Investing in precious metals – all that glitters

  • Analyst Reports
  • Saturday, 18 Jan 2020

MOVING away from traditional asset classes for any investor is not an easy task as it involves understanding a particular asset class, its behavioural aspects, what determines its value and whether one can profit from it or otherwise.

While most of us are used to the traditional asset classes like equities, fixed income or even real estate, not many of us have explored beyond the basics.

Of course for some, especially for the more sophisticated investors, they have a wider choice of investment universe as they may even explore other non-traditional asset classes like private equity, hedge funds, cryptocurrencies, foreign currencies, venture capital or even commodities.

All investment asset classes have unique characteristics and any investor, without the right market knowledge or understanding of that particular asset class, could easily very well be at the wrong end of the cycle and end-up not only not making money out of it, but worse, may end up losing the capital even, especially in certain asset classes where the exposure may be on a leveraged or on a margin basis, which is typical for futures contracts.

As usual, with the start of the new year, many investors are scratching their heads as to where to put their money. While for some, equity markets are no longer sexy as they want something superior in terms of returns expectations and at the same time be shielded from market volatility, especially if equity markets go into a corrective phase, driven by either geopolitical risk, or slowing economic momentum, or worse, recession.

Of course, we all know that returns commensurate with risk and one cannot expect superior returns with lower risk – it doesn’t exist in the investment world. With most asset classes having a spectacular run last year, especially among commodities, the return expectations for 2020 is unlikely to be less spectacular then in 2019. So which commodity did well in 2019? The table on the left summarises the performance of some of the key commodities last year and their performance up to Thursday, Jan 16.

The table shows that gains among commodities were across the board and with the exception of a slight pullback in aluminium prices, all commodities performed well in 2019, led by more than 50% jump in palladium, an almost 44% gain in palm oil, 27% rise in coffee prices and a near 23% increase in oil or otherwise known as the black gold. Gold itself was up almost 19% followed by platinum, which rose by 18%.

Historically, gold and silver – the two precious metals are widely known and used mainly in jewellery but other usage include in the field of dentistry as well as other industrial usage and of course as a stored value and medium of exchange (gold coins/bars, silver coins or silverware, anyone?). However, as far as most of us are concerned, very little is known on the other two precious metals – palladium and platinum.

Platinum has gained some form of recognition in the production of jewellery too as there was a time that platinum in actual fact was more expensive than gold (at least as far as spot market prices are concerned).

Today, about a third of platinum is still used in the production of jewellery while almost half of demand is actually for its usage in the automobile sector as a catalytic converter.

Palladium too is used as a catalytic convertor and in actual fact the demand is rising strongly due to greater need for automotive producers to manufacture cars that are more environmentally friendly as usage of diesel, especially in Europe, is being reduced.

This is where platinum is losing out as its application in catalytic convertor are mostly used in diesel cars while palladium is more suitable for petrol-powered cars. Palladium is also used in jewellery-making as well and it’s widely called the white gold as it is white, just like platinum, naturally.

Interestingly, these three precious metals took turns to be most expensive among them and with the current price of palladium being now the most expensive among the three. The chart on the right shows the relationship between the three over the past 20 years.

As can be seen from the chart, in the early 2000s, gold was the cheapest among the three, while palladium in fact was a much more precious metal than all three with a price premium by as much as US$480 against platinum in January 2001.

This later collapsed and palladium dropped not only to be at a discount to platinum but even cheaper than gold by mid-2002.

Since then, the ranking between the three metals was held steady with platinum being most expensive, followed by gold and cheapest metal was then palladium.

Platinum, after hitting a high of US$2,276 per troy ounce in early March 2008, starting correcting rapidly on the onslaught of the economic turmoil of 2008-2009 as well as lack of confidence following the collapse of the automotive industry due to the global financial crisis.

Worse, platinum went from a premium to gold by about US$1,250 per troy ounce to almost parity to gold by Dec-2008. Since then, it regained its premium again as economic momentum resumed but it was not long thereafter that platinum became cheaper than gold. By early September 2011, gold became the premier precious metal as its price finally surpassed platinum. The premium/discount between gold and platinum interchanged few times before gold broke away from platinum exactly five years ago and never looked back.

At the same time, palladium was beginning to be noticed by industrial users and in particular the automotive industry and there was a growing trend that due to its relative cheaper alternative, demand for palladium grew in place of platinum. Palladium became even more popular due to green and environmental issues and carmakers even did not mind using the more expensive metal for the application in the catalytic convertors simply to meet more stringent demand from nations, especially the EU.

By Oct-2017, palladium overtook platinum as a pricier choice while in about 15 months later, palladium was even more expensive than gold. Today, palladium is trading at a near US$810 premium to gold while platinum is now cheaper than gold by US$525 per troy ounce. Fortunes have indeed changed for the three metals over the past two decades. Since the start of the new decade, all three precious metals have done well with palladium already higher by nearly 24% year-to-date while platinum and gold are firmer by 5.6% and 2.2% respectively.

Fundamentally, the price of a metal is always determined by the demand and supply. Precious metals too are valued based on how rare is it to find them. Palladium and platinum are said to be 30x and between 15-20x rarer than gold respectively based on annual mining production. In today’s environment, while platinum is cheaper than palladium, its demand has faltered mainly due to green issues.

For palladium, the demand for it is expected to be sustained as the metal is used not only for petrol powered cars but also increasingly in electric and hybrid cars too. Hence, it is no surprise that palladium today is much more valuable than platinum and even gold. In fact, according to a report by Metals Focus, palladium demand far outweighs supply by between 0.3 and 1.2 million of ounces over the past eight years. Looks like this demand imbalance will likely continue for a foreseeable future.

With the Lunar New Year 2020 fast approaching and based on the Chinese Astrology, the coming year is the Year of the Rat and the year is associated with the Metal element. Looks like the spectacular run that we saw among precious metals last year may likely continue into 2020, not only due to fundamental reasons, but perhaps the stars are aligned for the precious metals to outshine other asset classes.

The views expressed here are the writer’s own.

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