1. What drove uranium prices to historical lows?
2. What impact is the Section 232 Petition in the U.S. is having on the uranium market?
3. Are the utilities playing the market sentiment with purchasing strategy?
4. What are your views on the inventory build concerns?
5. How does Cameco drive the uranium market going forward?
6. What is Kazakhstan’s influence on global uranium market?
7. What could impact (or slowdown) supply ramp up if demand runs ahead of supply?
8. What short-to-medium term positive catalysts do you see for the sector?

• • Our views validated. In many ways, the insights by and large confirmed our initial findings and, in some instances, provided additional context to strengthen our initial view. Following these conversations, we remain comfortable the uranium sector should have now found a bottom. Vindicating this view is Cameco’s recent announcement to indefinitely shut down the McArthur River mine, which was previously the world’s largest uranium mine. Cameco pulls the trigger on McArthur River. Cameco (one of the largest providers of uranium globally) has recently announced with their 2Q18 earnings the indefinite shutdown of the McArthur River mine, which was previously the world’s largest mine, and estimated to be approximately 11% of global supply.

• Key short-to-medium term catalysts:
  1. Cameco indefinitely shutting down McArthur River mine – We did see the uranium price spike on the back of this news which for the industry participants, this was mostly expected.
  2.  Cameco buying in the spot market to fulfil their order book.
  3. Japanese reactors coming back online. Japan is incentivised to bring on these reactors to ensure the country is adequately prepared for the 2020 Summer Olympics.
  4. A notable increase in financial participants (including new trading houses backed by Russia, China and Kazakhstan) in the uranium market recently, which has similar hallmarks to the one experienced in 2004-07 (when uranium spot price spiked from below US$50 a pound to US$100 a pound.
  5. Demand will exceed supply according World Nuclear Association. Agneta Rising, the chairwoman of the world nuclear association, came out and made a statement in recent months noting that the world nuclear association was projecting that over 2018 there would be approximately 141 million pounds of primary production globally but there would be 191 million pounds of global primary consumption, so a 50 million pounds deficit. 6
  6. Key markets around the world appear to very short (or uncovered) uranium. In particular, Japan, with utilities not taking physical delivery in recent years and in turn have kept (i.e. lend) it at the supplier (i.e. uranium producers) to be called later. The concern here is what contractual arrangements are these inventories being held under by the supplier and if they will still be holding it when the utilities do eventually call them (the producer may sell inventory thinking they will produce it in time to meet the call-date if/when that happens

In this report we provide the key insights we gained by talking to the leaders in uranium around the globe. In many ways, the insights by and large confirmed our initial findings and, in some instances, provided additional context to strengthen our initial view. Following these conversations, we remain comfortable the uranium sector should have now found a bottom.

Key question 1: What drove uranium prices to historical lows?

“…as a direct consequence of Fukushima you saw the Japanese shut down 54 reactors…”

The drivers identified in response to this question were, by and large, in line with our earlier research.

“.. obviously the 2 biggest events of the last 7/8 years was first and foremost the Fukushima Daiichi accident that took place as a result of the tsunami in Japan and I’m just old enough to remember 3 Mile Island and so consequently I suspected that as a result of that there would be longer-term repercussions from the destruction of the Fukushima Daiichi facilities and we were right…that’s had a big impact on demand from the standpoint that as a direct consequence of Fukushima you saw the Japanese shut down 54 reactors…”

From our understanding, Japan constituted approximately 13% of global uranium demand so it had an immediate impact on the demand side. However, our respondents also pointed to the notable impact Kazakhstan had in driving the uranium prices lower. Kazakhstan, via Kazatoprom (among the largest and lowest cost producer of uranium), has captured a significant part of the uranium market, as we noted in our initial report.

“…without a doubt that [Fukushima Daiichi facilities] would probably not have brought us down to the price where we are right now had it not been for the simultaneous ascension of the Kazakhs as the largest producers of uranium in the world – now they have grown to the point where they constitute 40% of global primary production, and they have grown that production during the time of falling uranium prices, and that has had a lot to do with it. If you want to take a look going back almost 4 years now to the fall of 2014, we were in the mid-40s at about $44 a pound and the fall to where we are now in the low 20s is almost 100% due to the excess production and dumping that’s taken place as a result of the production coming out of Kazakhstan…”

We note Kazakhstan is unlikely to comply with the same environmental standards as producers in the developed markets, they have access to very low-cost labour, and they are heavily subsidised by their government. Also assisting their sales is the significant currency depreciation.

