Your August issue of Small Cap Investigator

How to invest in the AI boom by not investing in AI at all

It’s 2019, November, and the world (for the time being) is as “normal” as you could expect. Little did the bulk of us realise that in just a few months’ time, the most impactful event of the 21st century would create a social and geopolitical upheaval the likes that none of us could possibly imagine.

But that’s still a few months away. The news that’s dominating the headlines of the financial markets right now is all about the “trade war” between the US and China.

Realistically, it’s not the first time these two global superpowers have been in a squabble about trade. The US is the incumbent superpower, both from a military and economic perspective, and China is looking to dethrone the “king”.

Arguably, the trade war that kicked off in 2019 is still in play. In fact, you only need to look at the current headlines getting around the newswires to see it for yourself…

Source: The Telegraph

There’s no doubt in my mind that these actions are related to the Chinese kerbs on the export of specific metals used and needed for the very chips the US wants to try to restrict heading back to China (I’ll get back to this point shortly).

Something fishy is going on. The US seems scared of China’s growing technology strength – and scared of its very specific capabilities surrounding artificial intelligence (AI).

To understand why that might be, we need to go back to July 2017 – two years before the “trade war” kicked off in earnest.

Specifically, we need to look at a document released by the Chinese State Council, titled “Next Generation Artificial Intelligence Plan”.

This was an outline from China about how the country planned to achieve dominance in the field of AI. A part of that was a three-step timeline. The third step is of significance, which says:

The third step is to reach the world’s leading level in artificial intelligence theory, technology and application by 2030, becoming the world’s major artificial intelligence innovation center, achieving significant results in smart economy and smart society, and laying an important foundation for becoming a leading innovative country and an economic power.

From a Chinese government-released summation, you can see the full three step plan below.

It’s step three that is most critical here. It expressly states China’s goal to become a global AI innovation centre. In other words, the leading global superpower in AI.

It’s worth taking a look at the entire paper. While it certainly outlines several strategic pathways toward AI dominance, China also knows that there is something critical to all of this coming to realisation…

… metals.

You cannot make the technology needed for an “AI world” without specific, critical metals. That’s part of why China has a stranglehold on the world’s high-tech metals.

Amongst its critical metals chokehold is arguably two of the most important metals needed in a high-tech future. Metals that are often overlooked by the market. Metals that we believe will gather momentum and prominence in the market as the “West” realises that supply security becomes more important to their high-tech future than cost.

Trade war, chip war… cold war

China has been a dominant player in the supply of metals needed for high-technology applications for a long time. Its dominance in the supply (processing) of rare earths is legendary. This is because China has refined and supplied metals to the world at ridiculously low prices, effectively undercutting the world to secure the supply chain (because China could).

For several years now there has been a concerted effort by the West to start to wean off their reliance on China’s supply of rare earths.

To understand why the West is hell-bent on securing their own supply of critical metals, all you need to do is look at the following chart.

Source: energy.gov

I’ve circled a section in the top right-hand corner. This is because those are some of the most critical metals according to the US government. They are almost all part of the “rare earth elements” family of metals. Rare earth (lanthanide series) metals such as terbium, dysprosium and neodymium are in the mix. But there’s two other rare metals not often recognised by the market for their importance.

Those are gallium and germanium.

Right now, gallium and germanium may be two of the most important metals on Earth. Germanium isn’t highlighted on the chart above, but it is on the lists of critical metals in both the US and Europe. These two go hand in hand.

Gallium and germanium are rare. You don’t just pull them out of the ground like you might with gold, for example. The typical way to get gallium and germanium is through zinc mining.

Like the more known rare earth elements, China has historically dominated the supply and processing of gallium and germanium. In fact, China controls 98% of the world’s supply of gallium and 60% of the world’s supply of germanium.

So, when just a few weeks ago China decided to place export controls on gallium and germanium, this was a clear amplification of the trade wars that have been ongoing since 2019. China’s reasoning was to “safeguard national security and better fulfil the international obligations.”

In other words, China’s decision to restrict gallium and germanium exports is in response to the increasing levels of restrictions from the West for semiconductor or “chip” exports into China. Hence when The Telegraph reported the US was going to block Nvidia chips into the Middle East, which were then believed to be used by China, the tit-for-tat stepped up a level.

