Given a growing global demand for platinum, palladium, and rhodium, three of the six metals in the platinum metals group (PGM), and the increasing cost to mine platinum, we are focusing our efforts to accumulate platinum over the course of the year. PGM, specifically platinum, is an excellent store of value and it performs well as an inflation hedge. One could argue that platinum – and the other meals in the PGM – are a better long term hedge than gold, as there are a number of industrial uses for PGM and there is about ten times more gold mined each year than platinum.
Benefits of owning platinum
Most financial advisors would agree that investors should have an appropriate exposure to precious metals in their portfolio. When considering exposure to precious metals, most think of gold and silver. While exposure to these metals can be appropriate, we believe platinum is a better investment for a diversified portfolio.
Precious metals have historically been considered a safe haven against economic and geopolitical risks. Precious metals have long been considered a store of value and, hence, an off-set against inflation. Correlation to equities is low, providing diversification within an investment portfolio.
There are six precious metals that make up PGM: ruthenium, rhodium, palladium, osmium, iridium and platinum. We are focused exclusively on platinum. As of the time of this writing, Pt is trading at $1,265 per ounce. Primarily, this metal has an industrial application and is predominantly used in automotive catalytic converters to remove harmful emissions produced by a combustible fuel engine. These emissions include hydrocarbons resulting from unburned gasoline, carbon monoxide, and nitrogen oxide.
Demand
Prices for these precious metals are largely tied to auto sales given their high concentration of usage in catalytic converters. The global outlook for vehicle sales has been robust of late notwithstanding the global economic slowdown. Global auto sales in 2014 look to be just under 72 million vehicles, of which 45% was generated in Asia, 27% in North America, 17% in Western Europe, 6% in South America and 5% in Eastern Europe.
There are reasons to be optimistic about auto sales going forward. The US auto fleet is 11-years old (average) and is the oldest fleet in the western hemisphere. We expect the US to drive auto sales, lowering the average age of the US fleet, on the back of a strengthening economy. Further, the current price of oil at less than $50 should be additional impetus to keep the US auto industry humming.
With respect to global auto sales, analysts expect low single digit growth over the next few years and additional monetary stimulus in Europe and Asia should be a factor in the steady growth of auto sales.
Carefully monitoring and analyzing vehicle sales is of key importance when investing in platinum. The concentration of platinum use in catalytic converters is substantial enough that price will move based on auto sales. Total annual net demand for platinum in [2013] was 6.3 million ounces. Usage is categorized as follows:
Automotive Catalytic Converters 36.9%
Jewelry 32.1%
Investment 9.1%
Chemical Production 6.4%
Glass Production 2.8%
Medical/Biomedical 2.8%
Electrical Components 2.4%
Petroleum Extraction/Production 1.8%
Other 5.7%
The demand for PGM in recent years has led to the birth and rise of physical backed Exchange Traded Funds. ETF’s now represent over 1.5-million ounces of platinum and 2-million ounces of palladium. In an effort to attract more attention to PGM as an attractive alternative or addition to gold and/or silver, positions in investor portfolios, a consortium of the six largest platinum producers in the world have formed the World Platinum Investment Council (WPIC). Its mandate is to help “high net worth and retail investors gain a better understanding of the platinum investment opportunity through the provision of independent data, information and insight.” We expect this effort to have a positive impact on investor appetite for PGM.
According to the Union for Concerned Scientists (UCS), transportation accounts for nearly 30% of all U.S. harmful emissions into the atmosphere. For every gallon of gasoline burned, 24 pounds of carbon dioxide and other harmful gases are produced. In an effort to decrease these emissions, standards have been established and will be implemented in the next several years – from the U.S. to Europe to China to Brazil. One way to meet these standards in the coming years is to increase the usage of platinum, palladium and rhodium in new catalytic converters for the automotive market.
This greater awareness and acceptance of emission control bodes well for the PGM space as these materials are critical for pollution control.
