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Schroptschop/E+ via Getty Images

Schroptschop/E+ via Getty Images

With more than 45 years' experience trading commodities, I have learned quite a few lessons in what nuances to seek out when analyzing various sectors. As we look to 2022, I aspire to address two areas within critical minerals, which, if navigated correctly, stand to produce robust returns: geopolitical uncertainty and the foundational drivers of the ESG investing trend. Promising opportunities arise quickly by assessing not only our current supply chain constraints, but also the growing need for materials to power electric vehicles (EVs), aerospace and electronic components, military weaponry, and various other essential applications.

Just to encapsulate, critical minerals comprise a specific group of 35 minerals, which include the 17 rare earth elements (REEs). According to Presidential Executive Order 13817, "A Federal Strategy to Ensure Secure and Reliable Supplies of Critical Minerals," a critical mineral is defined as: a.) a non-fuel mineral or mineral material essential to the economic and national security of the U.S.; b.) the supply chain of which is vulnerable to disruption; and c.) that serves an essential function in the manufacturing of a product, the absence of which would have significant consequences for our economy or our national security.

The first area, geopolitical uncertainty, emanates from global reliance on China for critical mineral production and trade. Without a doubt, many investors know there is an immediate need to mine and process more critical minerals to ensure adequate global supply for commercial and military use. Investing in the industry's well-positioned companies abroad and at home can make a profound difference. Remarking on China's status as the top global producer of critical minerals, Danielle Miller, director of assessments and investments in the Pentagon's Office of Industrial Policy, stated:

We know we cannot resolve our shared exposure to supply chain risk without a close partnership with industry. New primary production of strategic and critical minerals … is a necessity to increase resilience in global supply chains.

In this light, professional and amateur traders can play a part in resolving this problem by investing in companies that will have a role in creating a strategic reserve of these minerals outside the world's most populous country. During my research, I came upon an insightful working paper on this topic written in October by former U.S. Ambassador J. Peter Pham. Mr. Pham asserts:

China's near-total monopoly in the processing of [critical minerals] makes the emergence of any alternative supplier exceptionally challenging unless that alternate is given a pathway to surviving the cut-throat competition.

I believe that, as investors focused on sustained, long-term returns, we can help pave the way for these other suppliers to which Mr. Pham alludes. I provide two exceptional examples of these alternate producers below.

My second area, the "green-" or ESG-led demand for these raw materials, is equally relevant in today's investing environment. Critical minerals are the basis for the technological advancements driving innovation and breakthroughs in many different industries. Here are just a few examples. A typical EV requires 6x the minerals of those used in producing a conventional car. An onshore wind plant requires 9x more mineral resources to construct than a gas-fired plant. As the share of new investment in renewables has increased, the average amount of minerals needed for a new unit of power generation capacity has increased by 50%. Therefore, if we are to succeed in achieving the "green" transition toward a more environmentally sustainable future, a tremendous amount of investment will be required to gain access to these minerals, thus providing ample opportunity to investors that position themselves in this nascent sector prudently.

On this basis, I call your attention to two companies, each of which I believe is primed to reward investors generously. Looking outside the U.S., an outstanding critical mineral stock is Norilsk Nickel (OTCPK:NILSY). This Russian company, listed in both London and Moscow, is the largest producer of refined nickel in the world. Additionally, it is the largest producer of palladium and fourth-largest producer of platinum. Keeping this in mind, I develop my bullish view. Although nickel is a transition metal used primarily for high-grade steel manufacturing, nickel is at the forefront of future market demand. Nickel is a key component in EV batteries, in energy storage systems in wind turbines, and in solar panels. It should also be noted that NILSY's market dominance in palladium has tremendous growth potential. This critical mineral is an integral component of hydrogen fuel cells.

I have found compelling commentary on the company here at Seeking Alpha, too. For example, investor Hank Torbert wrote an excellent article titled "NILSY: A Long-Term Play For The Critical Mineral Shortage" where he explained:

… Norilsk Nickel is a "sleeping giant" with an abundance of untapped potential. For retail and institutional investors alike, NILSY is uniquely both a high-yield and growth opportunity that should not be missed.

