Lately, more Inner Circle members have been asking us about investing in commodity stocks that mine or process rare earth elements.

Rare earths are used in a variety of modern devices and applications, including catalytic converters and petroleum refining; magnets in small and large motors; glass additives and glass polishing compounds; rechargeable batteries; television and computer screens; lighting; X-ray machines; and lasers.

Prices of rare earth elements have risen sharply. That’s mainly because China, which accounts for around 95% of global production, has imposed a 72% cut in export quotas for the second half of 2010. China regularly imposes quotas on exports of rare earths to boost prices internationally and ensure enough supplies for Chinese companies.

So you can get a sense of how our Inner Circle works (and how you can profit from it) I’d like to share a recent member question about Neo Material Technologies Inc., a Canadian company that processes rare earth elements.

Q: Pat: Can I have your recommendation on Neo Materials? Thank you.

A: Neo Material Technologies Inc., $6.19, symbol NEM on Toronto (Shares outstanding: 119.1 million; Market cap: $737 million), buys rare earth elements and processes them into neodymium-iron-boron magnetic powders and zirconium-based engineered materials. Toronto-based Neo Material makes its products at plants in China, Thailand, Germany and North America.

The commodity stock’s Magnequench division accounts for 55% of its sales. This division makes magnetic powder, which is used to make small, strong, lightweight magnets that are used in electronics, particularly small motors that run computer hard drives, copiers and CD and DVD players.

The company’s Performance Materials division supplies the remaining 45% of its sales. This division makes oxides and salts out of rare earths. These materials are then used in catalytic converters, compact fluorescent lighting, computers, television display panels, optical lenses, mobile phones and electronic chips. The commodity stock’s clients include Epson, Panasonic, Hitachi, BASF, Philips, Samsung and Canon.

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In August 2009, the company bought Peterborough, Ontario-based Recapture Metals Ltd. for $15.3 million U.S. in cash and shares. Recapture produces gallium, indium and other rare metals, mainly from discarded electronic and industrial equipment. It sells its metals to a wide variety of manufacturers, including makers of cellphones, solar panels and computer screens. Recapture is now a part of Neo’s Performance Materials Division.

In the three months ended June 30, 2010, Neo’s sales jumped 89.7%, to $79.2 million from $41.8 million a year earlier. (All figures except share price and market cap in U.S. dollars.) The company earned a record $16.0 million, or $0.13 a share. A year earlier, it earned $4.8 million, or $0.04 a share. These gains were mainly the result of higher demand for the commodity stock’s specialty metals as the economy continues to recover.

Commodity stocks: Tougher environmental regulations should benefit Neo

Neo should continue to benefit from the trend toward tougher energy efficiency and environmental regulations, as well as rising interest in recycling old electronics. Higher demand for energy-efficient motors, hybrid vehicles and high-efficiency lighting should spur its sales, as well. Moreover, because it has plants in China, Neo enjoys both steady supplies of rare earths and lower domestic Chinese prices.

Our buy/sell/hold advice on Neo, based on the company’s current position and the outlook for rare earths, is only available to members of our Inner Circle. You can’t get it anywhere else!

If you’re looking for authoritative advice on investment issues, or fundamental analysis of stocks you’re considering buying (or selling), you should join my Inner Circle service. When you do, you always get clear, concise investment advice that’s 100% independent, and untainted by commissions or other undisclosed influences. I swear to it. Click here to learn more.