Lynas downgraded on valuation concerns, US-China trade talks could cool rally

Lynas (ASX: LYC) hit a significant production milestone last week, delivering its first Dysprosium Oxide and Terbium Oxide from its Malaysian facility. However, Macquarie analysts believe the stock's recent gains have taken it to a level that far outpaces its fundamental value and current rare earth pricing.

Macquarie downgraded the rare earths producer to "Underperform" from "Neutral" on Monday, citing valuation concerns after its recent rally – up 12.5% in the last month and 40.5% year-to-date. At $9.30, Lynas is trading at levels that imply rare earth prices above US$95/kg – well above current market rates of around US$63/kg.

Production Milestone Delivers Mixed Results

Lynas achieved its first production of dysprosium oxide and terbium oxide from its new heavy rare earth separation facility, commissioned in the third quarter. These materials are critical components in high-performance magnets used in electric vehicles and defense applications.

However, analysts expect limited immediate financial impact from the breakthrough. The new facility can process 1.5ktpa, potentially generating around US$90 million in revenue at full capacity – representing just 8% of projected 2026 Group revenue.

The analysts believe Lynas faces two key challenges in monetising this production: achieving the ultra-high purity standards required for defense applications (up to 99.999%) and scaling up operations while maintaining quality control.

Kalgoorlie Expansion Under Scrutiny

Lynas is simultaneously ramping up production at its Kalgoorlie processing facility in Western Australia, targeting a 10.5ktpa annual run rate for neodymium-praseodymium oxide, the primary ingredient in permanent magnets.

While the company maintains competitive advantages through high-grade ore deposits and processing expertise, analysts note ongoing risks from performance variability and recent changes to acid sourcing that could affect operations.

Limited Pricing Power

Despite volatile rare earth markets, Lynas is unlikely to capture premium pricing for its products. The company's supply agreement with Japanese trading house Sojitz stipulates that up to 7.2tpa – roughly 70% of total capacity – must be sold at prevailing market prices, eliminating potential arbitrage opportunities.

Market Sentiment Warning

Analysts caution that current market optimism around rare earths, driven largely by geopolitical tensions, could quickly reverse. Recent data suggests medium and heavy rare earth shipments have begun leaving Chinese ports, potentially signaling easing supply constraints.

Any progress in US-China trade discussions could further dampen market sentiment, particularly if it leads to increased Chinese rare earth exports.

Outlook

Macquarie maintained its $8.00 price target for Lynas, suggesting limited upside from current levels. The analysts cut their 2025 earnings estimates by 10% due to current thin margins, though longer-term forecasts remain largely unchanged.

Key catalysts for the stock include successful production ramp-up at Kalgoorlie and overall rare earth production targets for 2025. However, investors appear to be pricing in outcomes that may prove optimistic given the operational challenges ahead.

The downgrade reflects a broader reality check for rare earth stocks, which have benefited from geopolitical premium that may not be sustainable as supply dynamics normalise.