Trade wars, chip wars… call it what you will. What we’re seeing in play is a cold war between the US and China – and it all boils down to who’s going to lead (or win) the race in AI dominance.

But why gallium and germanium? What makes them so important in all of this? Why did China use gallium and germanium as its blackmail tool in the latest escalation of these wars? And why does it make a tiny mining company on the London Stock Exchange perfectly placed to profit from these chip wars?

Why is gallium and germanium important?

Gallium is a remarkable element that plays a crucial role in semiconductors. As the world’s insatiable appetite for semiconductors increases, gallium finds itself on the list of critical metals. Both the US and the European Commission have gallium and germanium on their list of critical metals.

One of gallium’s standout features is its low melting point, which is just slightly above room temperature at around 29 degrees Celsius. This characteristic makes it ideal for applications in microelectronics and semiconductors. When combined with other elements, such as arsenic or phosphorus, it forms gallium arsenide (GaAs) and gallium phosphide (GaP). These are essential compounds in the production of high-performance semiconductors.

Furthermore, gallium-based semiconductors have found their niche in specialised applications like optoelectronics and high-frequency amplifiers. Gallium nitride (GaN) is another compound that has gained prominence in recent years. This is due to its wide bandgap and exceptional performance in power electronics, LED lighting and even in the emerging field of 5G technology.

It’s expected that the use of GaN semiconductors will escalate as the world adopts more electric vehicles, uses more advanced and power-hungry semiconductors which are needed to operate at increasingly higher performance levels and as military technology continues to advance and improve.

Gallium’s importance in semiconductors is undeniable, given its unique properties that enable the creation of high-performance electronic devices. Its role in the electronics industry and its status as a critical metal underscore the need for sustainable sourcing and recycling efforts. This is to ensure a stable supply of this essential element for future technological advancements.

Likewise, it wasn’t just gallium that China put export controls on. The country also did the same with germanium. This too is a metal that is used in everything from high-performance chips to advanced driver assistance systems (ADAS) through to military uses such as GPS and night-vision systems.

The Chinese controls on germanium aren’t as dominating as gallium, but both are needed to supply our high-tech, energy-efficient future. Plus, they are exactly what a London Stock Exchange-listed miner has recently discovered at one of the leading mining prospects in Greece.

Can this tiny miner profit from China’s export controls?

Rockfire Resources (LSE:ROCK) is a tiny mining company listed on the London Stock Exchange. The company has several exploration projects on the go. The most relevant and potentially profitable of these is the Molaoi project. This is a zinc, lead and silver mine about a three and half-hour drive southwest from Athens.

On the face of it, a zinc, lead and silver mine isn’t all that exciting… until you recall something I mentioned earlier.

The way to mine gallium and germanium is typically through zinc mining.

In an announcement on 23 August, Rockfire confirmed both gallium and germanium at its Molaoi project.

It should be said that the company is predominately a gold, copper and zinc miner. Its 2022 annual report highlights JORC resources (JORC meaning the mining industry’s official code for reporting exploration results) across its projects of:

• 130,000 ounces of gold and 800,000 ounces of silver at Plateau;
• 120,000 tonnes of copper equivalent at Copperhead (comprising 80,000 tonnes of copper, 9,000 tonnes of molybdenum and 1.1 million ounces of silver); and
• 250,000 tonnes of zinc equivalent at Molaoi in Greece (comprising 210,000 tonnes of zinc, 39,000 tonnes of lead, and 3.5 million ounces of silver).

Its decision to focus resources towards Molaoi is significant. This is due to the increase in value of the project thanks to the find of both germanium and gallium at the exploration site.

Of further importance here is that Rockfire owns 100% of the site with a 30-year exploration licence, which was only granted in March 2022. Being in Greece, there’s also an element of geopolitical risk that’s mitigated thanks to it being a low-risk jurisdiction.

In terms of potential value of this discovery, Rockfire highlights that a tonne of germanium is currently worth around US$2.75 million per tonne.

