption is so large.

This global uranium supply gap is filled through so-called secondary uranium supplies. There are several categories of secondary supply, many discussed at some length in the July 26, 2006, issue. To review, the key categories of secondary supply include reprocessed “spent” uranium fuel, reprocessed highly enriched uranium (weapons-grade) stockpiles and private-sector/government stockpiles, and reduced tails assays. Here’s a brief review of each of these categories:

Reprocessed “spent” fuel–Once nuclear fuel is first burned in a plant, it’s known as “spent” fuel. However, spent fuel actually has 96 percent of the potential energy that it had when it was first loaded into the reactor.

One component of spent fuel is plutonium, which is created during the process of the nuclear reaction itself. Plutonium can be burned in a nuclear plant just as uranium is, producing a similar level of energy output. In fact, some plutonium is actually created and burned during nuclear reaction even in unprocessed fuels; burning of plutonium accounts for as much as a third of energy produced in a reactor that’s not burning reprocessed fuel.

Spent fuel rods can be reprocessed into what’s known as mixed-oxide fuel (MOX). Basically, the plutonium is removed from the spent fuel rods and mixed with depleted uranium; depleted uranium is the waste product of uranium enrichment.

This fuel is roughly equivalent to conventional fuel rods derived from natural uranium and can be burned in plants designed to handle MOX fuels. According to the WNA, the reprocessing of spent fuel rods can recover 12 to 22 percent more energy from the original uranium than simply disposing of the rods.

Currently, MOX fuel accounts for about 2 percent of global reactor fuel. Therefore, it currently displaces roughly 8.4 million pounds of mined uranium per year; the WNA estimates this will increase to about 5 percent of reactor fuel by 2012.

Highly Enriched Uranium (HEU) supplies–Military-grade uranium is known as HEU because it’s enriched to a far higher degree than fuel used in power plants. Basically, there are two components of uranium oxide (U-308, known as yellowcake)—stable U-238 and unstable U-235.

In naturally mined material, U-238 accounts for more than 99 percent of the uranium; this must be boosted to 3 to 4 percent for power plants or 97 percent to make HEU for nuclear weapons. The process of boosting U-235 content is known as enrichment.

You can also take HEU and blend it back down so that it’s suitable for use in power plants. For example, this can be accomplished by mixing HEU with depleted uranium.

The bottom line: Since 1999, the WNA estimates that down-blended HEU has replaced some 10,600 metric tons of mined uranium per year. This represents the largest single source of secondary supply.

Stockpiles–There are several sources of stockpiled uranium and uranium products in the world. For example, both the Russian and US governments have stockpiles of weapons-grade material and natural uranium that could be sold on the market.

Also, USEC has remaining stockpiles of nuclear material that could be sold. And the WNA estimates that hedge funds and other investment vehicles—such as TES uranium field bet recommendation Uranium Participation Corp—own and control around 10,000 metric tons (22 million pounds) of U-308 or equivalent.

In 2006, the WNA estimates that Russian exports of stockpiled uranium and equivalents accounted for about 9,633 metric tons of supply (21.2 million pounds).

Tails Assays–Tails assays aren’t really a secondary source of uranium at all; rather, this is simply a way of getting more usable nuclear material from an equivalent amount of natural uranium. I explained this at some length in the July 26, 2006, issue.

But to review, the term “tails” refers to the waste stream from uranium enrichment. To make uranium for power plants requires taking natural uranium that’s composed of 0.71 percent U-235 and boosting it to 3 to 4 percent U-235.

The waste stream from the process is depleted uranium containing a smaller amount of U-235; 0.20 to 0.35 percent U-235 is typical for tails. There’s a tradeoff here between the cost of enrichment and the quantity of natural uranium consumed in the enrichment process.

By more fully enriching the natural uranium, the tails can be depleted further. This means you can produce more nuclear fuel out of a given quantity of natural uranium. However, this requires more enrichment work, so the cost of enriching the uranium is higher.

In recent years, the tails have been falling. This is likely because companies want to minimize the quantities of natural uranium consumed during enrichment. This obviously has helped to keep demand lower than it would otherwise be; more fuel is being squeezed from the same quantity of uranium.

To get an idea of exactly where the world’s secondary supply sources have been coming from, the chart below offers a good overall summary.