Key question 2: What impact is the Section 232 Petition in the U.S. having on the uranium market?

“it would be such a huge geopolitical event in the nuclear world that it would throw all of the pieces up in the air”

In January 2018, Energy Fuels and Ur-Energy Inc. submitted a Section 232 Petition to the U.S. Department of Commerce to limit the quantity of uranium being imported into the U.S. – “The Petition describes how uranium and nuclear fuel from state-owned and state-subsidized enterprises in Russia, Kazakhstan, Uzbekistan, and China potentially represent a threat to U.S. national security”.

Our respondents noted the impact of this on the uranium market.

“So, as you know [Section 232 Petition] was launched in January. It was launched by the two significant uranium producers in the U.S. if you can even call on that. And importantly the utilities immediate reaction was not only to oppose that, but to oppose it with part of their negotiating platform being a freeze in their procurement. So, they suspended their procurement activities. And as you’ll recall that was very soon after the Cameco news about suspending McArthur River. So, we know that they’ve been gearing up to start changing their procurement strategies and looking more closely at what the market might need to be and then all of a sudden it ground to a halt…”

“…now they did that for a couple of reasons. One is that by freezing their procurement it gave them an additional negotiating position, which was to then potentially reach some sort of a compromise by buying some material. But also, everyone just expected that this would be a short term issue a short term skirmish that would last a matter of weeks. It wasn’t anticipated by either side that we’d be at six months and counting before the Department of Commerce actually made a decision. And the issue with that is that they’ve locked themselves into this position and in the background what I understand is that the Department of Commerce has been trying to get them to come sort of negotiated position. And so, despite the whole fundamentals of the industry it’s starting to shift, and shift in a way that we understand is becoming increasingly visible to these utilities. They’ve locked themselves into this position, so they can’t move until there is some degree of resolution…”

From our understanding, market participants have concluded various economic outcomes for supply and demand (and therefore uranium prices) which can potentially come as a result of this petition, and what form it may take upon finalisation. This may also be adding to the negative market sentiment. However, as noted by a respondent, economic analysis does ignore major geo-political consequences:

“…as a result you cut a piece of economic analysis that is just a spreadsheet that ignores a couple of key factors in all of that, and it’s the most significant being as if we did see the trade petition go all the way through it would be such a huge geopolitical event in the nuclear world that it would throw all of the pieces up in the air and there’s no way that they’d be landing at 23 24 25 dollars anyway…”

Clearly a resolution, or some sort of directive, from the Department of Commerce in the U.S. will likely be a key driver for the industry. In the view of one respondent, the solution to the petition is not straightforward, given the U.S. does not produce enough to meet domestic demand if the petition was to go through in its current form.

“…[to put it simply] to get to 25 percent of domestic requirement in the U.S. would require around 15 or 20 million pounds coming out of the U.S…that’s impossible. There’s not that much – no matter what the uranium price is – there’s not that capacity there over the next ten years…”

As a consequence we could see a watered-down version of the current form.

“…So, they are either going to negotiate down and/or they’re going to – the government will impose exemptions. So obviously that is geared completely towards Canada and Russia… So, in our view something will likely happen with the petition, again to the degree we believe that it won’t be as drafted, but the reality is there are some fuel buyers in the U.S. that are holding off until that comes through, which is kind of in the fall…”

Key question 3: Are the utilities playing the market sentiment with purchasing strategy?

“it will be a bit like musical chairs where they scramble to sit down so that they’re not the utility that’s left potentially paying one hundred thirty six dollars [a pound] like last time…”

In our respondents’ view, the utilities appear to be playing the current market sentiment in uranium markets.