Exactly how much germanium and gallium are at Molaoi is hard to say. Right now the mine is in its exploration phase. These are test holes that prove there is both gallium and germanium at the site.

It’s expected the next steps, and further catalysts for the company, will come via feasibility studies. These will assess the commercial viability and potential success of the site. The expectation is that these will commence before the end of this year. Furthermore, the company is expecting to commence underground production within the next three years.

We believe that having both germanium and gallium at its Molaoi site will add value to the company. Accelerating and focusing on this site has clearly become a priority. It would come as no surprise for the Greek government to ensure that speed is of the essence to production. This is considering European demand and need for both these metals which feature on their critical metals lists.

More testing and drilling, as well as resources estimates are likely to follow. We expect positive results to bump the stock price higher. Should the feasibility studies also prove to have a positive outcome, we would expect the stock price to bump higher.

However, for the importance of these metals, and the discovery at the Molaoi site, you must be aware of the significant risks involved with Rockfire.

Risks

Firstly, this is an exploration company. This means that there’s no guarantee that what they find will actually make it to production and commercial sales. As noted, the requirement of feasibility studies will be required before the actual process of mining, extraction and production.

These are all things that require capital inputs. As with most exploration miners, that means capital raises. You should expect there to be further capital raises down the track. If that comes, you should expect that if you don’t participate, you will be diluted by future raises.

That is, of course, in the future. We don’t know for sure that these will come. However, we’d be incredibly surprised if they didn’t. Having conducted a raise in June to an institutional placement, the company raised an additional £880,000 to further the resource upgrade drilling and mineral resource at Molaoi.

It is likely that these sorts of raises are where retail investors can’t participate. So again, just be aware that these dilutive raises are likely to come as well.

If the mine for whatever reason proves to be commercially unviable, the stock will lose the jewel in its crown, so to speak. While it has other exploration projects, our view is that Molaoi is the value and stock price driver.

If Molaoi is not viable long term, we will be out of the stock and would expect a heavy loss on the position.

The stock is also tiny, with a market capitalisation of £4.9 million and a stock price of 0.25GBp. It’s one of the smallest stocks we’ve ever recommended to you. Volume in trading is around 2.6 million per day. However, at that stock price, that’s only around £7,000 of volume per day.

The reason we’re bringing it to you is because there are few companies on the London market that have both germanium and gallium resources that are small enough to make the asymmetric risk profile worth it.

Furthermore, with the company’s view to production at Molaoi in three years, that also fits our longer-term horizon for the stocks we look for.

The stock price will move on our recommendation. It’s advisable to ensure you stick within the buy limits so you’re not overpaying and not bidding for stock due to the movement from our recommendation.

If the stock pops over the buy limit, then be patient. There’s a good chance it may retrace back soon thereafter in absence of further positive announcements from the company.

This is one of those asymmetric risk plays that we love to uncover. Yes, it’s small, illiquid and highly risky as an explorative miner. But the demand and need for the West to secure supply of critical metals like gallium and germanium can’t be underestimated.

To have a miner with an exploration licence (for 30 years) in an EU state, with a confirmed presence of both germanium and gallium and aims for production within three years, this makes the risk worth it in this instance for such a small, risky company.

The point here is that you don’t need a huge capital investment for the potential upside, nor should you with something this risky. Always remember with stocks like this to never invest more than you’re prepared to lose.

Buying instructions

BUY Rockfire Resources (LSE:ROCK). Current price 0.25GBp, buy up to 0.35Gbp. This stock is illiquid. It may spike on our recommendation. Stick to the buy limits. Due to the volatility of tiny exploration companies, we won’t be using a stop loss on the stock. However, should the price head lower we will consider appropriate exit if the fundamental investment case falters.

Picture this: a colossal expanse of solar panels, measuring ten kilometres by ten kilometres, positioned in geosynchronous orbit, working tirelessly to harvest solar energy that’s then beamed down to Earth through an expansive network of antennas.

A receiver with a diameter of a few kilometres is established on the Earth’s surface to capture the power and subsequently channel it into the grid.

What’s not to like? Space-based solar power is – or would be – the highest-intensity solar power you can get, available 24/7, and it can be sent anywhere on Earth.