The slowdown in Europe, especially Germany, has taken its toll on commodity prices. The U.S. economy has been the highlight of the global economy and the Federal Reserve has effectively ended quantitative easing. At the same time, the European Central Bank, the Bank of Japan, and the People’s Bank of China have adopted more stimulative monetary policy. That in turn has given a boost to the U.S. dollar, which puts downward pressure on most commodities, including precious metals. Nevertheless, we strongly believe the demand for these industrial precious metals will grow over the coming years, moving PGM prices off their current five-year lows.
Supply
Analysis of the supply of platinum offer further and additionally compelling reasons to believe ownership of these assets is represents a sound investment strategy. The primary supply for this metal is concentrated in specific regions in the world, many of which have an unstable political or economic profile.
In 2013, approximately 5.7 million ounces of platinum were mined by primary suppliers.
South Africa 72% 4.10MM oz.
Russia 14% 0.78MM oz.
Zimbabwe 7% 0.40MM oz.
North America 5% 0.29MM oz.
Other 2% 0.11MM oz.
Supply Challenges
The political and economic landscape in these regions can be difficult to navigate which creates an environment that provides attractive appreciation potential in the PGM derived from primary sources.
South African mining companies, which are some of the largest producers of platinum in the world, include: Anglo American Platinum (Amplats); Impala Platinum (Implats); lonmin; Aquarius; Atlatsa; Northam; African Rainbow Minerals; and Royal Bafokeng. These mines recently endured one of the longest and most expensive labor strikes in industry history. It crippled production in the first half of 2014. The above companies face a complex labor structure with labor rates that are not determined by mine efficiency and profitability. With the price of platinum hitting five year lows, many of the more inefficient mines are operating at a loss and many of these larger mining companies are looking to dispose of underperforming assets. Compounding these issues is the simple fact that the cost of mining PGM is increasing – deeper mines mean higher costs. The combination of these factors will inevitably affect capital investment in these operations resulting in decreased output from the primary suppliers.
According to industry analysis, platinum mine production peaked in 2006. Aging mines are producing less material. It is estimated that production at these mines has decreased at an annual rate of 6% from the peak and operational costs have increased at roughly 20% per annum. This trend underscores the potential value of platinum in the future. Analysts expect South African mining companies to invade reserves by up to 2-million ounces over the next several years in an effort to keep up with demand. As a result, targets within the industry call for platinum at $2,000 per ounce over the next several years.
Russia too is a major producer of PGM, with specific focus on palladium as a by-product of its substantial nickel production. As production in South African mines continues to slow, greater importance has been placed on Russian production. Given the impact of the labor strikes in South Africa, it is estimated that Russian stockpiles have been dramatically reduced in an attempt to off-set slack global supply. The reduction of Russian supplies is assumed by industry analysts as that information is tightly guarded by Russian officials. Further, ore grades in Russia are deteriorating as Russian PGM is more a by-product of its vast nickel mining operations. There is little doubt that primary production in Russia, like South Africa, is in decline.
From a geopolitical perspective, we do not need to explain the issues in Russia – primarily its annexation of Crimea from Ukraine. In fact, palladium prices moved meaningfully higher, breaking $900 per ounce, the day the Malaysian Airlines flight from Amsterdam to Kuala Lumpur was shot down over Ukraine.
Although not the same size primary supplier as South Africa and Russia, Zimbabwe holds large PGM reserves. However, the political environment in that region makes it extremely difficult to operate profitably. With the industry largely controlled by the Zimbabwean government, it is unlikely there will be much improvement in the cost structure to mine PGM nor will there be necessary capital investment in the production process.
Demand for these metals and specifically platinum are expected to rise as global auto sales and emission standards increase. On the supply side, there is inadequate production capabilities to meet these demands thus prices for these precious metals will rise. We believe platinum as a physical asset will generate attractive returns through appreciation over the next 18 to 24 months, returning 30% to 50% to the patient investor.
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