Why do Small Cap Share Prices go up?

We all invest in small caps in the hope that the share price will go up.

Everyone loves feeling like a genius when an investment they have made has risen.

Proudly strutting into their living room and declaring to anyone who will listen what a financial mastermind they are.

We have all done it at some point.

...even though most of it is just luck, timing and patience.

So why and when do small cap share prices go up?

Share prices go UP when there are more buyers than sellers.

As we have seen in the last few months, share prices go DOWN when there are more sellers than buyers.

With most share prices well off their highs, usually we observe it doesn’t take much new buying to give the shares a little pop.

There are generally four things that might encourage investors to come back into the market or a specific stock:

1. Positive market sentiment returns
2. Expectation of an exceptionally good announcement
3. Exceeding market expectations with an announcement
4. Large capital inflows (this one is the best)

Here is a bit more detail on each of these:

1. Positive Sentiment returns

Market “sentiment” basically means the average levels of positivity versus negative feelings across the investment community.

If the majority is feeling positive, there are more buyers and stocks go up, if there is more fear in the market, then stocks tend to go down.

The small cap market has been pretty dire for many months now - the vast majority of people are feeling negative.

Right now no one wants to hear about small cap stocks, let alone invest. Especially in your own living room.

IF sentiment turns positive then buyers come back into the market and many small cap stocks that overshot downwards will enjoy a little bounce back up.

Once people see that stocks can actually go up again, greed replaces fear, feelings turn positive and more and more people rush back in.

Until the opposite happens and sentiment slowly turns negative again, then turns positive again, then negative again...

This cycle repeats forever.

We take a long term view and generally hold through the downcycles.

From an individual stock perspective, we recently highlighted a couple of our stocks that have seemed to defy the broader negative sentiment and share prices have been creeping up.

ALA probably gets our award for having the most positive sentiment around an individual stock recently.

ALA is developing an off-the-shelf cancer cell therapy treatment (why we Invested in ALA).

For some reason, ALA delivered another positive share price rise this week, in a bad market, on no news.

ALA’s share price started moving up in early January, but it hasn’t been off the back of any material announcements - it seems to be mainly on sentiment around the company:

2. Expectation of an exceptionally good announcement

With small cap stocks, a big announcement can materially impact the future prospects of a company, which can cause a rise in share price.

The most obvious example being drill results for a junior explorer.

Before a result announcement gets released, many investors will place bets speculating on the result being excellent.

This is where imaginations can run wild, investors are able to price in results that might not even be possible.

This type of behaviour usually causes the share price to rise in the lead up to the results being announced...

But also to fall if the eventual result doesn’t match OR exceed expectations.

It’s important to note that when the result is announced, for the share price to go up, the announcement needs to EXCEED what the market was expecting - otherwise there will be sellers.

This one is pretty obvious, especially for those that follow oil & gas explorers.

When there is a big prize on offer like in high impact oil & gas exploration, the pre-result speculation can be intense.

NHE and IVZ are both on track to drill some huge targets in Q3 this year - now only a few months away.

Many will recall IVZ’s big share price run up in the months leading up to their 2022 basin opening drill campaign on the Mukuyu-1 target in Zimbabwe... and the subsequent results announcement.

Well it's all happening again in July with IVZ on track to start drilling Mukuyu-2, taking on board learnings from Mukuyu-1 (why we invested in IVZ).

Further north in Tanzania, NHE is drilling what could potentially be the world’s largest helium resource in the Rukwa basin - also a “basin opening” well like IVZ’s was.

This week NHE announced expressions of interest from farm-in partners and signed a Letter of Intent with a drill rig provider - so it’s getting real now (why we Invested in NHE).

Drilling in Q3 will certainly be interesting for both IVZ and NHE.

Shortly after in Q4, EXR also has a big drilling event scheduled (why we Invested in EXR).

Every small cap oil & gas drilling event is different, and share price activity in the lead up to drill results is different.

We expect to see all of this play out across IVZ, NHE and EXR over the coming months.

3. Exceeding market expectations with an announcement

Sometimes a small cap company delivers an announcement so good that the share price spikes... and actually stays up.

Next week, two of our portfolio companies are expected to make long awaited drill result announcements - 88E and GGE.

Will the share price go up after the announcement?

It depends...

Again, the key to a share price rise occurring is that the results announced must EXCEED what the market is expecting.

Because market expectation is already factored into the pre-result share price.

Both 88E and GGE have NOT experienced a share price run up in the lead up to results, meaning market expectations are currently low.

