Plunge in lithium stocks creates opportunity for investors

Rather than panic, Morningstar believes investors should view the lithium stock selloff as an opportunity.

Shares in lithium producers have tumbled this year after sharp falls in spot prices driven by slowing demand for electric vehicles in China, leaving investors worried the 2022 boom has turned to bust.

But Morningstar equity strategist Seth Goldstein believes the slowdown in demand is only temporary, predicting the lithium market will remain undersupplied for at least the rest of this decade.

"While the market will move closer to balance from the undersupply that led to record high prices last year, we see no reason to panic," Goldstein says in a new report.

"For investors, the selloff creates an attractive opportunity to invest in lithium."

Why Morningstar is bullish on lithium

Morningstar is bullish on lithium supply, demand and prices, as rapidly rising electric car sales drive demand for the key component of EV batteries.

The report notes the market expects subsidy cuts in global electric car sales leader China and second-placed Europe, while partially offset by the introduction of a US subsidy, will slow the growth in lithium demand.

However, Goldstein views it as a temporary slowdown, tipping mass market adoption of electric cars in the second half of the decade will boost long-term demand growth.

Morningstar expects lithium demand will increasingly come from EVs, growing to two-thirds of global demand by 2030 from 45% in 2022.

It predicts global EV sales will reach about 40 million cars by 2030, more than five times the number sold in 2022, and forecasts lithium demand will reach 2.5 million tonnes, more than triple 2022's record 800,000 tonnes.

After hitting an all-time high in 2022, lithium spot prices have fallen in 2023 on the back of the slowdown in demand combined with a rise in supply.

Lithium spot prices in China plunged 70% between November and April before starting to rebound in recent weeks.

Goldstein expects lithium prices will remain volatile as both demand and supply continue their rapid growth.

Morningstar now forecasts lithium prices will average over $US36,000 per tonne from 2023 through 2030, leading to solid profits for low-cost producers, as demand growth outpaces supply.

"As demand growth accelerates, we expect the supply deficit will remain in place, which should generally result in prices remaining above the peak of 2018's boom, albeit lower than the 2022 peak," Goldstein says.

The report notes 'lithium bears' forecast prices to fall to $US20,000, in line with the marginal cost of production, as supply growth keeps up with demand and the market balances.

Goldstein says despite the market being closer to balance, Morningstar expects lithium to remain undersupplied through the rest of the decade as many new projects will likely face delays, leading to lower actual production.

"Our differentiated view is that enough new supply will encounter delays to keep the market in a deficit, leading to higher prices and profits, driving producer stock valuations higher."

Goldstein says the current stock prices also imply lithium prices around $US20,000, meaning much of the bad news is already priced in.

"In our view, the current stock prices provide investors with a solid margin of safety as lower prices appear to already be baked in to current valuations."

The base case in Morningstar's analysis is the stock selloff is an overreaction to a spot price decline that will correct itself throughout the rest of 2023, leading spot prices to average in the mid-$US50,000 range.

Morningstar's top lithium picks

Morningstar's top lithium picks are Albemarle (ALB), the world's biggest lithium producer, and Canadian miner Lithium Americas (LAC), which both have 5-star ratings.

They are the most undervalued stocks among the seven companies under Morningstar's coverage where lithium is or will be the majority of profits.

"Albemarle shares trade at 60% of our $US350 per share fair value estimate and offer the best cost and risk profile of any lithium producer," Goldstein says.

"Lithium Americas has the most upside, with shares trading at less than 50% of our $US50 per share fair value estimate, but carries elevated risk as the company does not yet produce lithium," Goldstein says.

Goldstein notes Albemarle's growth and stock price will be tied to its lithium business, which makes up nearly 90% of its total profits.

Albemarle produces lithium through its 100%-owned brine operation in Chile, one of the world's lowest-cost sources of lithium, and two hard rock joint ventures in Western Australia—Greenbushes, with China's Tianqi, and Wodgina, with ASX-listed Minerals Resources.

Albemarle is set to become Australia's largest lithium producer, announcing in early May it will double capacity at its Kemerton lithium hydroxide plant in WA and spend about $US1.5 billion to build two additional processing trains at the facility.

Lithium Americas is developing three lithium resources in Argentina and the US, with its first project set to begin production in Argentina later this year.

The lithium producers covered by Morningstar also include Mineral Resources, which is trading in a range considered fairly valued, and US-based Livent, which is merging with ASX-listed Allkem in a $15.7 billion deal.

Livent is trading at a 40% discount to Morningstar's fair value estimate.