Platinum: The Poor Man's Gold?

Platinum has recovered steadily over recent weeks from the lows around $800 seen through November and December to just under $1100 currently. This is still half the peak levels seen last Summer amid fears of key South African production being curbed by a near collapse of the national power grid, and before the slump in global car sales became apparent (a key industrial use of platinum being in auto catalysts). According to Johnson Matthey, overall demand will be down 5% this year (although longer term a key new application will be in clean burning fuel cells).

Platinum hasn't historically had the same 'store of value' currency characteristic of gold (or even silver), but it is about 30 times rarer in the earth's crust, with the bulk of production in South Africa and Russia. As shown in the chart below, it is now trading at a multi-year relative low versus gold. Over the past 20 years, platinum has traditionally traded at a 50% premium to gold. However, the last time that precious metals were in a bull market (and before the auto catalyst market even existed) in the 1970s gold was occasionally more valuable than platinum and the ratio averages the current 1.1x over the last 40 years. Speaking of ratios out of kilter, oil/gold is now at 25x, levels not seen since the late 1980's and before that 1974; the recent run is driven by sheer terror of capital loss elsewhere, not inflation hedging. Industrial usage accounts for 70% of platinum demand against just 11% for gold (and 76% for silver); investment demand for platinum in the form of ETFs etc is negligible right now, but has risen to about 25% for gold and 3% for silver. That investment disparity may be set to change.

In 1988 a total of 630,000 oz of platinum was sold in the form of bars and coins, representing 17 per cent of world platinum demand that year on fears over South African production, down to 1-2% in recent years. Recently, Tokyo-based bullion dealers have revealed that they are experiencing a drought of platinum ingots and coins, forcing them to turn away customers seeking to diversify their assets as stocks dwindle. Platinum sales at Tanaka Kikinzoku, the largest bullion dealer in Japan, increased by 430 per cent in the past year.

Any cyclical recovery in the global economy, even a muted one, will remind the market of ongoing power constraints in SA, where Eskom, the state power monopoly, is struggling to finance ambitious expansion plans.

The relative performance of platinum versus the other precious metals will depend on a number of fundamental factors.

1. When will the market start discounting a recovery in the auto sector, in the U.S. in particular?
2. To what level will the relative fortunes of the jewelry market (notably in China) help to sustain an outperformance by platinum over gold?
3. When will the global economy start to stabilize and at what point does the market start to fear systemic inflation risks?

4. Will further South African power generation/labour problems threaten supplies of platinum later this year (and only to a much lesser extent gold)?

Right now, gold looks overbought to me on heavy retail buying and ripe for a correction, but on a setback for precious metals platinum may prove a better medium-term play, combining cyclical upside (and I'm not in the depression/deflation camp) with supply tightness and increasing relative investment demand, particularly if SA continues to steadily decline both economically and politically, as I think is likely. The re-rating potential also limits downside should precious metals fall out of retail investment fashion. Aside from futures and a number of relatively pure play platinum miners like Lonmin, one of the few vehicles to play this theme is the iPath Dow Jones AIG Platinum ETF (PGM).

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