The most frustrating part for long-term uranium bulls, myself included, is that the fundamentals never changed. There is still a tremendous growth in demand for U3O8, but the market just got a little too hot.

The investors who didn’t recognize the overheating got swooped up in the downfall and had their tremendous profits slashed away and, in many cases, eventually turn negative.

Other people saw the speculative bubble forming and the hedge funds start investing in the uranium market. Once the hedge funds enter any market, you can expect volatility to be extreme, and that is exactly what ensued.

Thus far in 2007, we saw the spot price of U3O8 increase by approximately 100% and then in a matter of weeks, give back almost 50% of those gains. With the decline in spot price came the crack in the ever-invincible uranium stock bubble, but all bubbles seem invincible at one point or another.

It seemed that with each weekly decline in the spot price, we saw a 10% decline across the board in uranium stocks… Ouch! This is all old news now. The question at hand is, have we found a bottom for yellowcake?

Moving Forward

Calling tops and bottoms can be a very dangerous game to play in this field of work, and that’s exactly what I’m not going to do. Instead, dear reader, I will do you one better.

We have to weigh all of the possible scenarios and also discuss the reasons for the sell-off in the first place.

Actually, there are just two main reasons. The first reason is very simple. There were several uranium producers that were keeping their uranium off the market and waiting for higher prices to sell-off.

At the same time, we had many buyers who were attempting to buy secured contracts for the delivery of uranium at a set date and price. Lots of willing buyers and few willing sellers result in higher prices, and that’s exactly what we saw.

This was fine and dandy until we reached the point at which the producers needed to sell their uranium to pay the bills. All of a sudden, the market was flooded with supply, and the buyers had disappeared. So conversely, the result of too many sellers and not enough buyers is lower prices.

The second reason for the sell-off has to do with the U.S. Department of Energy. Amid the middle of the decline, it came on board with 200 metric tons of uranium hexafluoride (UF6). The Department of Energy ended up receiving some $43.1 million for its UF6, but the end result was just an increase in the glut of supply on the market. It sounds like a minor version of the Gordon Brown gold sales at market bottom.

I can’t promise that all of the distortion in price is behind us and that the extreme volatility that we saw will just disappear, but it seems that the price is once again below market equilibrium.

Does that mean we have hit a bottom? Not by any means. What we have to do at this point is look at the long-term price of uranium and judge what the downside risk is versus the upside potential. In other words, what’s the risk-reward scenario at this point?

Well, it is in my strong opinion that we have downside risk in the neighborhood of $55-60 per pound and upside potential of approximately $150 per pound. Again, it looks as if we might be at or near a point of re-entry in the market for uranium.

Where’s the Profit Potential?

Since I truly feel that now is a good time to re-enter the uranium market, we have to figure out where to put those funds, and how to avoid as much of the volatility as possible.

Much like a very minor version of the dot-com bubble, any company with “uranium” in its name saw its stock shoot straight to the moon. This happened regardless of if the company had any proven and probable reserves or not.

Although the stock prices of these junior miners have come down to much more reasonable levels, I would like to avoid them. We can still find some great penny plays without taking the risk of a junior in a volatile market.

So what I’m looking for is a reasonably valued producer of uranium. There are a couple of picks along these lines, but one company stands out to me. This would be a company that stands to directly increase profits as the price of uranium increases.

That company is Uranium One (UUU: TSX). It is also traded on the Pink Sheets under the ticker SXRZF.

Why do I like this company? The main reasons are that it is a producer of uranium, as well as gold, and that it has been aggressively buying up other uranium companies in order to increase its asset base.

On July 31, Energy Metals approved a takeover bid by Uranium One. This is one of the largest acquisitions to take place in the uranium market. Energy Metals was also a producer of uranium, so this gave Uranium One more immediate production and a higher cash flow.

Uranium One has also picked up some juniors in a successful effort to increase its proven and probable resource base.

At current prices, Uranium One is very attractive. It also has a lot of analyst coverage that will show up in its stock price going forward. This is definitely a company worth looking at.

As I said, predicting a bottom is very difficult, but the risk-reward scenario at this point in the uranium market is once again very positive for investors.

Regards,
Nick Jones
October 25, 2007

P.S.: As Congress makes more and more alternative energy requirements, now is the time to jump in to some no-fail penny/energy stocks. Fellow Sleuth Editor Greg Guenthner has given his readers plenty of investing opportunities in alternative energy companies that are paying off.

Investing in Uranium was originally featured in the Penny Sleuth.