Source: Rio Tinto, WNA

The problem with secondary sources is that most analysts agree these sources will be declining in coming years. For example, much of the HEU and reprocessed nuclear fuel hitting the global market is a result of an agreement between the US and Russia known as “Megatons to Megawatts.” Basically, the purpose of this agreement is to reduce stocks of nuclear weapons in both Russia and the US and make sure this weapons-grade material can’t be used in the manufacture of new weapons.

Once this fuel is down-blended and burned in a plant, it’s not suitable for weapons production. Therefore, Megatons to Megawatts was a way of reducing stockpiles while also supplying a useful product.

The agreement expires in 2014 when both countries are expected to have met their targets for reduction. The Russians have said they’re not interested in renewing the agreement.

The US, for its part, has committed to selling its remaining stockpiles in such a way that it won’t have a major effect on the market price of uranium. Some pundits also believe that a good portion of US and Russian stocks are contaminated and would, therefore, require significant additional processing to become available as nuclear fuel.

Some of this material will hit the markets, but the bottom line is that government stocks, Russian sales and reprocessed warheads will become a far-less-meaningful supply of uranium post-2014.

Then there’s MOX fuel from reprocessed spent fuel. MOX fuel is likely to become a more important source of fuel in the future. The WNA predicts it will move from about 2 percent of global supply to 5 percent by 2012.

Some of this will be a result of additional capacity currently being installed to handle such reprocessing. Also, some countries are designing or refitting reactors to burn higher proportions of MOX fuel.

But MOX isn’t exactly a panacea. First, traditionally the cost of MOX fuel has been higher than the cost of rods produced from natural uranium. Although it’s hard to know for sure, this may have changed somewhat with uranium prices above $130 per pound.

That said, the key point to note is that U-308 prices have to be relatively high to make increased MOX fuel use economically attractive. Therefore, the cost of producing MOX fuel is really a support for uranium pricing.

Furthermore, capacity to reprocess waste into MOX fuel is limited. Check out the chart below for a closer look.


Source: Areva, WNA

Although capacity for MOX fuel is projected to rise considerably in the next few years, the amounts of fuel actually supplied to market will likely be limited.

Finally, consider the tails assay issue. As noted above, you can conserve natural uranium by reducing the tails from the enrichment process. The problem is that reducing tails involves doing more enrichment work; enriching uranium carries a considerable cost.

The world is currently limited in terms of how much enrichment work is being done. In other words, reducing tails much further from current levels likely wouldn’t be economically attractive. All told, the chart below outlines the mix between mined and secondary uranium in the next several years.


Source: Rio Tinto, WNA

This chart uses the WNA base reference case for uranium demand growth globally. As I noted in the demand section above, actual uranium demand could be much higher than that if nuclear plant buildings accelerate globally.

But the key point to note here is that not only is global uranium demand increasing because of new plant building but the percent of that supply that needs to come from mines is also on the rise. Therefore, secondary supply sources currently account for roughly 34 to 35 percent of global demand; by 2002, that figure will shrink to just less than 12 percent. The result of that scenario is that the call on global uranium mines will increase at a faster pace than overall uranium demand.

Back To In This Issue

Primary, Mined Production

This leads us to the question of how and where new mined supplies of uranium are going to come from to fill this growing gap. Obviously, with secondary supplies shrinking, the 35 percent gap between mined uranium and uranium demand isn’t sustainable.

In this regard, the price system is working like a charm. As uranium prices have risen considerably in the past few years, so has interest in new exploration and development of mines. So, with uranium prices under $10 per pound in the 1990s and the first part of this decade, there was almost no exploration activity outside some small add-on projects by the major producers. In fact, a huge number of uranium producers actually went bankrupt during the long U-308 bear market of the ’80s and ’90s.

But as prices have risen, so has interest in exploration and expansion of existing facilities. This is how every commodity cycle operates. The problem is that you can’t turn on production as if it were a light switch. It takes years to find reserves, build a mine, get permits and actually start production.

This process is also expensive and far from risk free. That’s why commodity cycles take so many years to play out; higher prices bring a supply response, but supply can adjust only slowly to demand.

In the case of uranium, new mine supply is coming but the market will likely remain tight through at least 2012 and possibly longer. And just as oil producers need crude to remain above $40 to $45 per barrel to make expensive deepwater and oil sands developments economically viable, uranium producers need relatively high uranium prices to make their new projects feasible.