Seeking Alpha contributor Chris Kobryn highlights in an article titled "Norilsk Nickel: An Undervalued Opportunity" that "Nornickel is undervalued by 55.77% through the [Dividend Discount Model] DDM method, and by 26.65% for the [Discounted Cash Flow model] DCF method. This presents a rather enticing investment opportunity…" A recent analyst report from Credit Suisse also points out that Norilsk has a strong operational base to deliver strong cashflow and dividend returns to shareholders.

Regarding other fundamentals, the company's recent earnings are very appealing. EBITDA for 1H 2021 stood at $5.7 billion, which was up 3x compared to the first half of 2020. Additionally, EBITDA margin for 1H 2021 was 64%. That represented a 37% increase versus the first half of 2020, as well. Looking at NILSY's income statement, revenue is also trending in the right direction. Metals sales for the first six months of 2020 were $6.4 billion. For the first six months of last year, metals sales came in at $8.6 billion. Other operating expenses have been reduced significantly, too. In the same time frame (1H 2020 vs. 1H 2021), these expenses dropped by 84.6%. Taking these sales and expenses into account, operating profit for 1H 2021 was $5.34 billion. This represented a remarkable increase of 288% relative to 1H 2020.

Examining the company's working capital gives investors another reason to be bullish. Total working capital went from $712 million in 2020 to $1.76 billion in the first half of last year, resulting in a rise of close to 147%. I also like to use retained earnings as a leading fundamental indicator. NILSY's R/E have gone from $7.5 billion in 2019, to $8.3 billion in 2020, to $10.2 billion for the first half of 2021. This upward trend bodes well for funding future growth and production.

Finally, the company's leadership in both cost and the greenhouse gas (GHG) intensity curve ensures NILSY will have a unique competitive advantage in the economy of tomorrow. In fact, upon reviewing the company's 2030 strategic objectives, I was impressed by this attestation: maintain absolute GHG emissions from operations (Scope 1,2 of 10 Mt CO2e) at one of the lowest levels among global diversified metals and mining peers while growing metal production by ∼25%-30% vs. 2017.

Turning to the U.S., I believe MP Materials (MP) also has significant upside potential. The firm owns and operates Mountain Pass, located in California. It is the only scaled REE mining and processing facility in the Western Hemisphere. According to CFRA analyst Matthew Miller:

During Q3 2021, MP achieved record production and revenue. Q3 sales increased 143% vs. the prior year. We forecast revenue growth of 26% in 2022. We expect the global electric vehicle market to be the biggest driver of both higher global demand and higher prices.

Additionally, Miller notes that MP has a strong competitive advantage in supplying Neodymium (Nd) and Praseodymium (Pr) to North America. When Nd and Pr are combined, they become the key component in powerful REE magnets used in electric motors, wind turbines, drones, and robotics.

Further driving my recommendation, MP's latest earnings results announced on November 4 were strong. The company's EPS beat by $0.10, and revenue surprised by more than $22 million. EBITDA growth YoY is also a staggering 362%. And as the chart below shows, MP is up more than 35% over the past six months. By comparison, the S&P 500 is up YTD 25%, while the DJIA is up just about 17% over the same period.

Moreover, product sales increased YoY by $60.9 million, or 83%, to $134.3 million for the year ended December 31, 2020. Indeed, the company is experiencing rapid revenue and earnings growth. Among some of the highly impressive figures you see below, adjusted net income is up 617% YoY.

MP Materials Third Quarter 2021 Financial Results

MP Materials Third Quarter 2021 Financial Results

Importantly, the company has a strong P&L right now. Adjusted operating cash flow also stands healthily at $109.3 million, per Q3 2021 results. And in terms of momentum, MP's three-month price performance is more than 41%. This dwarfs the sector median of 1.01%.

As always in this sector, investors must be mindful of commodity price risk. MP states in its most recent 10-K that "the cash flows and profitability of the Company's operations are significantly affected by the market price of rare earth products. The prices of rare earth products are affected by numerous factors beyond the company's control."

Given my analysis, I hope investors can take a newfound interest in adding critical mineral exposure to their holdings. Specifically, NILSY and MP are terrific additions to any portfolio. Investing in these sustainable mineral producers will ease both the global supply chain bottleneck and help realize the market potential of the new environmentally friendly technologies that are needed to move us forward. From the Arctic to the West Coast, long-term gains await the savvy and globally minded investor in the critical minerals industry.

This article was written by

Disclosure: I/we have no stock, option or similar derivative position in any of the companies mentioned, and no plans to initiate any such positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.