Why platinum should do better than gold

Until the launch of the platinum exchange traded fund (ETF), investors in the US had to be content with buying exchange traded notes (ETNs), which assured returns similar to the underlying platinum prices by rolling over futures contracts.

A contango in futures contract can easily take away some of the returns from ETNs. Thus it’s an expensive way to track the platinum prices, and the tracking error is higher too. ETNs carry credit risk, since they were not backed by physical platinum holdings. They are senior, unsubordinated debt instruments backed by issuing banks or financial institutions.

About 50% of the global demand for platinum comes from the auto catalyst sector. And the balance comes from industries such as chemicals, electrical, glass, petroleum as well as from jewellery. The demand base is thus more diversified.

The largest known reserves (supply source) of platinum are in South Africa, Russia and Canada, which together account for more than 80% of the world’s platinum supply. The supply gets restrictive sometimes due to high power costs, safety issues and a strengthening domestic currency of the producers. This high concentration of supply and speculative activities sometimes makes the price of platinum more volatile than gold.

The supply of platinum also comes from recovery from scrapped cars, just like gold supply rises with recycled gold.

Platinum’s supply-demand balance remains tight as the extraction and mining process is extremely complex and labour intensive. Scarcity and restricted supply makes platinum a preferred investment and more expensive then gold or silver.
Moreover platinum is a rare metal too.

Unlike the above-the-ground stocks of gold, which can last for more than 20 years of consumption, platinum may last only for over a year. Annual production of platinum is just around 5-7% of the annual gold production.

So how will platinum perform vis-a-vis gold, given the advent of the new ETF in the US?
The stage at which the current global economic and industrial cycle is, Platinum has some distinct advantages over Gold in coming times though both are safe havens and inflation hedges of different degrees.     
 

These are:
Platinum’s leverage to global industrial (especially China demand) and economic recovery is very high, due to its use in various industries. This was clearly manifested in the financial crisis of 2008 and ensuing economic slowdown, when the price of platinum collapsed by more than 50%. Gold has very limited leverage on global recovery; in fact a global recovery to a certain extent would be negative for gold’s safe-haven status. Gold will do better in event of a more severe sovereign crisis. As a safe haven, gold has an upper hand over platinum.

Platinum’s supply-demand balance is tighter than gold and moreover the supply is highly concentrated.
lThe automobile sector is recovering in US and elsewhere in the western world. The markets for automobile production and sales are booming in emerging markets like China and India with rising income and consumption, under penetrated cars markets, ease in availability of financing, and improving jobs and business outlook. This will boost demand for catalytic convertors and thus for platinum. Gold does not have that “auto” support.

The newer regulations will prove a boon for platinum. Newer stringent regulations requiring manufacturers to cut carbon emissions are more beneficial to platinum then for gold.

But platinum as an asset class is not likely to be a cakewalk for investors. If the global economy falters again and with it the auto industry goes down, platinum demand and prices will be hit. Technological advancements in auto emissions or new reserve discoveries will be negative for the platinum price. And, in event that the US dollar depreciates substantially, platinum will underperform gold.

As a strategy, it would make sense to partially switch to platinum from gold as the global economy recovers from a low point, industrial activity further gathers steam and risk appetite increases. This is the time when gold will underperform platinum, especially if the US dollar is rising either on its own merits or on a weaker euro. And gold will outperform platinum in an exactly reverse scenario, viz a faltering global economy, rising risk aversion and uncertain times like financial crisis.

As of now, the global economy looks to be on the path of a slow but an uneven recovery. And the double dip chances appear to be reducing after each economic data point that’s released. The new platinum ETF in US might prove the game changer for platinum demand as an efficient investment vehicle.

Though both gold and platinum carry the safe haven, inflation hedge and portfolio diversifier status, platinum does carry an edge over gold (for relative outperformance) in a scenario of an impending recovery in global economy and risk appetite.
The writer is founder & principal partner, Delta Global Partners