When it comes to existing production, about three-quarters of global uranium production currently comes from a dozen mines. Moreover, the top 7 global mining firms account for 83 percent of global production. Check out the two charts below for a closer look.



Source: Rio Tinto uranium datebook, WNA

2006 Mines
Mine	Location	Owner	Production (metric tons/year)
McArthur River	Canada	Cameco	7,200
Ranger	Australia	ERA (Rio Tinto)	4,026
Rossing	Namibia	Rio Tinto	3,067
Krazbokamensk	Russia	TVEL (State-owned)	2,900
Olympic Dam	Australia	BHP Billiton–by-product mine	2,868
Rabbit Lake	Canada	Cameco	1,972
Akouta	Niger	Areva/Onarem	1,869
Arlit	Niger	Areva/Onarem	1,565
Akdala	Kazakhstan	Uranium One	1,000
Highland Smith Ranch	US	Cameco	786
Beverley	Australia	Heathgate	699
McClean Lake	Canada	Cogema	690

Source: Rio Tinto uranium datebook, WNA

I won’t bore readers with a rundown of the prospects for all these mines. But it’s worth hitting a few highlights.

Cameco is currently the world’s No. 1 producer. It owns the world’s largest uranium mine in production terms, McArthur River. This mine alone produces about 18 percent of the total world production.

Cameco has proposed to increase the production from this mine 40 percent to 22 million pounds of U-308, equivalent to about 10 million metric tons. But this will likely take years to accomplish. And for now, Cameco has only factored in a continuation of current production through 2011.

Cameco also owns the sixth-largest mine in the world, Rabbit Lake. This mine is, however, seeing declining production, and Cameco estimates production will fall gradually from 5.5 million pounds this year to 1.9 million pounds by 2011. That’s a fall from 2,500 metric tons to 861 metric tons.

Cameco also has a handful of relatively new mines that it’s counting on to provide most of its planned production growth in the next several years. The company’s in-situ leach (ISL) mines—see the July 26, 2006, issue for an explanation of ISL mining–in the US are expected to add another 2.2 million pounds (1,000 metric tons) of annual production. Meanwhile a mine in Kazakhstan called Inkai should begin producing in 2008 and offer another 3.1 million pounds (1,400 metric tons) of production by 2011.

But the real source of production growth for Cameco was expected to be its Cigar Lake mine. Cameco has estimated that it could produce as much as 18 million pounds (8,165 metric tons) per year out of Cigar Lake at peak production; as recently as a few weeks ago, Cameco was forecasting 4.5 million pounds (2,000 metric tons) per year as of 2011.

As long-term readers are well aware, this mine has been the source of a long list of problems lately. Cameco had a rockfall and a major flood at the mine late last year; this event prompted the dramatic run-up in spot uranium prices since October 2006. (I described this accident at some depth in a Oct. 26, 2006, flash alert, Busy Earnings Season.)

Last week, Cameco once again delayed the start of estimated production from the mine to sometime in 2011. The company further stated that it would provide more specifics as to just how quickly it will be able to ramp up production from the mine after startup.

My bet is that, given the problems with this mine, the company has little or no chance of producing the 4.6 million pounds slated for 2011. Most likely, the accident will result in a lengthy production delay as well.

Of the other big existing mines, Energy Resource Australia’s (majority owned by Rio Tinto) Ranger mine has seen its life extended to 2011. But this mine is in decline right now: 2003 production was more than 5,170 metric tons, while the WNA estimates last year’s production at 4,000 metric tons.

To make matters worse, this mine also flooded this year because of unusually heavy rains. Ranger will see 2007 production at about the same level as 2006. But 2008 production will likely be 25 to 30 percent lower than current levels. There are some plans to access lower grade reserves and extend the mine life.

Rio Tinto’s Rossing mine is more promising. Many of the existing mining areas will be depleted by 2009, but Rio is already expanding into new reserves to extend the mine life to 2017. The company has just completed a strategic review of this mine, and there are plans to expand production even further than that.

There’s a real possibility this mine, located in Namibia, could produce as much as two to three times what it produces now. That would mean some 10,000 metric tons or so per year. Most of this production wouldn’t come on line before 2012 at the earliest, however. There are few details beyond that at this time, but I expect to hear more in the coming year.

