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Path dependence and the uranium equities.
An underappreciated dimension to uranium portfolio construction that I’ve really only seen emphasized recently by @808sandU3O8 and @JekyllCapital is the “path dependence” of the uranium capital cycle and the implications it has. https://twitter.com/808sandU3O8/status/1354140806232350724
An underappreciated dimension to uranium portfolio construction that I’ve really only seen emphasized recently by @808sandU3O8 and @JekyllCapital is the “path dependence” of the uranium capital cycle and the implications it has. https://twitter.com/808sandU3O8/status/1354140806232350724
Refresher from physics: path-dependence describe a “system whose state depends on the path taken in order to achieve it.”
What does this mean for investing in uranium equities? You need to have a view on how the capital cycle plays out - which projects come online, and when.
What does this mean for investing in uranium equities? You need to have a view on how the capital cycle plays out - which projects come online, and when.
In particular, when and if projects with various incentive prices come online in the cycle - if you’re investing in projects with incentive prices above what you view to be a reasonable long-term steady state term contracting price.
That’ll affect whether certain equities have *any* value this cycle.
Sure, you can take a simpler view that U3O8 will be X per lb by 2035, with X > 30, and build a basket based on that.
Sure, you can take a simpler view that U3O8 will be X per lb by 2035, with X > 30, and build a basket based on that.
If all of the projects you’re investing in have modest capex requirements and low break-even costs, you’ll probably make it out ok. These are effectively in-the-money options.
@JekyllCapital’s thread on Nexgen illustrates a concrete thought experiment to consider.
@JekyllCapital’s thread on Nexgen illustrates a concrete thought experiment to consider.
A more abstract thought experiment to illustrate these points: assume that you’re considering an equity that derives its value from ownership in an asset with an incentive price of X to bring it online.
Let’s say that you think that the long-term steady state price could be Y or Z, where Y < Z. (one can even go a step further and think of a probability distribution over the possible long-term steady state).
If Z > X, assuming the usual boxes of jurisdiction, permitting, management not being crooks, etc all check off, you’re insulated from a lot of the path dependence of the capital cycle in terms of how the term price evolves.
Really, you just need to make sure that you don’t think there’s enough other supply that can come online that will balance the market/meet term contracting needs before your mine comes online.
That is *time* path dependence, not *incentive price* path dependence.
That is *time* path dependence, not *incentive price* path dependence.
If X > Y, then you’re implicitly making a bet that at some point between 2020 and the steady state, the capital cycle is going to play out such that it makes sense for mines with an incentive price of X to come online, *even though X is greater than the long-term steady-state…
…price Y of the market*.
How might that play out? Here’s an extreme case to illustrate. Assume the world has run out of U3O8, but there are lots of mines that can come online at a cost of $40 /lb. But they would take 5 years to come online (again, this is an extreme case).
How might that play out? Here’s an extreme case to illustrate. Assume the world has run out of U3O8, but there are lots of mines that can come online at a cost of $40 /lb. But they would take 5 years to come online (again, this is an extreme case).
And there is only one mine that can come online immediately, but at an incentive price of $80.
That mine will come online, even though $80 is greater than what is likely to be the long-term steady state of $40.
That mine will come online, even though $80 is greater than what is likely to be the long-term steady state of $40.
Companies that fall into this bucket have option value depending on the *incentive price* path dependence of the capital cycle.
If you have a view that the capital cycle is going to play out a certain way (or want to hedge against it playing out another way), these equities have option-like upside...with option-like downside (a zero) if the cycle doesn't play out as it needs to for them to work.