You might find this scenario reminiscent of science fiction, akin to the futuristic visions penned by visionaries such as Isaac Asimov. However, this concept, which has been a clean energy dream for decades, is perhaps not as far-fetched as it may seem.

In fact, in June, researchers at the California Institute of Technology (Caltech) said that a small-scale space solar power prototype was able to beam a small amount of power to Earth – an important first for the nascent technology.

The prototype – launched into space via a SpaceX-powered spacecraft in January – contained solar cells and an array of transmitters that beamed power through space and ultimately back to the university.

For it to work, the photovoltaic cells first converted the sunlight in space into electricity, which was then transmitted wirelessly as radiofrequency (RF) waves to receiver arrays – situated about a foot away from a transmitter – that finally converted the microwaves back to direct current (DC) electricity.

(Caltech has a video explainer here.)

As well as lighting up a couple of light-emitting diodes (LEDs), the prototype also beamed a “detectable” amount of power down to a receiver on the rooftop of a Caltech lab in Pasadena, California.

This was the first time anyone had ever demonstrated wireless energy transfer in the harsh environment of space, where the prototype was subject to large swings in temperature and exposure to solar radiation.

Although only a small amount of power was beamed back to Earth, larger-scale units will soon be put to test.

Indeed, the scientists at Caltech think solar panels in space, which can soak up unfiltered sunlight around the clock with no setting sun, might one day be able to generate up to eight times as much electricity as land-based solar panels, where terrestrial limitations such as fluctuating weather patterns, night-time darkness and land availability all act to impede the full realisation of solar’s potential.

Certainly, the ability to collect solar energy 24/7, regardless of weather conditions or geographic location, certainly sets space-based solar power apart from its terrestrial counterpart.

Caltech’s breakthrough paves the way for several advantages that space-based solar power can offer:

• Continuous energy generation: solar panels in space can generate power without interruption, providing a consistent energy supply around the clock.
• Global accessibility: the energy collected in space can be transmitted to any location on Earth, ensuring equitable access to clean energy resources.
• Reduced carbon footprint: by utilising solar energy, space-based power systems could contribute to a reduction in greenhouse gas emissions.

However, several challenges must be addressed before space-based solar power becomes a mainstream energy solution, such as:

• Cost: launching solar panels and associated infrastructure into space is currently an expensive endeavour so developing cost-effective launch technologies will be essential to making the concept economically viable. However, SpaceX has pioneered reusable rockets that have dramatically reduced the cost of launches. And the mass production of satellites has brought down the cost of hardware, too.
• Efficiency: optimising the efficiency of energy conversion, transmission and reception is crucial to minimising energy loss during the process.
• Safety concerns: transmitting energy via RF waves raises concerns about potential health and environmental impacts. Rigorous safety standards and research will be necessary to mitigate any risks.

Certainly, Caltech’s breakthrough in successfully demonstrating wireless power transmission from space to Earth serves as a catalyst for further research and innovation in the realm of space-based solar power.

Other researchers around the world are also racing to make similar progress with funding from governments trying to reach their climate goals, all working on various iterations of the idea.

In June, the UK announced £4.3 million in government funding for several research initiatives. That includes a group at Queen Mary University of London developing its own wireless system for beaming microwave energy from place to place.

Meanwhile, the US Naval Research Laboratory launched an experiment on the International Space Station earlier this year with the goal of beaming power across space using laser transmitters.

Of course, as technology advances and economies of scale come into play, the feasibility of large-scale solar power satellites becomes more achievable.

According to Sanjay Vijendran, lead for the Solaris initiative on space-based solar power at the European Space Agency, space-based solar is much closer to commercialisation than nuclear fusion, which garners a lot more attention and funding.

The most ambitious timeline so far is for this technology to be ready to power homes and businesses on Earth by 2050, says Xiaodong Chen, a professor of microwave engineering at Queen Mary University of London.

Although that sounds unrealistic, it’s also true that developments in space technology warrant some cautious optimism about space-based solar.

Certainly, Caltech’s recent breakthrough in space-based solar power marks a significant milestone in long-standing dreams to harness this limitless clean energy source from space here on Earth.