How to profit from higher platinum prices

Over the next few years the demand for platinum for use in jewellery, auto, and other industries, is expected to continue to rise. Meanwhile, thanks to political uncertainty, declining ore grades and escalating production costs, supplies continue to fall. This creates a potential opportunity for investors.

The case for higher platinum prices

Demand

According to Johnson Matthey, a leading authority on platinum group metals (PGMs), in 2012 38% of platinum demand came from the auto industry for use in the production of catalytic converters. Catalytic converters, which are fitted to the exhaust systems of nearly all modern cars and trucks, convert the toxic by products of internal combustion engines into less toxic substances by way of catalysed chemical reactions.

Increasingly stringent vehicle emission standards around the world continue to drive demand for platinum (and palladium). This is particularly true in China which recently surpassed the US to become the world’s largest auto maker and where, according to IHS Global, auto sales are expected to grow at 5% per annum over the next three years.

In 2012 jewellery accounted for 34% of platinum demand, and although this sector is more sensitive to price, demand is expected to remain strong. Thanks to it rarity, silvery-white lustre and resistance to wear, platinum is particularly sought after among the burgeoning Asian middle class. China for example, is now the largest single market for platinum jewellery comprising almost 70% of demand in 2011.

Platinum demand also comes from a wide variety of industry sectors, including, petroleum refining, electrical, glass manufacturing, medical, biomedical and dental, and other manufacturing such as turbines.

Supply

Platinum was featured in the British Geological Survey’s 2012 Risk List. According to their seven criteria, which include scarcity in the Earth’s crust, production concentration and reserve distribution, the supply of platinum is at risk.

Part of this supply risk can be attributed to the ongoing problems in South Africa which historically has provided around 75% of global platinum supplies. However, numerous issues in the country, from labour disputes to declining ore grades, continue to hamper production. In fact, since 2006 production in South African has fallen by 19%, and thanks to the lower price of the metal profit margins have been squeezed and the industry no longer earns its cost of capital.

According to Sprott Asset Management, the majority of platinum (and palladium) producers are operating at a loss. “The cash costs and capital expenditures required to mine PGMs have risen to a level such that mostmine production is already cash flow negative. Only five companies are slightly cash margin positive after accounting for capital expenditures.”

Compounding the problem is the fact that alternative sources of new supply are not readily available, all of which points to higher prices over time.

How to profit from higher platinum prices

It’s possible to buy physical platinum in the form of coins and bars from precious metals dealers such as Chard in the UK and CMI Gold & Silver in the US. However, those that don’t want to store their physical metal themselves can use a service like GoldMoney which stores it for you. They also allow you to buy and sell precious metals online, 24-hours a day, 7 days a week.

It is also possible to invest in platinum via an exchange-traded fund (ETF) such as ETFS Physical Platinum (PHPT) which trades on the London market, or ETFS Physical Platinum Shares (PPLT) which is listed on the NYSEArca.

As the chart below shows, since the end of 2011 platinum has been trading in a range, with overhead resistance at around $1,740, and support at around $1,345.

Right now platinum is trading at $1,417.60, more than 28% below its August 2011 high of $1,976.70 per ounce. This gives those looking to profit from a potential rise in the value of the metal an opportunity to hedge their downside risk.

A 4 year (daily) chart of platinum (Click on the chart for a larger version)

A 4 year (daily) chart of platinum (Click on the chart for a larger version)

Chart courtesy of stockcharts.com

If platinum should fall through support at around $1,345 it may very well fall all the way to $1,100 or perhaps even $1,000.

The way to hedge such a move to the downside would be to purchase long-dated put options with a strike price of around $1,340. Holding these puts would allow investors to continue to hold their long position in the physical metal whilst profiting from any potential decline.

Leave a Reply

Your email address will not be published. Required fields are marked *

You may use these HTML tags and attributes: <a href="" title=""> <abbr title=""> <acronym title=""> <b> <blockquote cite=""> <cite> <code> <del datetime=""> <em> <i> <q cite=""> <strike> <strong>