(possibly because both have had a couple of past drill campaigns that didn’t surpass investors pre-drill expectations)

Ironically, a share price rise on a results announcement is actually easier to achieve in a low sentiment market, where expectations (and share prices) are low.

Market behaviour is driven by emotions.

Emotions are driven by how reality matches people’s expectations.

Let’s take a common example of receiving your tax return payment.

If you were expecting a $10,000 tax return payment, you would be annoyed if it turned out to be $0.

If you were expecting $10,000 but got $20,000, you would be elated.

If you were expecting $0 but got $10,000 you would be elated.

If you were expecting to pay $10,000 in tax and it turned out you had to pay $0 - you would be elated.

It’s the same for ASX listed small caps - The lower the expectations, the more delight (and buying) will be generated by a result.

The higher the expectations, the more likelihood of disappointment.

It's also why sometimes small cap share prices fall on what many believe was a great result is announced - meaning it wasn’t as “great” as what everyone else was expecting.

(Remember the 88E Merlin-1 well when the share price crashed on what was actually a decent result, after running up 1,000% pre-result on sky high expectations?)

Share price response to an announcement all comes down to the average of the EXPECTATIONS of the markets.

Exceeding market expectations when results are announced is the key driver of new buyers entering a stock, causing a rise in share price.

As we flagged above, next week we are expecting drill results from both GGE and 88E - it’s going to be a big week.

Both are toward the end of their drill programs but haven't seen a run up in their share prices - implying that market expectations of a positive result are low...

88E started drilling on the 10th of March when its share price was 1.2c - now it trades at 1c per share.

We see this as the market expecting a negative result, and in the event 88E actually delivers materially positive news it could lead to a re-rate in the company's share price.

Similarly, GGE started drilling on the 15th of March when its share price was 2.9c - now it trades at 2.4c per share.

Both companies have seen falls in their share prices since starting drilling even though there is a possibility they deliver materially positive drill results next week.

Both are examples of low pre-result expectations, giving the companies a great opportunity to deliver strong unexpected news and (hopefully) a share price re-rate higher.

Obviously the actual drill result needs to be positive, we will soon find out.

We look forward to updating on GGE and 88E’s results next week.

4. Large capital inflows (this is the best)

Perhaps the strongest influence on a share price going higher is the overall strength of a company's macro theme.

Again, share prices are simply a function of supply and demand.

For a share price to go higher we need to have more buyers (demand) than we have sellers (supply).

The easiest way for this to happen is if a couple GIANT buyers try to enter a stock.

Take the battery materials boom for example.

Big share price rises were driven not only by individual investor interest...

It was when when the following groups started buying and investing did share prices really start to move:

• Global car companies
• Global resource companies (M&A)
• Ultra high net worth investors
• Large fund managers
• Superannuation funds
• Banks (lending)

It was the massive influx of capital off the back of battery materials macro strength that turned some small caps into billion dollar behemoths.

An example in our portfolio was VUL which went from ~15c to over $16 per share in under two years.

For the first few months of VUL’s life as a battery metals stock the company's share price hovered around ~20c.

After the markets, mainstream media, large institutional investors and car companies caught onto the battery materials macro thematic (in 2020-21), VUL’s share price really started moving.

In summary, when big money starts chasing small cap stocks, share prices can REALLY get going.

A few media articles this week point to increasing interest from large pools of capital to enter the battery materials space.

Global car companies still looking to invest in battery materials

Just this week Tesla detailed its Master Plan Part 3 outlining the world's need to invest $10 trillion to move away from fossil fuels to a world powered by clean energy.

Of that total, $3.4 trillion would be needed to mine and refine the raw materials, produce battery chemicals and downstream infrastructure to produce batteries.

According to Tesla - lithium and graphite need the most investment,

Here is an excerpt of Tesla’s master plan from Benchmark Minerals’ newsletter:

While lithium has been in the spotlight for the battery materials sector and already had a big bull run, graphite hasn’t... yet.

Graphite makes up ~50% of the raw materials in every lithium ion battery (and over 95% of every battery anode).

As a result we think graphite could be the next battery raw material to run if an influx of capital materialises off the back of macro strength.

We have two Investments across our portfolios in the graphite space:

1. Our 2022 Small Cap Pick of the Year Sarytogan Graphite (ASX: SGA) - Feasibility stage and has the highest grade, second largest graphite (by contained graphite) resource on the ASX. (why we invested in SGA)
2. Our 2021 Wise Owl Pick of the Year Evolution Energy Minerals (ASX: EV1) - DFS stage, shovel ready low CAPEX project with an added downstream business being developed. (why we invested in EV1)

Banks and Super funds coming next?

