Platinum: A Win - Win
By: Chris Ackerman Jan 19, 2012
Global Economics & the Outlook for the World’s Super Metal
In the investment world, there are bulls and there are bears and, in the current climate, there seem to be far more of the latter than the former. Negative sentiment regarding global economics has become so prominent that subcategories in these traditional camps have emerged. Teddy bears and grizzly bears have morphed into prehistoric cave bears. And for good reason. The European Union continues to be plagued by systemic, entrenched problems so fundamental that the survival of the EU as an economic zone is in jeopardy. As grave as this is, the aforementioned Ursus spelaeus consider this a distraction from the far more desperate situation facing the United States. While the US faces dire circumstances in terms of deficits and debt (federal, state and municipal), the Euro crisis has led investors to once again flee to the safety of the greenback. This is folly, according to an ever increasing and vocal group of financial and economic experts. They argue, quite convincingly, that the US economy is a house of cards and, through reckless fiscal policy based on Keynesian economics, America has borrowed, printed and spent itself to the brink of collapse. And despite the alarm bells, the current administration shows no signs of slowing down. The only real safe haven, according to this growing chorus of analysts, is investment in precious metals.
The remaining bulls point to the 2011 decline in both gold and silver as evidence that the opposite is true; that precious metals are in a bubble and the US economy is recovering – albeit slowly. The bearish counterpoint is, of course, to label the drop in spot prices as a correction or pull back. In other words, it is a temporary blip in a secular bull market that shows the strong influence of the Normalcy Bias and represents nothing more than a buying opportunity. Ten year charts seem to support this notion.
Like any predictive claims, apart from those based on events to occur countless millennia from today, we will see one camp proven right. And, rather than merely a gentleman’s wager on some interesting scenarios coming to pass, if the bears are right (as they were on the housing crisis and its implications), the consequences are severe for both individuals and nations. More than ever, investment strategy today depends on, or is at least greatly influenced by, how one sees the trajectory of the economic system most directly affecting them.
Of course, world economies are intertwined and influence one another to a large extent. However, the term ‘global economy’ is somewhat of a misnomer in the sense that it is not one overarching, monolithic system in which all entities operating in all regions are experience the same reality at the same. Countries, sectors, companies and individuals vary in the degree to which they are isolated from the trends we are seeing in the West. That being said, with the US dollar being the international reserve currency (for now), everything continues to be measured against this standard. And given its inflationary central banking policies and ongoing, prolific deficit spending, the dollar – and therefore the economy at large - is very vulnerable. The US, by running the printing press night and day, also exports inflation to countries whose own currency is pegged to the US dollar. Bullish for gold and silver as stores of value and well-recognized for their value as bullion.
But what about the other ‘precious metals’? What about the platinum group metals and platinum, in particular?
Platinum group metals (PGMs), share characteristics with gold and silver that make them particularly well-suited to industrial, medical as well as jewellery and investment applications. Coupled with scarcity, it is the chemical properties of PGMs – high conductivity, high melting point, stability, inertness, catalytic properties – and the industrial uses that derive therefrom – which primarily drives demand.
The PGM family includes platinum & palladium as well as the exotics: osmium, ruthenium, iridium and rhodium. While the primary use of PGMs as a group is within automobile catalytic converters which dramatically reduce vehicle emissions, platinum and palladium are also becoming increasingly popular investment vehicles. Bullion and coins are available from major mints, including Canada and the US, and platinum & palladium-based exchange traded funds have also emerged in recent years, with well-known strategists like Sprott looking to get in on the action by launching their own ETF. And it appears Deutsche Bank is also on the trolley, having launched the world’s first rhodium-based ETF on the London Exchange in June 2011.
In spite of the myriad of applications and the fact that annual production of platinum group metals is approximately 20% that of gold (with platinum being less than 10%), and a mere 4% that of silver, what we have seen in the latter half of 2011 is a significant drop in the relative price of platinum such that it has been maintaining a spot price substantially below that of gold since August.
While not unheard of, this situation is certainly an historical anomaly and one which has been short-lived in the past. From 2000 – 2008 platinum price ranged from around 150-240% that of gold. In late December, it had fallen to just 88%; a clear relative undervaluation. In 2011, after a roller coaster ride, the price of platinum ended up down by close to 18%, with a dramatic overreaction to perceived threats leading to a somewhat precipitous decline toward the end of the year.
So what are the bases for the current conditions and, perhaps more importantly for the investment community, what will the trajectory of platinum price be as we look ahead to 2012 and beyond?
Explanations are legion and, with one over-arching macro consideration, entirely logical. Fears of a Greek default, along with even larger scale problems in Italy, Spain, Portugal, and the European Union as a whole, have had the markets in turmoil for months. The recent downgrade in credit-rating of several European nations certainly exacerbates the issue. As noted above, this has also distracted from the borderline nightmarish situation in America and led to a flight to the perceived safety of US treasuries. From one disastrous “currency” to another, individuals and institutions alike have moved (in many cases cashing out to meet margin calls, etc.). Gold and silver, as inflation hedges or safe havens, have suffered in the result. Platinum, as the least established of the three in terms of recognition as currency, has seen the most precipitous decline. Logic will win in the end, and once the world looks past Europe and re-examines the US currency and sovereign debt crisis, precious metals will soar once again…including platinum. Furthermore, economic decline in the West will be more than offset by growth in other regions; a factor that will bolster industrial demand for platinum.
