Smooth Road Ahead

The platinum price spiked briefly to $1,415 an ounce in late November of 2006, a new record high, as the market was roiled by a combination of tightening forward rates, option-related buying and a suspected increase in European consumer demand.

The increased physical buying and rising platinum forward rates initiated a price move back above $1,200 an ounce, forcing one large option writer to purchase metal to delta hedge its position. The rate squeeze, which was apparently set to coincide with a Japanese holiday and the U.S. Thanksgiving weekend, sent short-term rates skyrocketing to more than 150 percent, while short covering and speculative buying quickly sent the metal to new highs, briefly driving the market into a backwardation.

Rumors of a possible offering of a new equity traded fund in platinum may have initially sparked the rally as investors borrowed sizable amounts of metal from the market as a speculative position ahead of any official announcement. Based on the experience and the success of the iShares silver ETF (Exchange-Traded Funds), it has been approximated that a comparable $1.5 billion investment in a new platinum fund would potentially absorb more than 1.3 million ounces of metal at current prices, or 15 percent of available platinum supplies in 2007. The likelihood of receiving exchange approval for such an investment vehicle remains uncertain at this time, with strong objections expected from consumers, especially carmakers who would be concerned with the impact of significantly higher prices and from producers who wouldn’t want to advance efforts to develop substitutions.

A rotation of interest in various metals and other commodities will occur as individual demand and supply features change, but overall global consumption of metals for industrial and investment purposes continues to expand. The current trend of growing investor interest in commodities from pension and other institutional funds is also expected to continue this year as returns from commodities are projected to outpace those of alternative investment opportunities in stocks and bonds.

For the longer-term, however, global demand for platinum group metals (PGMs) should continue to be largely a function of rising worldwide auto sales, particularly in developing countries, and the increasingly more restrictive regulations governing automotive emissions controls. This higher threshold for compliance will require greater loadings of PGMs to satisfy rising global standards. European diesel demand, which is projected to potentially expand to nearly 60 percent of total E.U. auto sales, continues to be the largest consumer market for platinum, representing nearly half of the platinum required for this application. Palladium is still used only in a limited basis with diesels, but given the price disparity between the metals, development of a greater proportion of platinum-palladium converters for diesel engines seems likely.

AUTO-EMISSION STANDARDS. The arrival this past September of the new mandated ultra-low sulfur diesel fuel could set the stage for the introduction of several new models of U.S. diesel-powered autos. The implications are that the sale of diesel-powered engines in the U.S. could more than triple during the next decade given the current price for gasoline, boding well for a rise in platinum consumption. In recent years, U.S. manufacturers have been moving toward an increased use of palladium converters for the mostly gas-powered engines, as have Japan and much of Asia.

Tighter emissions standards are in store for both Europe and the U.S., with the introduction of Euro 5 in September 2009 and Tier 2 this year.

Regulations appear to be more relaxed in the E.U., as more than 50 percent of sales are comprised of diesel-powered engines as opposed to only 3 percent to 4 percent of sales in the U.S. European manufacturers may find it difficult to immediately introduce current diesel technology into all 50 U.S. states because of the differential cost of compliance.

RHODIUM TO APPRECIATE. The rhodium price again failed to cross above the $6,000 level in early January, as an added supply of metal, apparently from a producer, made its way to market.

The potential for a loss of new mine supply from Russian and South African producers in the first quarter of 2007, and a rise in consumer electronic demand for the build-up in capacity from Far East flat screen manufacturers will likely support an appreciation in the price of rhodium, at least through the first half of the year.

The price of rhodium should benefit from the tightness of the market, continuing its recent trend upward to again challenge its cyclical high of $6,300 per ounce set in May of 2006, with a longer-term potential to top record highs of above $7,200 an ounce later in 2007.

For palladium, solid demand from U.S. auto manufacturers appears to be maintaining a floor price in the $320-$330 range, while the fear of significant above-ground stocks held by Gokhran, the Russian Central Bank and others, mostly in Swiss vaults, continues to limit upside advances. Additionally, palladium may benefit from its potential substitution value for higher priced rhodium and platinum and as a possible speculative play, as the metal may also be viewed as a potential substitute for other more expensive PGMs, like ruthenium and iridium.

The price of palladium appears poised to move higher, along with other precious metals, but to surpass last year’s high of $404 an ounce, the increased participation of speculative funds will be needed. The latest CFTC (Commodity Futures Trading Commission) report does show a sizable increase in speculative fund interest in palladium throughout the past few weeks, but the amount of metal held is still well below record levels posted in April and May of last year. Assuming an increase in fund activity in the PGMs in the first half, the palladium price can again attempt to cross above the previous high of $404 an ounce and perhaps even rise to test the $450 level later in the year.

