If you think equities are getting too expensive and have nowhere to go but down, there may be a great contrarian play in the PGMs—platinum group metals—which many in the industry feel have nowhere to go but up.
The PGMs include platinum and palladium, both of which are expected to rise by famed retail broker Rick Rule (founder and chairman of Sprott Global Resource Investments Ltd) and global financial and commodities research firm Capital Economics.
Capital Economics has declared it very likely platinum and palladium prices will rise by over 20% before the end of 2014.
Rick Rule is even more bullish. In an interview with the Metals Report, he said platinum could rise from $1,600 to $2,700 (68% increase) over the next two years.
Rule believes U.S. equities are in for a disappointment later this year, expecting people to realize that the economic recovery is not a given as once thought. He also cites exceptionally low above-ground supplies for PGMs, a steady rise in global demand, and a host of problems plaguing PGM mining. The Capital Economics research firm supports this assessment.
Demand Rising
One of the greatest uses for platinum and palladium is in air purification systems in homes, offices, factories, and especially automobiles. Catalytic converters require these metals to trap the harmful by-products emitted by combustion engines and factory turbines.
While smog is still a prevalent problem in Western nations despite years of pollution control measures, it is an even greater health and environmental hazard in developing countries, such as China and India, where pollution controls are almost non-existent.
With the continually increasing production of automobiles globally, especially in China and India, which have a quarter of the world’s population rapidly growing in personal wealth, Rick Rule sees developing economies introducing and adopting stricter air quality standards over many years to come—a good portent for higher PGM prices.
Consumed More Than Stored
Rule raises another interesting point regarding the uses of platinum and palladium compared to gold and silver. Although all these metals are bought and stored for their beauty as jewellery and their value as money, the PGM’s industrial applications actually consume the metals.
Whereas nearly all the gold ever mined is still in existence today, “platinum and palladium go out a tailpipe, up a smokestack,” differentiates Rule in his interview.
For this reason, the mined, above-ground supply of platinum and palladium needs to be continually replenished. Rule indicates there is scarcely 12 months’ worth of stored supply of the two metals.
As such, whenever the demand for PGMs rises for an extended period of time—a period Rule believes the world is in—there isn’t very much platinum or palladium available in bank vaults or warehouses that can be quickly and easily released onto the market, such as can be done with gold and silver. Users of platinum and palladium simply do not have many places to turn to for their supplies other than the miners themselves.
Production is Plagued
Yet PGM producers and their troubled mining operations are proving to be major choke-points, right at the beginning of the supply chain itself. The British Geological Survey even predicts a 10% reduction in PGM production, while Rule indicates the reduction is already worse than that.
Production in South Africa has already fallen 19% over the last six years, Rule points out, which makes a sizeable impact given that South Africa supplies 70% of the global platinum demand and 30% of the world’s palladium.
In fact, Rule’s report “Platinum and Palladium” predicts a deficit of 915,000 ounces of the metals this year alone.
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Rule also cites ever-diminishing ore grades, especially in one of the world’s oldest and largest PGM mines in Norilsk, Russia. Production at another major producer, Angloplats, is slowed by narrow veins. The quality and quantity of PGMs in existing mines are falling.
This leaves the bulk of the replenishment on the shoulders of new discoveries. Although there are some new operations under development, these are still a few years away from producing.
Platinum Group Metals Ltd. (TSX:PTM; NYSE:PLG) has a new operation two years from completion, while Ivanplats Ltd. (IVP:TSX) will have one opening in six years.
Both of these new operations, however, are in South Africa, which has more than its fair share of political and labor problems slowing and at times even halting mining of any type.
Prices Must Rise
Yet possibly the single biggest problem slowing PGM production and exploration—as with all other resource types—is a shortage of investment capital. And the reason investors aren’t forthcoming with new investment money is always the same: profitability. As Rule puts it, the PGM “industry does not earn its cost of capital.”
He points out that there is “lots” of platinum and palladium available for mining in South Africa, Zimbabwe, and Russia. But their extraction requires their commodity prices to be much higher than they are now.
Operations in South Africa alone are $6-$8 billion behind in sustaining capital investments, leaving a large supply of ore just sitting there deep within the rock, inaccessible.
Rule also cites deplorable working conditions at the mines globally, but especially in South Africa. “Workers’ wages have to go up,” he defends, “but cannot because the industry does not earn its cost of capital.”
And the strain on capital is made all the worse with increasing government taxes, royalties, and rents.
All these factors weighed together tip the scale toward higher PGM prices in the near-term and beyond. Demand increases through more stringent pollution controls globally, diminishing ore grades, depleting mines, a shortage of new mines under development, and high operational and labour costs are closing in on PGMs like a cyclone about to lift them into the skies.
How far into the sky? Rule indicates that in order for operations to stay operational and earn their cost of capital, the price of platinum alone would have to rise from the current $1,600 area to $2,700 or even $3,000 an ounce.
“Making the $6–8B in capital investments to maintain production … would take six years,” Rule estimates. “These long lead times in a capital-intensive business underscore the likelihood of extraordinary price moves.”
And when might we see these extraordinary price moves to the lofty price targets noted above?
“I think it will happen in the next two years,” he replies, “given that we have used up the above-ground inventory and that we need to maintain the current auto fleet.”
Joseph Cafariello
*Quotes courtesy of Mining.com
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