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Why lithium bear Morgan Stanley disclosed a position in Galaxy Resources Limited (ASX:GXY)

Many regular readers and those that follow the lithium space are likely to be aware of the mixed views on the future direction of lithium prices.

One of the most bearish investment banks has been Morgan Stanley. As I covered here at the end of February, the broker’s international team predicted that increased production from projects in Argentina and Australia would add an additional 500,000 tonnes of supply to the market by 2025.

This compared to the current annual supply which stands at approximately 215,000 tonnes.

In light of this significant rise in supply, the broker suggested that lithium prices would fall from US$13,375 a tonne today, to US$7,332 a tonne by 2021 and then US$7,030 a tonne thereafter.

As you might expect, this bearish view weighed heavily on the lithium miners and knocked many of their shares for six.

Surprisingly, just a little over two weeks from the release of that note Morgan Stanley Australia appeared as  substantial shareholder for lithium miner Galaxy Resources Limited (ASX: GXY).

In fact it now has a recordable interest in over 5% of the lithium miner’s shares outstanding, hence why a substantial holder notice was filed with the ASX today.

ADDED: Why is Morgan Stanley disclosed as a major shareholder?

Due to the way that investment banks operate they can become substantial shareholders in a stock for a number of reasons. The reasons are normally related to the services they provide to institutional clients including custody, securities lending, and deposited-collateral-management known as rehypothecation.

In this case, rather than buying for a long position, it is possible that Morgan Stanley is acting as a prime broker and lending its clients’ shares to short sellers in return for a small fee (i.e. 50 basis points of the value of stock lent). In other words Morgan Stanley has not been buying the stock as a principal.

Should you invest?

I think that Galaxy and its lithium peers Orocobre Limited (ASX: ORE) and Pilbara Minerals Ltd (ASX: PLS) are well worth taking a closer look at, though they remain high risk investments.

I have never been convinced in the oversupply story due to the major players all committing to bringing on supply responsibly when demand required. As a result, I expect Galaxy and its peers to benefit from favourable lithium prices for some time to come.

My pick in the industry remains Galaxy due to its quality portfolio of assets and the strong free cash flow it is generating.

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Motley Fool contributor James Mickleboro owns shares of Galaxy Resources Limited. The Motley Fool Australia has no position in any of the stocks mentioned. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Scott Phillips.

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