“So, what you would remember is that sentiment plays a surprisingly significant role in the uranium sector. And it obviously plays a role in the equity side of things and the financing side of things, but it also plays a significant role in the buying strategy of the utility and therefore the price…”

“…And much like equities markets, the buying habits of utilitiesthe swings become more extreme. When something will prompt these utilities to move from this position, where they’re feeling very comfortable they’re not concerned at all [given the bearish] material they’re reading…now there will be an event that shifts thinking in that perspective. And all of a sudden, they’ll realize “Oh we really are very short [material] and there isn’t enough uranium to go around”, and it will be a bit like musical chairs where they scramble to sit down so that they’re not the utility that’s left potentially paying one hundred thirty six dollars [a pound] like last time…”

Key question 4: What are your views on the inventory build concerns?

“the general inventory effect is one of the big bear market myths out there in uranium”

A key concern playing the uranium markets, and no doubt prolonging the bear market, is the excess inventory in the market. Our respondents’ views were that the inventory question is often over simplified, by the market, in order to achieve a particular number to answer the question or validate their own views (rather than being totally accurate).

“…the first thing I’d say about inventories is that the general inventory effect is one of the big bear market myths out there in uranium. And you know the Wall Street Journal published an article with the headline, ‘five years of inventory’, and for the uninitiated that sounds like this five years of uranium is sitting in an LME style warehouse..”

The constant inventory question is bought up by equity investors as they are trying to determine when these utilities will reach or approach their uncovered threshold. But our respondents agree there are elements of excess inventory which is also hostage to political and policy outcomes:

“…there are pockets of excess inventory which we think are mobile. So, there are some utilities. They’re fairly small but they’ve got their inventory and they’re waiting to see politically whether their reactors get turned off, or extended, or not, and if they end up on the wrong side of those political decisions they’re all of a sudden going to have a fair bit of material they need to exit…”

This is likely to be the scenario currently playing out in Japan. That is, there are some reactors that could potentially remain shut indefinitely, if they do not achieve approval, and therefore these utilities will have material that they need to sell. This means there are a few pockets of excess inventory that will likely have some sort of a dampening effect. However, the impact, according to our respondents, is unlikely to be as pronounced as some bears are suggesting.

Key question 5: How does Cameco drive the uranium market going forward?

“…the amount of material Cameco has to buy will move the price materially higher…you’re talking about 12 to 15 million pounds that Cameco has got to buy this year”

Cameco, listed on the Canadian stock exchange and one of the largest providers of uranium globally, has just announced with their 2Q18 earnings the indefinite shutdown of the McArthur River mine which was previously the world’s largest mine, estimated to be approximately 11% of global supply.

Almost unanimously, all our respondents expected Cameco to shut this mine indefinitely. In January 2018 they put the mine on temporary closure for 10 months. This plays into our thesis back in March, given the structural crisis of uranium markets, something has to give. This closure should be one more constructive step towards balancing the supply-demand fundamentals. With Cameco shutting down McArthur River, they are also likely to return to the spot market to fill orders end of this year and early next year.

“…buying is coming via Cameco…the amount of material Cameco has to buy will move the price materially higher…the spot market is probably around 25 million pounds a year, not the pieces of paper going back and forth between traders, the actual material. So, you’re talking about 12 to 15 million pounds that Cameco has got to buy this year. So that’s – call it half of an annual year of spot materials. Now they have to buy that in the last quarter and a half of the year, in a period of time where everyone knows they have to do it. So, you’re obviously going to have all the traders and everything pull their orders out and drive the price higher. So, we don’t see how the year doesn’t end materially higher than where we are today…”

Investors need to be mindful that with the shutdown of McArthur River now announced, this mine will take approximately 12-18 months to bring back on line if such a decision was made. This means Cameco will likely need to deliver between 38 to 40 million pounds to fulfil contracts, whilst producing approximately 10 million pounds, meaning, as quoted by a respondent:

“they’re going to basically have to buy a hundred percent of the spot market next year…”

Key question 6: What is Kazakhstan’s influence on global uranium market?

“…the Kazakhs will suppress some of their own production, which has been flooding the market and suppressing prices, take their foot off the gas, allow prices to rise, and then IPO…”

In our initial report we discussed the growing influence of Kazakhstan on global uranium market, as it has emerged as the global leader in uranium production. In short, this low-cost producer has contributed to lower uranium prices, however there is likely to be a limit to this as well.