The other 800-pound gorilla out there is BHP Billiton’s Olympic Dam mine. Although this may well be the world’s largest uranium mine in terms of reserves, uranium isn’t really the main target of mining operations there. BHP primarily develops it as a copper mine, where uranium is a valuable by-product.  

BHP has plans to expand its Olympic Dam operations to increase production of uranium, copper and other metals. Details are fairly sketchy, but some estimate that the output from this mine could be expanded from the current 6.3 million pounds per year to more than 20 million pounds. But there’s a catch: This expansion won’t come on stream until at least 2015.

Of course, these are just a few of the planned expansions and new mines proposed by the senior uranium mining firms. The smaller capitalization junior miners plan a host of additional mines; many are owned by stocks I recommend as part of my uranium field bet and are described in my individual stock updates below.

The key takeaway from my brief overview of new mines and capacity is that new production is indeed coming. Higher uranium prices are certainly encouraging more exploration and investment.

However, most of that production isn’t coming on stream until 2012 to 2015. Therefore, the uranium market is likely to remain tight until at least that time frame. After that, developments in the uranium market will depend more on the outlook for demand and new plant construction.

Back To In This Issue

Short-Term Considerations

Above, I outlined some of the longer-term issues facing the uranium markets; like many energy commodities I cover, uranium is in a long-term secular bull market. But, as with all great bull markets in history, there are always corrections in an uptrend.

It’s important to at least understand what’s going on in the uranium markets from a shorter-term perspective. Check out the chart of spot uranium prices below.


Source: Bloomberg

This chart shows spot uranium prices going back to 1997. As you can see, during this time period, uranium prices climbed from less than $10 per pound to as high as $138 per pound last month.

I find it rather amusing just how many stories I’ve read on the Web talking about the recent decline in uranium spot prices. For the record, spot prices have declined about $9 per pound in the past month, or roughly 6.5 percent as I noted earlier.

Although this is the first decline in a little more than four years, the amazing thing to me is that uranium prices didn’t decline at all week-over-week for four years, not that they’ve since declined 6.5 percent in the month. As the chart above shows, so far this decline barely registers. The fact is that spot uranium prices are up 79 percent this year, 180 percent over the past year and even up 14 percent over the past three months.

I’m not surprised that spot uranium prices have fallen slightly in the past few weeks; prices went far further than I’d expected them to in the past year. My target last year was $100 when uranium prices were still around $50 to $55; that turned out to be ridiculously conservative.

What puzzles me, however, is the media’s newfound fixation on spot uranium prices. Recall that spot prices are the price of uranium for immediate delivery.

The simple fact is that the spot market accounts for only a tiny amount of the uranium market. Last year, around 35 million pounds of uranium traded on the spot market, right around 20 percent of total global demand; this is actually about double the percentage that traded five years ago.

But to put that into perspective, more than 200 million pounds were actually priced and contracted under longer-term supply agreements. Therefore, as you can see, long-term supply agreements truly govern the profitability of mining firms, not spot prices.    

This makes perfect sense. Utilities make huge upfront capital investments in nuclear plants, so they want to run these plants as consistently as possible. Utes can’t afford to gamble with uranium supplies; their prime concern is assuring reliable long-term delivery.

The spot market price of uranium reflects activity in only one small nub of the uranium market. This market also reflects only very short-term demand and supply considerations, not the intermediate- to longer-term bullish picture I outlined above. The current situation is that, in the short term, uranium supply exceeds demand.

The uranium spot market isn’t conducted on the floor of an exchange; rather, it’s conducted through a series of auctions and over-the-counter transactions. So information, demand and other factors aren’t really as transparent as they are for other markets.

However, the prevailing sentiment is that a number of buyers who’d been active in the spot market stopped buying as aggressively late last month. There’s no way to know exactly why that happened; perhaps utilities began to balk at the rapid rise in spot prices or perhaps they’ve satisfied their immediate needs.

Alternatively, in the last couple years, funds and hedge funds have accounted for about a third of the spot market. It could be that these investors slowed their buying as prices rose.

We also know that some investment funds with physical uranium have been lending that uranium to utilities to ease short-term supply constraints. (TES field bet recommendation Uranium Participation Corp recently admitted that it’s participating in the lending market.) This lending activity may also be taking some demand away from the spot market. But this doesn’t mean there’s any decrease in demand.

