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While high tech applications continue to find their way into more parts of our lives and become more ubiquitous, we still often forget some of the key components that make these innovative systems possible. This is especially true of rare earth metals, a specific subset of the periodic table that has a variety of uses. These elements, which include little-known metals such as tungsten, cerium, and molybdenum, find their way into nearly everything in our modern society from jet engines and guided missiles, to televisions and cell phones. As a result, pretty much everyone depends on rare earth metals in one way or another, whether they realize it or not.
Yet although these metals are extremely important to the global economy, many companies are almost entirely dependent on a single national source for their supplies. In fact, at this point, China accounts for roughly 90% of total rare earth metal production (including 97% of 17 key metals), a level that could allow China to pretty much strangle the high tech market. After all, without ample rare earths, many products which we take for granted today would either become far more expensive, or in many cases, downright impossible.
This concern didn’t always used to be a big deal, as there were plenty of exports from China as the country had little use for these high tech focused products and many of these goods weren’t mass produced as they are today. But as China’s economy has grown at a relentless pace over the past decades, the Chinese government has sought to protect its rare earth supplies from outside demand and ensure that businesses based in the country would have rare earth metals above all else. In fact, China cut its rare earth exports to Japan in 2010, spiking fears over a more global export crunch pretty much at China’s whims (read What Bubble? China ETFs To Start 2012).
Thanks to this ongoing fear, and the lack of large amounts of readily accessible supplies in other markets, the U.S., the EU, and Japan have joined forces to launch a WTO case against China in order to force it to export more rare earth metals. The claim marks the first time that the three economic powers have teamed up in the WTO, although first there is a 60-day process for the two sides to try and hash out their differences. If this doesn’t work, the three can then ask the WTO to establish a dispute-settlement panel to decide the case although this can take as long as two years.
China seems unwilling to give in on this issue citing environmental concerns and that its export limits aren’t directed at any one country. Additionally, China points out that there are supplies of rare earth metals around the world and that Western powers should work to exploit these deposits instead of harassing China. With this backdrop and the potential two year waiting period, Western nations may have no choice but to develop their own supplies of rare earths instead of relying on China for these crucial elements (see Three Commodity ETFs That Have Not Surged).
Unfortunately, finding companies that are concentrated in this market segment can be hard to do; most large mining firms are diversified into many categories leaving minimal exposure to rare earths. Of the few pure rare earth miners, many are small or mid caps and can be prone to large swings in a short period of time, especially if the prices of the metals experience high levels of volatility. However, there currently is one ETF targeting the space which could be an interesting choice for those looking to make a play on this potentially lucrative corner of the market, the Rare Earth Metal ETF (REMX - ETF report) from Van Eck (read Time To Buy REMX?).
REMX In Focus
REMX tracks the Market Vectors Rare Earth/Strategic Metals Index, which is a rules based, modified capitalization weighted, float adjusted index intended to give investors a means of tracking the overall performance of publicly traded companies primarily engaged in a variety of activities that are related to the mining, refining and manufacturing of rare earth/strategic metals. The product charges investors 57 basis points a year for its services but it does have more than $220 million in AUM and it also sees more than 120,000 shares of volume a day, implying high levels of liquidity (read Three ETFs With Incredible Diversification).
In terms of holdings, the ETF currently has 29 components with assets spread around the globe. Australian and Canadian companies each make up about 19% of the total, and then are closely followed by U.S. companies which account for another 17% of assets. Unsurprisingly given the risks of the sector, small and micro cap securities combine to make up about 57% of total assets while mid caps account for another 30%. As a result, the fund has a definite tilt towards the smaller mining firms. Top individual holdings include Irish firm Kenmare Resources at about 9%, and then two Australian companies Iluka Resources and Lynas Corp at 8.3% and 6.9%, respectively.
REMX has had a rocky performance history in the relatively short time it has been on the market. In 2011, the fund was crushed along with a number of other products in the resource space, falling by about 39.3% in the time frame. However, the fund has come back strongly so far in 2012, adding almost 18.6% since the start of the year while currently paying out a yield over 5.4%. This includes a nearly 8.5% gain in the past week as tensions over rare earth supplies have heated up and the market segment has been brought back into focus (read Three Overlooked Emerging Market ETFs).
Should the tensions with China continue or if more export bans become likely, REMX could be an interesting choice as it represents some of the only non-Chinese rare earth metal miners in the world (although Chinese firms do make up about 7% of the fund too). If that happens, the sector could see continued inflows, especially if governments start to stockpile the products in anticipation of tight supplies. Just remember, the sector is extremely volatile and can be prone to large swings in a short period of time; rare earth metal ETF investing certainly isn’t for the faint of heart. However, for those who believe there is something to this China issue, huge gains could be had if the WTO looks to have a limited impact on the rare earth giant’s policies in the near term, putting a premium on alternative sources of production.
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