“…there’s a limit to how low they [Kazakhstan] can allow pricing to go before they start to feel the pain themselves and their government can’t keep subsidising them. They can only lose so much money before their government’s going to say “look guys we just can’t lose any more money” – and, what happened was that in the fourth quarter of 2016, we know that the Kazakhs were selling to one Japanese trading entity in particular, that was dumping that product on the market. They were selling it to them at a discount to current spot price, which is the textbook definition of “dumping”, and this Japanese trading entity kept dumping on the market to where they depressed the price below $20 a pound US, and in fact we got slightly below $19 a pound – we got into the $18 range and as a result of that, even the Kazakhs began to realise that they can’t just keep driving down the prices forever…”

As we noted in our initial report, given the Kazakhstan’s uranium producer is now considering an IPO, they would want to ensure higher uranium prices to support higher IPO valuation. This assertion was also supported by one of our respondents.

“…they have a chance to successfully IPO at higher spot prices, so one of the things that I think is going to be a primary driver in the second half of ’18 will be that the Kazakhs will suppress some of their own production, which has been flooding the market and suppressing prices, take their foot off the gas, allow prices to rise, and then IPO…it’s difficult for me to envision a very successful IPO from the Kazakhs at $23 a pound…”

As we had also noted, and most respondents agreed, with this IPO will come the need to improve reporting / governance due to listing requirements, which will increase transparency of the pricing they are achieving and this in turn should limit their ability to sell product at deep discounts.

“…I think that’s something that a lot of people are overlooking, is that, one of the things that we all know is that the Kazakhs have consistently sold into the market on the spot market. Right now they are mandated to do so. But one of the things that we also know is that they have been selling at times at fairly deep discounts into the market – most recently when Yellowcake PLC IPO’d in London, who bought 8.1 million pounds from the Kazakhs at a 7.7% discount to the spot price at that time. So really it’s going to be very difficult for them to continue that type of textbook dumping into the marketplace without everyone knowing about it when you’re trading on the AIM [London Stock Exchange]…”

Key Question 7: What could impact (or slowdown) supply ramp up if demand runs ahead of supply?

In our respondents’ views, the most critical factor that could impact supply ramp up was labour and skilled people. That is because a significant number of skilled personnel left the industry as the bear market persisted and mines/companies were closed.

“…one of the things that’s happened is that the uranium industry in general has lost a lot of its qualified manpower. We have seen very, very experienced people laid off by the biggest names in the industry and as a result the labour pool that is actually trained and qualified in uranium is a diminishing pool…”

Hence this is one of the risks, and a possible hindrance for all global players even if they get incentivized by attractive contract prices which will allow producers to ramp up production. The other key factor which could have an impact is the regulatory environment, however this has always been an issue.

Key question 8: What short-to-medium term positive catalysts do you see for the sector?

“…there’s about a billion pounds that’s un-contracted in current requirements now and going 2025. And that is the most in the history of uranium…”

Potential catalyst #1 – Cameco indefinitely shutting down McArthur River mine and buying in the spot market to fulfil their order book [This has played out]

“…Cameco is also in a position where everyone knows that they need to come into the marketplace this year now in the 2nd half 2018 to satisfy their own contractual agreements because they want to retain a certain amount of inventory of their own, so they have made statements in the market that they will be in the spot market buying material.

Potential catalyst #2 – Japanese reactors coming back online.

“…keep in mind that in the 4th quarter of 2017 there were only 4 Japanese reactors up and running. Today there are 9 and there is a 10th that’s getting ready to come online here in the weeks ahead. I think that it is broadly expected that by the end of this year there will be more than a dozen Japanese reactors that have been restarted. Also, I think that by the end of 2019, 18 months from now, I think that number will be north of 20…”

Also, one of the respondents commented that Japan is incentivised to bring on these reactors to ensure the country is adequately prepared for the 2020 Summer Olympics.