At any rate, according to TradeTech, a uranium data service, there were about 3.4 million pounds of U-308 available on the spot market last week, with only a limited number of small interested buyers. This has put downward pressure on prices.

Again, however, it’s important to stress than 3.4 million pounds is equal to about 1.95 percent or less of global uranium demand. These aren’t big numbers.

There also appears to be a fear among some pundits that the funds that have built up physical uranium stocks during the past few years may suddenly panic and dump their estimated 20 million pounds on the spot market because of the recent temporary slump in demand. This is ridiculous in my view.

First, it’s worth pointing out that most of the funds out there–including Uranium Participation Corp and at least one hedge fund I’m aware of–started buying uranium in 2004 and 2005 at far, far lower prices than today. Even if uranium spot prices fell to $70 to $80, where they were at the beginning of 2007, these funds are making plenty of money.

Don’t assume these investors are stupid; they’re as keenly aware as all of us that suddenly dumping their inventories on the market wouldn’t help their cause. More likely, they’ll be looking to buy more on a dip.   

Long-term price indicators published by the major uranium data providers still stand around $90 to $95 per pound. This figure probably more closely approximates the demand and price for long-term uranium supply contracts.

It also likely more closely approximates the long-term real supply demand scenario. Certainly, the comments we’ve been hearing from the big producers don’t support a bearish long- or even intermediate-term scenario for U-308 prices.

Take Rio Tinto as an example. The company outlined its uranium marketing and sales system in its late May investor call.

The company typically sells uranium under three- to five-year contracts; the lead-time on those contracts is around two to four years. In other words, if you’re a utility contracting for supply today, a typical contract might be signed for delivery beginning in 2010 and lasting out to 2012 to 2015.

This is a fairly common scenario for the industry. What’s changed is that prior to 2006, Rio often signed straight fixed-price contracts and contracts that were indexed to spot prices but had ceiling prices.

In many cases, the buyer had the flexibility to adjust up or down the quantities of uranium delivered under the contract and the timing of those deliveries. Although no contracts are exactly alike, the key point here is that these clauses suggest that the buyer held the pricing and market power. This was a buyer’s market.

After 2006, the market changed. Rio is doing more market-related contracts with no ceilings. And in some cases, Rio has negotiated price floors on long-term contracts so that it’s guaranteed at least a minimum price.

Further, Rio has often negotiated in the right to adjust the volumes of uranium it delivers; however, the buyer no longer has this flexibility. These contract terms define a seller’s market.

Right now, about three-quarters of Rio’s contracts were signed in the pre-2006 era. But by 2009, that figure drops to around a third, and by 2011, it should be less than 10 percent.

Therefore, Rio Tinto plans to continue pushing a far-more-aggressive contracting policy than it did before 2006. This isn’t exactly the sign of a producer worried about long-term uranium supply or any sort of a uranium glut.

I discussed Cameco’s contracting situation at some length in the July 26, 2006, issue. Little has changed since that time.

At a recent presentation, the company outlined that, back in 2001, 100 percent of its contracts included price ceilings and none had price floors. Also, the typical contract allowed the buyer to adjust the quantity of uranium delivered up or down by as much as 25 percent.

Fast-forward to 2007 and the company is putting in floor prices that escalate over time into its new contracts. In addition, Cameco isn’t offering any delivery flexibility to the buyer and has eliminated price ceilings. Even better, Cameco is signing a lot of contracts at these attractive terms for terms of as long as 11 years into the future.

Finally, two additional points are worth noting on short-term action in the group. First, takeover activity has been strong; the top takeover targets are companies with existing or near-term production potential.

One of my previous uranium field bet picks, Energy Metals, agreed to an all-stock acquisition deal by another field bet pick, Uranium One, in early June. Although the fundamentals for Energy Metals remain strong, I recommended selling the stock and taking a 240 percent gain since my recommendation last July. Because Energy Metals shareholders will be receiving Uranium One stock and I already recommend Uranium One, I see no reason to be double exposed to this one company.

