Rare Earths Demand and Prices Fall

China produces over 97 percent of the world's supply of rare earths, so any news coming out of China is important for the industry. Rare earths are essential raw materials for many everyday goods, especially electronic items.

Beijing's reforms of its domestic rare earths industry has thrown into turmoil the market for these metals. Citing concerns about the environment, Chinese authorities have this year closed mines, severely tightened environmental regulations on rare earths processors and cut back on exports.

Prices have slid more than 30 percent just since July on many of the rare earths. This prompted China's largest rare earths producer, Baotou, to suspend its operations for a month beginning on October 18.

Why did Baotou do this? Simple, demand is weakening. Already analysts have cut their forecasts sharply for rare earths demand outside of China.

Dudley Kingsnorth, from rare earths consulting firm IMCOA, lowered by one-third his estimate for this year's non-China demand to 40,000 tons from a 58,000 ton forecast a few short months ago.

This seems to be a long-term trend according to Mr. Kingsnorth. He believes that in 2015 non-China demand will be about 50,000 tons, down from his earlier estimate of 74,000 tons.

At these still-high rare earths prices, we are starting to substitution of rare earth metals by cheaper alternatives. For instance, rare earth magnet makers have seen demand plummet this year. Cars can use cheaper iron magnets in their electronics. Magnets account for one-fifth of rare earths demand.

Although it should be mentioned here that not all rare earths can be substituted in all applications.

Of course, the falloff in demand does not necessarily mean that we will see a steep further falloff in prices.

Bautou's production halt is a stark reminder that, for now, China still controls the industry.

It is conceivable that Chinese producers could coordinate their efforts, lowering production, in order to keep prices higher than they otherwise would be.

In addition, Chinese stockpiling of rare earths may help keep a floor under prices. Baotou itself is steadily building up its 55,000 ton stockpile. Its goal is to inventory enough rare earths so as to have roughly half China's annual production.

Investors interested in playing the rare earths industry in a wide, diversified basis can do so through an exchange traded fund (ETF). It is the Market Vectors Rare Earth/Strategic Metals Fund (NYSE: REMX).