Most commodities are cyclical in nature. The ebb and flow of demand, potentially from a new application or general growth, which in turn makes the supply of that commodity scarce can cause prices to rise, sometimes dramatically. This is followed by a supply response that typically is too effective (because everyone wants to partake in the high commodity price) and eventually, the demand is outstripped by supply, commodity prices in turn fall or outright collapse and the cycle repeats.
In the case of lithium, we’ve been seeing demand surge as the electric vehicle (EV) revolution accelerates while the ever-increasing supply is failing to keep pace. There are lithium headlines in the news all the time now, with the likes of General Motors Co. (NYSE: GM) and Tesla, Inc. (NASDAQ: TSLA) inking supply deals with producers or the speculation of deals. It would appear we are in the heart of a bull market for lithium….or are we?
Lithium Boom – 1950s
This isn’t the first lithium boom the world has seen. You may be surprised to learn that the first one began in the 1950s when the world’s primary source of lithium came from North Carolina. Lithium was extracted from spodumene (hard rock) and was a key component of the military’s H-bomb program. As a reference point, by the mid-1970s U.S. lithium production was roughly 2,900 tons per year. (1 US ton = 0.97 metric tonne)
Lithium Boom – 1990s
Lithium’s next rally occurred in the early 1990s when Sony first began production of the lithium-ion battery used in consumer electronics. By the end of 1991, Sony had ramped up production to 100,000 batteries a month. Enter Sociedad Química y Minera de Chile S.A., or SQM, the Chilean fertilizer and mining company which began selling lithium (from brine) in late 1996, almost immediately lithium carbonate prices fell by a third, to US$2,000 a ton. This marked the end of the existing American lithium industry.
Current Lithium Production By Country (2021)
Source: World Economic Forum
Lithium Boom – Today!
Fast forward to today and in November we saw lithium prices surge above US$80,000/tonne in a sign that supply was definitely not keeping pace with the huge increase in demand sparked by EVs. You have wildly bullish forecasts suggesting supply needs to grow somewhere between 150,000 to 200,000 tonnes every single year.
For more perspective, consider that Tesla is targeting the manufacture of 20 million EVs per year by 2030. In order to produce those vehicles in a year, Tesla will need more lithium than was produced in the world last year, which could explain why the market was all excited when Bloomberg reported Tesla has been discussing a possible bid for Sigma Lithium Corporation (TSXV: SGML | NASDAQ: SGML).
And speaking of Sigma Lithium, have a look at their 2 year chart!
Investors should be very happy with a 10x move in just under 2 years. There have also been some pretty good runs for some of the Canadian hard rock lithium names. A quick look at the one-year chart for Critical Elements Lithium Corporation (TSXV: CRE | OTCQX: CRECF) and Patriot Battery Metals (TSXV: PMET | OTCQX: PMETF) and you’ll see a double and another 10 bagger. It suggests that we may not be in the early innings of this game.
When all this starts to become prevalent in the news cycle, I start to get a little concerned. It’s almost like fanatic optimism is a harbinger that the cycle is about to end. I know that isn’t very scientific, but let’s look a little closer at what I’m getting at. Capital solves problems. With the lithium price at current levels, lithium mines are some of the most profitable in the whole mining sector. One could surmise that supply might respond more rapidly than currently forecast with lots of capital being thrown at exploration and development at present. I wouldn’t be surprised if Investment Bankers are cold-calling anyone involved with lithium right now to see if they would like to raise capital. On top of that, when you have the likes of Tesla, GM, etc. buying into producers it tends to stretch valuations beyond anything that would otherwise seem reasonable. M&A, especially by companies not actually in the mining business, can often be considered a sign that we are getting close to a top. Again, not scientific by any stretch of the imagination but it also typically isn’t sustainable behaviour.
Is this a Market Top?
I’m not suggesting lithium is going back to US$2,000/ton but we have seen the price retreat to just over US$60,000/tonne largely due to the Chinese market seeing lower subsidies for electrified vehicles and weak consumer confidence. With that said, lithium is still worth eight times more than it was before 2021 and still wildly profitable for both hard rock and brine producers. Is this a sign that the current bull run for lithium prices is over or just taking a breather before it settles into a new price range or perhaps starts to climb again? I guess it depends on your time frame. Traders may want to look at taking a little profit off the table for now, long term buy and hold investors may not even be paying attention to the day-to-day noise in the market and be comfortable holding lithium equities for the foreseeable future.
My caution to anyone wildly bullish on lithium prices and the corresponding mining companies is this – there are a lot of smart capitalists out there and if a component becomes the most expensive part of your product, a lot of effort will be spent to try and find a replacement or an alternative. I also have a nagging concern that at some point in time, the rapid adoption of EVs may overwhelm the electric grid and put a hard stop to EV growth (at least temporarily). Either of these scenarios could have a sudden and very negative impact on lithium prices but not likely in the near future. So when it comes to investing in lithium, make sure your risk tolerance matches your investment exposure.