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A Case for Comeco

Jason Ayres
June 24, 2013
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A Case for Cameco

Back in a May, a group of politicians in Japans parliament called for a return to nuclear power as a solution for overcoming the economic challenges of importing expensive economic fossil fuels.

2 years ago, an earthquake and subsequent tsunami caused a nuclear meltdown that forced the shutdown of 48 out of 50 of Japans nuclear generators, and called into question the safety of nuclear power for many countries around the world. This resulted in the abandonment of many nuclear energy programs.

With that, the uranium market and associated stocks began a two year sell cycle, and numerous uranium producers could not continue operations.

This kind of public distain for a particular industry tends to keep most investors away. With the expectation that global demand for nuclear energy would continue to dwindle, the assumption was made that demand for uranium production would dwindle as well.

A Look at the Facts

There are currently over 400 nuclear power plants in operation around the world. That’s not near as important as the 150 plus new power plants currently in the final planning stages and over 300 projects proposed in emerging markets around the world.

Currently…

Investors do not seem to care about the long term potential as prices remain depressed and trading at multi year lows as indicated by the chart below. We would suggest that long term fundamentals point towards an opportunity to take advantage of these depressed prices and would look towards Cameco (CCO-TSE) as way to participate.

uranium prices

Cameco is a uranium producer and fuel manufacturer and engages in the mining, milling as well as the purchase and sale of uranium concentrate. They have a number of different mines in Nebraska U.S., Kazakhstan and Canada. However, the real story for us is the Cigar Lake mine.

Cigar Lake, the Northern Saskatchewan mine, was the darling story in 2006 during what would come to be a historic bubble rally in uranium prices. This is before it experienced a catastrophic flood.

Since then, the reopening of the mine has been continually delayed. However, it was announced on June 14th, that the Canadian Nuclear Safety Commission (CNSC) has granted Comeco a uranium mining license from July 1st 2013 through June 2021. The mine is now scheduled to re-open July of 2013. This makes Comeco a very interesting proposition, as it has the world’s largest high-grade reserves and lowest-cost operations. The quality of their ore grade is up to 100 times the world average. In spite of the fact that uranium prices are at multi-year lows and countless setbacks over the years, Cameco has been able to remain profitable and continues to pay a dividend of $0.39 (1.90%).

Even the $10.00 drop in uranium prices from $50.00 down to $40.00 has not hurt the stock price. And yet no one seems to be noticing that the company may be approaching a turning point.

A review of the weekly chart reflects the shares are now testing the 20 week moving average. This is largely due to the weakness in the equity (particularly commodity) markets in general. While there is room for a re-test of the $17.00 support level, investors may wish to consider a calendar strangle to participate in a move higher in share value while off-setting the short term risk of a deeper stock market correction.

cco chart

The strategy involves buying a longer term, at-the-money call option while simultaneously purchasing a short term out of the money put option. This approach allows the investor to take a decisive stance on participating in a possible rally in Comeco over the next year or so while hedging short term risk.

For example:

With the shares trading at $21.40, a January 2016, $22.00 strike long term call option is asking $4.35. With concerns of a near term set back due to current market conditions, an investor could purchase an October 2013, $20.00 strike put option which is currently asking $0.90

This would bring the net cost of the trade to $5.25 which represents the maximum risk if the shares do nothing for the next year and a half.

If the shares re-test the $17.00 support between now and the third Friday of October, the call will have lost money, however the put would be worth a minimum of $3.00 ($20.00-$17.00 = $3.00 intrinsic value) This would not only offset the loss on the call, but the profit on the put would lower the cost basis of the overall trade and subsequently the breakeven point.

This strategy could be closed at any point before expiration if yielding a profit or the investor could exercise their right to own the shares once a notable up trend was in place for a longer term holding. Excercising to own the shares would entitle them to the dividend as well. It is important to note that this strategy is RRSP and TFSA eligible.

Jason Ayres
Jason Ayres http://www.croftgroup.com/

CEO and Director of Business Development

R.N. Croft Financial Group

Jason is CEO and Director of Business Development at R N Croft Financial Group, a member of the Croft Investment Review Committee and a Derivative Market Specialist by designation. In addition, he is an educational consultant for Learn-To-Trade.com and an instructor for the TMX Montreal Exchange.

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