Uranium: a tale of tails
September 02, 2005
In the uranium market the tails wag the dog. If you don’t
understand tails assays you will have a tough time understanding the uranium
price. I used to be extremely bullish on uranium, believing that the current
primary supply deficit, in conjunction with rising demand as new nuclear
reactors come online will lead to much higher uranium prices. But after
I gained a better understanding of how uranium is processed and how those
processes impact the uranium price, I have become much less sanguine about
the prospect of a further, near-term increase in the uranium price.
The bullish case for uranium stems from the fact that the
world consumes in the order of 180 million pounds of uranium (U3O8) per
year while mines supply only about half of that. The balance comes from
secondary supplies such as utility stockpiles, the blending down of highly
enriched weapons grade uranium and reprocessing of spent fuels and tails.
Military and civilian inventories are by far the largest source of secondary
Because uranium consumption is so much greater than mine
production, and because inventories are finite, it can be argued that
the uranium price has to increase until mine production more closely matches
demand. I agree, which is why I own uranium companies and am interested
in the uranium sector, but that is a long-term view. Markets seldom move
up (or down) in a straight line. The question is whether the uranium price
will continue its rise from here or whether we could be due for a correction.
Uranium bulls argue that the squeeze has only just begun
because the market is already tight (as shown by the increase in price)
and, depending on who you believe, that there could be as many as three
new reactors built every year for the next twenty years. Therefore, the
demand is going to increase.
There are about thirty new reactors under construction in
twelve different countries at the moment with announced plans for 15 to
20 more. Current estimates of supply and demand show that there is already
a shortage of uranium to meet the increasing demand.
In anticipation of a supply shortage investment funds have
been buying physical uranium with the intent of hoarding it and selling
it later at a profit. The recent increase in the uranium spot price from
$22 a pound to $29 a pound can be attributed to purchases by a single
investment company in Canada called Uranium Participation Company (UPC).
In light of such bullish fundamentals it is easy to see
why some investors are optimistic about the uranium price. I was very
optimistic too, until I started understanding uranium tails.
There are three natural isotopes of uranium: U(234), U(235)
and U(238). The natural abundance of U(234) is so small that we can ignore
it. For our purposes natural uranium contains 99.29% U(238) and 0.71%
U(235). Both uranium isotopes decay very slowly by emitting an alpha particle;
however, if U(235) captures a neutron it rapidly splits in two, releasing
a large amount of energy and more neutrons. This is called fission and
it is the process that generates energy for nuclear power plants.
With the exception of CANDU reactors used in Canada and
the smallish pressurized heavy water cooled reactors (PHWR) used in India,
most nuclear reactors in the rest of the world are light water reactors
(LWRs). LWRs cannot operate with natural uranium because the abundance
of U(235) is too low. The natural uranium therefore has to be enriched
in U(235) so that the “fuel” contains between 3% and 5% U(235)
and enrichment is the next key to understanding the uranium price.
Enrichment services are sold in separative work units, or
SWUs, and now you have to pay attention.
When you create uranium fuel enriched in U(235) you generate
uranium waste that is depleted in U(235). This depleted uranium is called
the tails. The further you drive the enrichment process -- in other words,
the more SWUs you use -- the less U(235) is left in the tails. The amount
of U(235) left in the tails is called the tails assay.
As you can imagine, there is an optimal amount of enrichment
a utility fuel buyer should use depending on the price of SWUs, and an
optimal amount of uranium he should use depending on the price of uranium.
If the price of uranium is low then a nuclear fuel buyer will typically
use less SWUs and more uranium to make his fuel. But when the price of
uranium is high, as it is now relative to two years ago, he will use less
uranium and more SWUs to make fuel. How much SWUs he uses is specified
by the tails assays, in other words he tells the enrichment company by
how much to deplete the tails in U(235). If he specifies a high tails
assay (lots of U(235) left in the tails) he uses more uranium and less
SWUs. If he specifies a low tails assay (very little U(235) left in the
tails) he uses less uranium and more SWUs. The "optimal tails assay"
is that which gives the lowest overall, combined, cost for the uranium
and SWUs in his finished fuel.
There is another intermediate process that we do not need
to concern ourselves with right now called conversion. Conversion is necessary
before we can enrich the uranium but all we need to know is that the price
of conversion is about $11.50 per kilogram of uranium.
SWUs cost about $113 right now and so here is what you need
In the past, because the uranium price was much lower than
it is today, analysts constructed uranium supply and demand curves based
on a tails assay of about 0.33%. That is a relatively high tails assay,
meaning there is a lot of U(235) left in the tails. Assuming a conversion
price of $12 a kilogram and a SWU price of $110 (essentially current prices)
a uranium price of $25 per pound would imply an optimal tails assay of
0.27%. At a uranium price of $30 a pound (the current price) the optimal
tails assay would be 0.25%.
Decreasing the tails assay from 0.33% to 0.25% implies a
15% decline in the demand for uranium (U3O8).
Right now, most analysts are still looking at supply and
demand curves based on tails assays of 0.33%. At some point those demand
curves will have to be updated for lower tails assays and when we drop
demand by 15% the uranium market is no longer in deficit. Sure, primary
supply is still less than demand but instead of a crunch developing in
the near term, it is delayed by up to seven years.
Now the question becomes, what will investment funds such
as UPC do when the uranium they bought does not appreciate for five to
seven years? Will they be patient and hold onto it, or will they sell
it? If they sell it, the uranium spot price could easily collapse since
it’s a thin market.
The other thing you have to realize is that the uranium
price will not continue to rise and rise and rise. The higher the uranium
price gets the lower the tails assays become and the less uranium is required
to make fuel.
Since 2001 the price of uranium has increased by over 300%
(from $7 a pound to $30 a pound) but the price of SWUs has hardly budged.
That means we do not have an enrichment capacity constraint in the uranium
market yet and until we do you should expect lower tails assays in response
to higher uranium prices.
I don’t pretend to know how high the price of uranium
will go, or when it will correct, or even if it will correct. What I do
know is that there is systemic risk in the uranium market that very few
people seem to understand. When you invest without understanding your
market you are taking more risk than what is necessary, or prudent.
I will be in Las Vegas for the Gold and Precious Metals
Investment Conference next week, so there will be no commentary next Friday.
I hope to see you there.
Paul van Eeden
Paul van Eeden works primarily to find investments
for his own portfolio and shares his investment ideas with subscribers
to his weekly investment publication. For more information please visit
his website (www.paulvaneeden.com)
or contact his publisher at (800) 528-0559 or (602) 252-4477.
Paul van Eeden works primarily to find investments for his
own portfolio and shares his investment ideas with subscribers to his weekly
investment publication. For more information please visit his website (www.paulvaneeden.com)
or contact his publisher at (800) 528-0559 or (602) 252-4477.
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