This deal is illustrative of what’s to come in my view. Given the recent correction in uranium stocks, I won’t be at all surprised to see big uranium firms use the weakness as an opportunity to boost their reserve and production position. Field bet pick Paladin Resources has made several purchases in the past year, and earlier this week, rumors were swirling that Cameco was planning to acquire Paladin.

Although Paladin denies those speculations, Cameco has stated on multiple occasions that it’s constantly on the prowl for attractive acquisitions of juniors with production/ reserve prospects. I certainly wouldn’t discount the possibility out of hand.

Finally, it’s important to reiterate that this isn’t the first time the uranium stocks have corrected. The junior miners I recommend in the field bet have all seen 30 percent-plus corrections from time to time in the past five years. These have typically proved to be buying opportunities for those with the courage to step up.

I wouldn’t be surprised to see the uranium stocks remain volatile and choppy near term given the pullback in spot prices. However, the group has already priced in a lot of the bad news surrounding the temporary uranium spot price decline, and I suspect most stocks trade higher by year-end. Bottom line: If you’re not in the uranium field bet picks yet or pared down your positions last March as I suggested in TES, now’s the time to start buying into the group again.

Back To In This Issue

How to Play It

We play the nuclear theme via three main avenues in TES: utilities with heavy exposure to or experience with nuclear power, senior uranium miners and the more-aggressive nuclear field bet. All three groups have performed well over the past year.

My two utility picks, Electricite de France (EDF) and Exelon, are up (both calculated in US dollar terms) 118.5 percent and 59.7 percent, respectively, since my recommendation last summer. The two stocks are up 52 and 27 percent, respectively, year-to-date. Utilities have been hot on both sides of the Atlantic during the past year, and Exelon and EDF have been among the top performers.

EDF has also benefited from the election of Nicolas Sarkozy as president of France. Sarkozy is seen as more business friendly than his main opponent, Socialist candidate Segolene Royal. The Socialists also aren’t usually major proponents of privatizations, and EDF is a relatively newly privatized company.

I see the run-up in EDF overdone in the short term and have rated it a hold since the election results came in the spring. I’m now recommending that you take a 118.5 percent gain on half your position in Electricite de France; I will continue to follow EDF in the Wildcatters Portfolio as a hold.

Exelon remains a buy, though I’m tightening my stop to lock in some additional gains. The only senior uranium company I recommend in TES is Cameco; the stock is up more than 150 percent since I recommended it in 2005 and is still up 16 percent this year despite the recent dip.

I have rated Cameco a hold for many months for two main reasons. First, as I noted above and in the July 26, 2006, issue, Cameco still has a large number of legacy contracts on the books that were priced during the long uranium bear market years.

When spot uranium prices were at $15 per pound, signing a long-term contract at $25 probably looked brilliant. But with long-term prices more than $90 now and the spot close to $130, these contracts are an anachronism.

Over time, Cameco’s price will gradually adjust toward the currently prevailing higher prices. But it will take years. In the meantime, Cameco won’t benefit as fully from the strong uranium bull market.

Second, Cameco’s Cigar Lake flood appears to be an ongoing issue; the company has pushed out the timetable for production on several occasions. Another update is promised by yearend. But for now, the fate of this mine is still a dark cloud over the stock.

At the same time, long-term investors in the uranium story should have exposure to Cameco because it’s the world’s largest producer. The company’s senior status will also make it a participant in consolidation activity; Cameco’s production profile could be ameliorated by targeted acquisitions. Hold Cameco if you own it, but don’t buy more now; I will revisit this hold recommendation in the future.

I’m often asked about the other major producers–Rio Tinto and BHP Billiton in particular. I actually like both of these stocks fundamentally, but they just aren’t uranium plays.

Rio Tinto, for example, derived only 10 percent of its 2006 profits from energy-related commodities, and uranium isn’t the only energy-related commodity Rio produces. BHP’s main Olympic dam mine is really a copper mine that produces uranium as a by-product. Yes, this company will benefit from higher uranium prices, but the impact is more marginal than for a pure-play such as SXR Uranium One or Cameco.

Both stocks are truly more plays on precious and industrial metals, coal and even oil than they are plays on uranium. Of course, many of these commodities are also in bull market mode, and I regard both companies as core long-term holdings for metals investors. However, this is a topic that’s somewhat beyond the scope of TES.