It is instructive to consider long-term trends when dealing with precious metals, and platinum is no exception. The chart below shows a clear and dramatic upward trend in platinum price for the past 20 years, with the only significant interruption occurring during the calamitous period surrounding the crash of 2008. Overall, demand has increased and applications have expanded, yet supply has remained relatively static with the vast majority still originating from South Africa and Russia.
When compared with the secular trend illustrated above, the so-called ‘dramatic’ drop in platinum price in 2011 is shown to be nothing more than a blip, and one of much less significance than the one appearing in 2008. The future can be predicted through good, old-fashioned supply and demand, with some forecasters predicting a 2012 move to as high as $2120. Ross Norman of Sharps Pixley notes, “We see platinum and palladium as some of the strongest performing commodities for ”.
As noted, the primary use of PGMs is within industrial applications and particularly catalytic converters, with jewellery rounding out the majority of demand. Such a basis for demand strongly links platinum to prevailing economic sentiment, while its investment applications are in an inverse relationship. Gold, with a much more recognized and stable position as an investment, is insulated, and actually benefits from, currency and economic concerns.
Commodities prices tumbled in the latter half of 2012 based on fears of a global economic downturn. Negative sentiment, arising out of Europe and the US, overwhelmed attention given to contrary indicators coming from other parts of the world experiencing healthy, if not dramatic, growth such as the obvious China and India. What is often headlined as “weakening demand” or “slowing growth” from China turns out, in reality, to be a forecasted decrease in the rate of increase.
“Growth in China, the biggest user of everything from copper to cotton to coal, will slow to 8.5 percent this year, from 9.2 percent in 2011, the mean of 14 estimates shows. That’s still four times the anticipated pace of the U.S.” according to Nicholas Larkin and Maria Kolesnikova.
Nevertheless, western-centric predilections came to dominate or infect all economic forecasts and the entire world was seen to be coming to a grinding halt. But a decrease in automobile manufacture and purchase in the US and Europe does not mean a decrease in the world.
Automobile sales, while projected to plummet in the US and Europe this past year, did not drop off a cliff. Nor are they projected to continue on this fantasy decline. According to JD Power & Associates, in fact, they are projected to climb next year…albeit at a somewhat anemic 1.9%. However, globally, auto sales are expected to grow at a healthy 8.5% thanks to those two aforementioned emerging economic powers. As a recent Bloomberg article states, “Global car sales will rise 8.5 percent to 80.7 million in 2012, according to researcher JD Power & Associates. Demand is being led by developing nations, which will expand 6.1 percent next year, compared with 1.9 percent for advanced economies, the International Monetary Fund predicts.”
While 2011 numbers were not spectacular, the devastating earthquake that ravaged Japan and sidelined automobile production certainly played an enormous part in that reality as did flooding in Thailand which hampered output from factories making computer chips used in many modern vehicles.
Of those new vehicles being produced in North America and Europe, increasingly stringent emissions standards will be drivers for platinum demand. Likewise, similar trends should be seen in the emerging markets where demand for larger, yet cleaner, vehicles with great catalytic requirements will continue to expand. As noted in an October 2011 article in Metal Miner, “Devoid of incentives, the trend in China this year has been for mid-size and larger vehicles.”
If you listen to Morgan Stanley, the projections are even rosier. In a December 2011 piece, Bloomberg cites a forecast from Morgan Stanley suggesting demand from auto catalysts will rise 17 percent to about 3.83 million ounces in the coming year. And this is without even noting that platinum (with palladium) is the preferred catalyst for diesel engines.
An interesting take comes from Sasha Cekerevac of Wall Street Pit who observes, “The current marketplace has priced in very poor economic data; however, this will spur massive money supply growth coming forth by world central bankers in 2012. Money supply growth has been shown to lead car sales by three to six months, in addition to overall increases in precious metals prices. This is in addition to more interest rates cuts around the world; another key driver in car sales.”
Beyond the automobile market, there is significant demand for platinum and platinum group metals in a whole host of other industrial, medical and dental applications, many of which represent the very leading edge and future of innovation. Fuel cells, LCD displays, pacemakers, cancer treatment drugs…the list, detailed on Johnson Matthey, is practically endless. In point of fact, demand for industrial uses other than autos rose 30% in 2010. Platinum is a super-metal. Just as diversification of risk in a stock portfolio is desirable, diversity in demand is desirable in a commodity. Reductions in one area can be offset or shorn up increases in others.
Fuel cells are a particular interesting application and one that could be an ongoing source of increased demand for platinum. In an FAQ discussing the requirements for fuel cell electric vehicle conversion, “The DOE analysis firm Tiax has conducted a detailed analysis of platinum demand to support a global FCEV deployment, and their data show that a 3%/year growth rate in platinum production should be enough. This is approximately the same growth rate that the platinum industry achieved in the 1960 to 2000 time period when catalytic converters were being deployed.” While a 3% increase does not sound particularly impressive, considering global constraints on supply, the increasing difficulty of mining and the fact that there are no existing stockpiles, this added demand could bode well for prices. And this is just one emerging source of new demand.