The below article covers big institutional investors, like pensions funds, currently lacking the know how to make effective investments in battery materials companies:

In the article, Chalice Mining CEO Alex Dorsch said superannuation funds and banks are poorly prepared for the battery materials boom as they lack in-house geology experience to lean on when making assessments about project viability.

But when that changes and these big players come to the party, it could have deep positive implications for the kinds of small cap battery materials companies we’ve held in our Portfolio for many years.

Investment and M&A from global resource companies

A couple of weeks ago we predicted more M&A (mergers and acquisitions) during the current rough market conditions.

Particularly in battery materials and energy, where share prices of good quality companies are well off their highs...

A few days later US$26BN Albemarle announced a takeover offer for ASX-listed lithium aspirant Liontown Resources at a 63% premium to the share price.

We expect M&A activity to ramp up in the batteries - another contributor to the capital inflow into the sector that can drive up share prices.

Here is a list of all the battery materials companies we are currently Invested in.

It would be great if we knew for sure when share prices will rise, but unfortunately no-one can know that.

The four scenarios described above are hard to predict, let alone time, which is why our approach is to take our best educated guess and hold long term positions through bull/bear cycles.

MEG’s big brother: Patriot Battery Metals

We attended the Sydney Mining Club event this week to hear lithium industry legend Ken Brinsden present on the sector and his company, Patriot Battery Metals.

Patriot’s epic rise has been the talk of the sector over the last 6 months.

The $500M capped Patriot is advancing its project in the emerging world-class lithium James Bay region of Canada.

We have two Investments with exposure to lithium in James Bay, that we hope can emulate some of Patriots success:

• Megado Minerals (ASX:MEG) - (why we Invested in MEG)
• Kuniko (ASX:KNI) - (why we invested in KNI)

Not surprisingly, Ken expects the lithium price to remain strong for the foreseeable future given ever-growing EV demand.

He also downplayed the threat of non-lithium EV batteries, noting that lithium batteries - with their high power-to-weight ratio and energy efficiency - are still getting better.

Any new alternative would have to surpass not just current lithium-ion battery performance and cost, but also what a lithium battery can deliver five years from now.

Here are all the lithium stocks we currently hold.

Have a great holiday.

This week’s Quick Takes 🗣️

NHE: Noble Helium signs LOI for a rig ahead of Q3 drilling

KNI: Kuniko gets CarbonNeutral certification for 3rd year running

SGA: SGA raises $5M in new capital

GTR: Maiden JORC resource defined - next resource coming this quarter

BOD : BOD: Phase IIb CBD-insomnia trial recruitment complete

KNI: Kuniko hits nickel in Norway, plenty of assays to come

ALA: Arovella to present on tomorrow (4/04/2023)

This week in our Portfolios 🧬 🦉 🏹

88 Energy (ASX:88E)

This week 88 Energy (ASX:88E | OTC:EEENF) released visual confirmation of oil shows from its Hickory-1 well on the North Shelf of Alaska.

On top of that, 88E reported that it discovered a completely unexpected NEW reservoir unit — separate from the company’s initial six stacked targets.

88E just finished drilling at its 647 million barrel prospective resource target (mean unrisked net to 88E).

It is now running a wireline logging program to confirm the initial interpretation of multiple pay zones identified, and obtain data to optimally design and plan the flow test for the well.

So far so good for 88E, especially given the company has now decided to being preliminary planning for a flow test in late 2023/early 2024.

The current timeline for the well is as follows:

✅ Drilling commenced - 10 March 2023.

✅ Drilling to 10,650 feet Total Depth (TD) - Drilling completed 3 April 2023.

🔄 Wireline logging program - Program underway; we expect results next week.

📰 Read the full Note: 88E / EEENF shows oil blobs under fluorescent light - net pay 5-7 days away

Top End Energy (ASX: TEE)

On Monday our Australoan gas exploration Investment Top End Energy (ASX:TEE) hit a major and long awaited milestone for its Northern Territory gas projects.

TEE holds a 50% interest in exploration permit applications covering ~166,000km2 in the NT.

The big news this week was that TEE received a native title approval for one of its highest priority permit - EP 258.

Native title agreements are needed before an exploration permit can be granted to commence ground exploration work.