“…what has been not well publicised has been the fact that Japan has been enduring rolling brown-outs and black-outs now ever since Fukushima. They have had to effectively come out now and say that they would not be able to abide by their own Kyoto accords. But I think the thing that you have to remember with respect to Japan is that they are hosting the 2020 Olympics – what are they going to do, are they going to bring the rest of the world in there hosting their Olympic extravaganza only to treat them to rolling brown-outs and black-outs? They need to turn the reactors back on. So, I think that this is one of the things that is a big influencer of demand is that the Japanese reactors are being – not only turned back on – but they’re being turned on rapidly right now…”

Potential catalyst #3 – A notable increase in financial participants in the uranium market recently, which has similar hallmarks to the one experienced in 2004-07 when uranium spot price spiked from below US$50 a pound to US$100 a pound.

“…a number of factors that make today’s market look an awful lot, and feel an awful lot, like the 2004 to 2007 market that we saw a decade ago. And what I mean by that is that for example just since the beginning of the year we’ve seen three new trading entities come into existence – now that in and of itself is not news, it’s not big news anyway – but in this case it’s big news because one of those is the Russians and their subsidiary Uranium One, the Kazakhs and their subsidiary TNK and they’re both trading that out of Zug Switzerland and the Chinese under their subsidiary, one of their companies CNG that’s trading out of Manchester England. And what makes this significant is that they have been buying material to backstop their new trading platforms and this is significant because the Russians, Chinese and Kazakhs are 3 of the biggest players in all things uranium right now. And so these new trading platforms are increasing demand out there in the marketplace…”

Hedge funds are also taking positions in the sector, not just via equities but by buying physical uranium.

“…One of the things that was also very very noticeable at the Monterey conference was the presence of the financial players in the market at one of the industry conferences for the first time that I’ve noticed in 9-10 years. We had 4 different hedge funds there. And I have been told by one of the traders that there have been more than a half a dozen hedge funds that have come in and purchase physical material as a speculation and holding for increase in price…”

In our view, physical uranium is also being bought by hedge funds as the money being raised may overwhelm the current equities available to deploy this cash (without becoming significant shareholders and moving the price too aggressively).

Potential Catalyst #4 – Demand will exceed supply according World Nuclear Association. Agneta Rising the chairwoman of the world nuclear association came out and made a statement in recent months noting that the world nuclear association was projecting that over 2018 there would be approximately 141 million pounds of primary production globally but there would be 191 million pounds of global primary consumption, so a 50 million pounds deficit.

Potential Catalyst #5 – Key markets around the world appear to very short (or uncovered) uranium.

“…there’s about a billion pounds that’s un-contracted in current requirements now and going 2025. And that that is the most in the history of uranium…”

Japanese utilities appear to be almost complacent, as noted by one respondent.

“…Japanese regulations say they [utilities] have to keep five years in inventory. So when people throw out “oh yeah Japan has seven or eight years of inventory” in reality they only have two or three because they have to keep five at the base. So anything above 5, you kind of take five away and that’s the actual inventory levels they’re sitting at…”

Further, it was highlighted these Japanese utilities have not taken physical delivery, and in turn have kept it at the supplier to be called later. The concern here is what contractual arrangements are there for these inventories being held by supplier, and if they will still be holding it when the utilities do eventually call them (the producer may sell inventory thinking they will produce it in time to meet the call-date if/when that happens).

“…so Japan is we think the one that will really surprise people because most people think, and I mean frankly when we went over there we kind of thought you know it’s probably a tough market but we’ll go over and learn kind of thing, but talking them all, with all the utilities and all the trading houses and the – I would say – trust, like or I guess the misunderstanding of potential counterparty risk was very very surprising, and some of that we, kind of, viewed as like this is like basically you know, they’ve lent it out and these guys are basically naked short of uranium…”

This “lending” (without realising any losses on this material) out of uranium explains the material hitting the spot market in recent years.

“…a lot of the material that’s been coming out into the spot market recently because Japan hasn’t been realizing any losses in selling any of the uranium. So whilst, on paper, it doesn’t look like they’ve been selling, which they haven’t been, but they’ve been lending – and then the other people have been selling it. Now that stuff all goes away the minute some more reactors come online in Japan and they call back their uranium and, in most of their views, kind of 2020-21 is when they believe that they’ll start needing to get uranium back based on the forecasted reactor starts…”