Like gold, platinum is highly-valued by jewelry consumers and manufacturers with rising demand coming from China – already the world’s largest consumer of platinum-based jewelry. It has been noted that retailers and manufacturers are restocking the metal in order to take advantage of the temporary dip in price. Per Austin Kiddle of Sharps Pixley, “Another factor is the rising demand in jewellery especially platinum in China, the biggest consumer of platinum jewellery at about 70% of world demand, which could be further stimulated by the cheaper platinum price versus gold.” As with bullion and coinage, when platinum is used in jewelry, it is not later recycled; the implications of which are discussed below.
In terms of investment demand, the adjacent chart shows a steady and steep upward climb in platinum-based ETF holdings. In a January 2012 interview on MineWeb Radio’s Gold Weekly, Nick Brown states, “on the investment side you would have to think that more and more investors around the world will look at platinum as a means of diversification out of holdings of gold and perhaps silver as well. This should be an attractive entry point if you are long term bullish on precious metals.”
Demand is only part of the equation, however. Even if demand is increasing and projected to continue on this path, if supply is keeping pace it’s a zero sum game from an investment standpoint. And if supply is increasing relative to demand, it’s obviously negative. Neither is happening. Quite the opposite, according to Barclay’s, which projects that platinum mine supply will decline in 2012 for the first time since 2008. This reduction in output is attributed to increasing mining costs in both Russia and South Africa, which together account for approximately 88% of global supply. The low-hanging fruit in many high-producing regions has already been picked. Any further political or social instability in these areas could have serious implications for supply moving forward.
Furthermore, as Johnson Matthey pointed out, in recent years 20 to 25% of platinum demand was satisfied by recycling. 2010 was the first year in which mining output and recycling did not meet demand. It’s interesting to note that, based on such factors as those noted above, a survey of analysts conducted by Bloomberg shows the experts expect platinum to rise by 22% in 2012.
This is in-line with comments by global head of metal analytics at Thomson Reuters GFMS who stated, “If we were to see much lower growth in vehicle demand next year due to a weakening European economy, we could lose 6 tonnes of platinum demand (emphasis mine).” He goes on to note that he expects platinum prices to average between $1700-$1800 per ounce in 2012. That is a roughly 20% increase if there is much lower growth in vehicle demand. What will the increase be when we do not see this decrease in vehicle demand?
After an exhaustive executive summary, Scotia Mocatta concludes by stating, “We remain bullish for Platinum in the long term as we like the demand profile and feel the supply side will tighten.”
One final and very important point to consider is with respect to recycling and its effect on supply. The expectations above look for a 20% or higher increase in platinum price in 2012. While many analyses project a surplus in platinum for 2012 as a result of recycling, what doesn’t seem to get factored in is that, along with an increase in use of platinum in jewellery and for investment comes a corresponding decrease in recycling. Bullion and engagement rings don’t get melted down and reused. Once platinum is allocated for such purposes, it is gone. As noted above, 20-25% of platinum supply - enough to meet demand - comes from recycling. If demand for platinum jewellery and investment vehicles continues to rise – and it appears it will – supply will be restricted, meaning even greater increases in per ounce value in the future.
2012 will be an interesting, and likely volatile, which should see some clarity come to the economic situations facing both Europe and the United States – for better or for worse. While gold and silver both have industrial applications, their desirability as alternatives to fiat currency should support, and even increase, their price. Given its mostly industrial application, the market appears to be in somewhat flummoxed with respect to platinum. Most experts seem to agree that it is poised for a significant comeback as we move forward, however. As discussed above, platinum is in a unique position among its peers in that, by virtue of its diversity, it may be able to simultaneously capitalize on economic decline and inflation in the West as well as continued expansion in the East. Looking back on platinum’s performance over the past five years, it may just have a future as construction material for roller coasters.
Johnson Matthey sums it up nicely:
• Automotive demand for platinum to be supported by heavy duty vehicle fleet renewals, recovery in Japanese vehicle output
• Growth in electronics and non-road emissions control demand sectors
• Jewellery demand to be maintained by strength of China market
Now, if Saudi Arabia finally begins to mass produce automobiles for that region, the sky’s the limit.
Chris Ackerman is a private investor, published author, boxing/mma columnist and currently holds the position of Investor Relations Manager with Prophecy Coal Corp. (TSX: PCY) and Prophecy Platinum Corp. (TSX.V: NKL).
Chris Ackerman, B.A., LLB
Disclaimer: The views expressed in this article are those of the author and may not reflect those of Prophecy Platinum Corp. Neither Prophecy Platinum Corp. nor the author can guarantee accuracy of all information provided. This article is strictly for informational purposes only. It is not a solicitation to make any exchange in precious metal products, commodities, securities or other financial instruments. Prophecy Platinum Corp. and the author of this article do not accept culpability for losses and/ or damages arising from the use of this publication.