TEE expects the permit to be granted in “the coming weeks”.

Once granted EP 258 would be the first exploration permit granted in the Northern Territory since 2015 — a big accomplishment and a testament to the hard work of TEE’s management.

📰 Read the full Note: First NT gas exploration permit in 8 years - now likely weeks away for TEE

Noble Helium (ASX: NHE)

On Wednesday, Noble Helium (ASX:NHE) announced multiple expressions of interest to farm-in to its helium project which will be drilling in Q3.

The shortlisted of interested parties will now move to “phase 2” of the farm-in process where they will finalise their farm-in offer terms.

A preferred farm-in partner will then be selected by NHE.

These parties include “a range of upstream and downstream participants and geographies, demonstrating the project’s global interest, potential scale, and value”.

We can understand why there are multiple bidders on this project given the size of the potential prize here: NHE has a certified mean unrisked prospective helium resource of 175.5Bcf (billion cubic feet).

To get an idea of the dollar figures, we did the most basic possible calculation of NHE’s possible recoverable helium (16.5 BCf) and multiplied it by a quite conservative US$$400/mscf helium price.

This gave us a potential value of helium extracted over the life of NHE’s project of USD $6.6 billion.

Note: These are very rough and basic calculations to get a ballpark idea of the potential value over the lifetime of the project, assumptions have been made by us to arrive at this number. It has not taken into account costs, is for illustrative purposes only and should not be relied upon.

This is a potentially globally significant helium project and we hope the farmout bids reflect this.

📰 Read the full Note: Multiple Interested Parties in NHE's Helium Project

Grand Gulf Energy (ASX: GGE)

Our 2021 Catalyst Hunter Pick of the Year, Grand Gulf Energy (ASX:GGE 🇦🇺 | OTC:GRGUF 🇺🇸) has almost finished drilling its Jesse-2 helium well in Utah, USA.

With this well, GGE’s is aiming to establish a commercial helium flow rates, building on last year’s helium discovery.

🏹 GGE expects to drill into the main reservoir section next week - this could mean a major catalyst materialises after the Easter break.

Given it is so close to target depth, and that GGE has flagged it will move straight into production testing once target depth is reached, we anticipate more material news from the company next week.

GGE is one of the companies in our portfolio to watch next week.

📰 Read the full Note: GGE helium drilling: Approaching the “gas pay zone”

⏲️ Upcoming potential share price catalysts

Updates this week:

• 88E: Drilling for oil in the North Slope of Alaska next to UK listed Pantheon Resources.
  • 88E completed its drill program identifying a new unexpected reservoir unit & gave visual confirmation of oil shows across all of the stacked targets. Read our note on the news here.
• GGE: Drilling its US helium project looking for a commercially viable flow rate.
  • GGE put out two drilling updates this week, the final one confirmed that GGE expects to hit its primary reservoir target next week. Read our note on the latest here.
• NHE: Scheduled to drill two targets this year at its helium resource in Tanzania (Q3 2023).
  • NHE completed phase 1 of its farm out process with “multiple parties” taken into further discussions (phase 2), read our note on that news here. On Thursday the company also announced a letter of intent with a drilling contractor, see our Quick Take on that news here.
• IVZ: Drilling oil & gas target in Zimbabwe, Myuku-2 (Q3, 2023)
  • IVZ raised $10M at 12c per share this week. Funds will go toward ordering the long lead items for this year’s drill program and some 2D seismic acquisition programs. See our Quick Take on the news here.
• KNI: Drilling 3/3 of its Norwegian battery metals projects in Europe.
  • KNI put out high grade assay results from its drilling at its Ertelien nickel project in Norway. See our Quick Take on the news here.
• GTR: Maiden resource estimates across two of its uranium projects in Wyoming, USA.
  • GTR put out the first of the two JORC resources we are waiting to see the company deliver. The second JORC is expected before the end of this quarter. See our Quick Take on the news here.

No material news this week:

• EV1: Framework Agreement with the Tanzanian Government.
• DXB: Interim Analysis of Phase III Clinical Trial on FSGS (Q3 2023)
• GAL: Drilling at its Callisto PGE discovery in WA.
• TMR: Maiden JORC resource estimate for its Canadian gold project.
• LNR: >10,000m drill program at rare earths project in WA.
• LCL: Maiden drilling underway at primary PNG copper-gold target.
• BOD: Countdown to clinical trials completion for over-the-counter CBD insomnia treatment

Have a great weekend,

Next Investors