The platinum price has continued to firm following the projected loss of some 200,000 ounces of platinum supply in the first half in light of the temporary closure of London-headquartered Lonmin PLC’s largest smelter. The expected increase in the manufacture of diesel-powered cars and trucks in Europe and on a limited basis in the U.S., greater auto and motorcycle sales worldwide, particularly in the Asian markets, and the need for higher loadings of PGMs in converters to meet tighter emissions standards will combine to boost the growth in platinum demand for the next several years. In addition, a further expansion in glass-making capacity in the Far East should also require more platinum and rhodium for furnaces and related equipment. The projected increase in overall demand should more than offset the 5 percent gain in world supplies of platinum forecast for 2007.

GROWTH IN DEMAND FOR PGMs. The automotive industry, specifically the manufacture of catalytic converters for emissions control, still accounts for the largest portion of PGM demand, requiring approximately 60 percent of platinum and 50 percent of palladium supply, and nearly all of available rhodium production each year.

In the U.S., total auto sales for 2006 declined by 2.6 percent to 16.56 million units, down from the 17 million posted in 2005. Higher gasoline prices and a slowing economy dampened new car demand despite continued rebates and other incentive programs. Expectations for a further easing in economic growth in the U.S. and buoyant global demand for crude oil products may result in a difficult market for U.S. auto sales in 2007.

European auto sales grew in 2006 to a total of 15.36 million units, 0.7 percent above comparable sales for 2005. Mounting fuel costs and slightly higher interest rates, along with a lack of new models, resulted in lackluster sales performance for the year.

The largest gains in auto production throughout the next decade are expected to develop as a consequence of the continued strong growth anticipated for the Chinese economy and its neighboring countries. The approximate half million loss in car sales in the Western markets last year will likely be more than offset by buoyant sales of the emerging markets, particularly in Asia, Russia and South America. For 2006, Chinese auto production is projected to top 7 million vehicles, posting 20 percent increases in each of the past two years, and making it the third largest car manufacturer after the U.S. and Japan. Similarly, passenger car sales in India in 2006 are expected to rise by 20.5 percent to more than 1.3 million units. Growth in auto demand from the developing world could produce increases of more than 2 percent in car sales annually over the next decade. A recent survey conducted by Toyota posited that global sales could top 73 million units by 2010, up from the 65 million reported last year.

Other areas of potential demand growth for PGMs are the burgeoning market for motorcycles, motorbikes and scooters, as well as the more than 8 million small engines produced annually for residential and commercial lawn mowers may soon be required to be fitted with catalytic converters.

SECONDARY SUPPLY. The growth in the supply of PGMs derived from spent autocats is expected to continue to increase this year and for many years to come as the automotive recycling industries achieve greater efficiencies worldwide. Broader environmental regulations, attractive scrap and metal pricing and supply shortfalls should collectively promote recycling efforts.

Increasing amounts of reclaimed metal are flowing from rapidly improving recycling programs, particularly in Europe. In the E.U., catalytic converters were first fitted onto automobiles in the early 1990s, and with an average 12.8 years of life for cars and the newly enacted End-Of-Life Directive regulating recycling, an increasing number of these vehicles are now being disassembled. Moreover, in the late 1990s through to the run-up in the palladium price in 2000 into 2001, the majority of converters in the U.S. were manufactured with heavy loadings of palladium or were of palladium-only designs, as were most of those manufactured in Japan. As these vehicles begin to be retired over the next several years, the quantity of palladium recovered from the recycling process is projected to increase at a greater pace than that of platinum or rhodium.

Autocat recycling initiatives have begun to evolve in the developing nations as vehicle ownership continues to rise. In China, for example, it has been estimated that some 900,000 cars are currently being disassembled each year, which is believed to represent around 80 percent of available end-of-life vehicles or some 15 percent of annual new car sales. By comparison, the approximate 10 million cars recycled each year in Europe equates to 65 percent of annual sales. This disparity can be explained by the fact that only a limited number of cars were sold in China as little as five years ago, leaving present availability of retired vehicles at a minimum, and that the demand for functioning used cars is quite high given the growth in personal wealth. Undoubtedly, the rate of automotive recycling in China will rise dramatically in the next decade as more end-of-life vehicles make their way to market. Given the smaller engine size of the autos produced for the Asian markets, palladium will again likely be the most abundant of the PGMs recycled.

For most of the next five to seven year period, palladium from recycled converters is expected to continue to grow at a faster pace than that of platinum or rhodium. At some point following that time, however, the immense above ground stocks of platinum currently stored in diesel converters will start to become available for recycling and the proportion of recovered platinum should then enter a period of significant growth. Nevertheless, platinum from spent autocats could rise to an annualized estimate of 920,000 ounces in 2007, while recycled rhodium could total 190,000 ounces. As discussed, palladium will post a further increase in 2007 with metal recycled from autocats reaching an estimated 980,000 ounces.