My final way to play the uranium bull market is the uranium field bet, a play I inaugurated just less than a year ago. The average return of the uranium field bet picks is 106.5 percent since its inception July 26, 2006. The average return so far year-to-date is 25 percent.

Recall that I use field bets as a way to play some of my favorite long-term energy themes. Uranium mining is a risky business. Production delays, unforeseen project cost, and simple labor and raw materials inflation can all have important effects on the economics of a particular mining project. And production costs vary wildly depending on the grade of ore mined and how large overall reserves are.

Riskier still is exploration. Uranium explorers buy acreage and drill holes, taking core samples to evaluate reserve size and ore grades. Sometimes even the most-promising reserves just don’t pan out and can never reach economic production. It’s impossible to know this for sure until you’ve spent considerable sums on exploration; only once uranium is produced can we really know for sure the full costs and viability of a project.

To account for this higher level of risk, I’m recommending that risk-tolerant investors take a more-diversified approach to playing the junior uranium producers and exploration companies. You must recognize that no matter how careful your selection criteria, some promising uranium exploration stories will never work out.

Fortunately, there are high rewards to be found in this sector as well. Famed mutual fund manager Peter Lynch used to look for what he called ten-baggers–companies with the potential to earn investors 1,000 percent or more on their investment. Obviously, you don’t need many ten-baggers to make a solid return and make up for the inevitable losing plays.

For the best chance at big returns, I recommend casting a wide net. Instead of just buying one or two high-risk names, I recommend placing a smaller amount in five to 10 such companies. I call this the uranium field bet. Click here to view the bet.

There are currently seven stocks in the field bet, not including Energy Metals, which, as I noted above, I recommended selling in early June for a profit of 240 percent.

Uranium One–Note that this firm recently changed its name from SXR Uranium One to simply Uranium One. It’s also the company that’s taking over former field bet colleague Energy Metals.

Uranium One recently came out with an extraordinarily bullish statement on its production potential in early July. The company stated that its currently approved mining projects should be able to produce 10.3 million pounds by 2013. Additional projects in the works should be able to push production to 27.9 million pounds by that same year.

Although there’s certainly plenty of risk in that forecast, this would actually put Uranium One’s production above Cameco’s projection for that same year. And Uranium One doesn’t have the history of legacy contracts that Cameco does.

Uranium One’s Dominion mine in South Africa is on schedule for production this year, the company has an operating mine in Kazakhstan. The acquisition of Energy Metals also gives the firm a strong position in the US.

I consider Uranium One a rising senior uranium producer with proven production. It’s one of my top plays within the field bet for the long term.

Paladin Resources–I consider Paladin another junior miner that’s rapidly growing into the senior miner category. The company has already started production of uranium from its mine in Namibia.

Although Paladin announced that it missed its end-June production targets from that mine, the problems appears to be nothing more than normal mine startup delays and snafus; it appears production will be largely on-track by yearend. The company also has another late-stage project in Malawi.

Like Uranium One, Paladin has the scope to bring plenty of new production on target in the next few years into a market that’s short of uranium. Without the headwind of long-term legacy contracts, Paladin is also likely realizing a much higher price for is uranium. Something on the order of 8 million pounds annualized production is possible in the next four to five years from Paladin’s two existing mines.

Finally, as noted above, Paladin has been the subject of takeover rumors. This can’t be ruled out.

Uranium Resources–This is the last of the real producers in the field bet. The company plans to target production of around 1 million to 1.2 million pounds of U-308 per year from its mines in Texas and New Mexico.

Cameco has a market cap of USD16.3 billion and produces about 21 million pounds of uranium per year. That works out to USD776 per million pounds annualized production.

Obviously, the two companies are far from comparable; Cameco is a financially more-secure firm with better mines. But, Uranium Resources does trade at less than USD500 per million pounds annual production–a large discount. So, despite the fact the stock has held up better than most uranium stocks, it doesn’t look terribly overvalued.

I also like the fact that Uranium Resources switched its listing from the over-the-counter (OTC) market to the Nasdaq. This stock isn’t quite in the same league as Paladin Resources and Uranium One, but it offers real production and leverage to U-308 prices.

Uranium Participation Corp–I discussed this stock at some length above. Basically, it’s a closed-end fund that buys physical stocks of uranium. Therefore, it’s a good proxy for uranium prices. And Uranium Participation also engages in U-308 lending and other activities that generate