Platinum Group Metals: Ready to Strike Back? ELEVATED STOCKPILES LIMIT PGM RALLY BUT THINGS MIGHT BE ABOUT TO CHANGE

Supply disruptions have historically been a major driver of PGM prices but recovery in demand is fundamental for sustainable gains in PGMs prices. While above-ground stockpiles have so far limited any potential price upside, PGMs appear well positioned to benefit from the recent stock drawdowns and the improvement in the global business cycle.

Platinum Group Metals (PGMs) have begun 2014 on a positive note, with platinum gaining 7% and palladium up 14%. While most of the price support over the past few months has been due to supply disruptions in South Africa and fears of trade sanctions being imposed on Russia, a recovery in demand is fundamental for gains in PGMs prices to be sustained.
• The extensive use of platinum and palladium in vehicle catalytic converters makes their demand particularly sensitive to economic, industrial and market conditions at global level. Auto sales in the US, China and Europe, the three biggest regions by consumption, have shown signs of improvement, with combined sales up 12% in the first four months of 2014 on the previous year.
• Large deficits are already expected in both markets in 2014 and recent supply disruptions are further exacerbating the situation. As of end of April 2014, Thomson Reuters GFMS expected both platinum and palladium to be in a substantial physical deficit, equal to 0.7moz and 1.3moz respectively.

• South Africa is the world biggest producer of platinum and the second largest producer of palladium, with 72% and 37% of global mine supply coming from the country. Strikes in South Africa have entered their 17th week, eating into inventory that major global producers had kept aside for such events.

• Despite various attempts being made by producers to find an agreement, the strikes are still on-going and have begun to turn violent. With over 750,000i ounces of platinum and 550,000ii ounces of palladium production lost to the strikes so far (equivalent to over 13% and 9% of global mine supply, respectively), Amplats, Implats and Lonmin have declared force majeure on some of their contracts, highlighting the difficulty in getting supplies of metal to buyers.

According to Thomson Reuters GFMS estimates, a further 300,000 ounces of platinum and 165,000 ounces of palladium could be lost in the aftermath of the strikes as production ramps up to full capacity.

• While metals prices have benefiting from the strikes, the palladium price has also been boosted by concerns that Russia may face trade restrictions resulting from its conflict with the Ukraine. With over 40% of world supply of palladium produced in Russia, any restrictions on Russian palladium exports would further constrain an already tight market. While the outcome of the dispute and whether or not international trade sanctions are imposed on Russia is difficult to predict, unless tensions ease, palladium is likely to continue to benefit in the short-term.
• We remain positive platinum and palladium price fundamentals in the long run. Although both markets have become a lot tighter over the past months, we believe the catalyst for a sharp rally would be for one of the top 3 producers (Amplats, Implats and Lonmin) to fail to meet all contractual obligations or to announce active metal buying on the open market to supply its contracts.
• We believe the reason that prices have not reacted more strongly to supply disruptions is due to potential alternative supply coming from abundant above-ground stocks of PGMs. Consensus estimates indicate that the market overhang for platinum and palladium is around 5moz and 10moz respectively, equivalent to 59% of global platinum demand and 104% of global palladium demand in 2013. These highly liquid above-ground stocks are held by a range of market participants, including private and institutional investors and fabricators.
• While we acknowledge that PGM prices could be subject to a correction if the heightened risks in eastern Ukraine and prolonged strikes in South Africa fade or disappear, we believe the downside risk is fairly limited.
• We maintain our bullish view on the palladium price on a medium to long-term basis and recommend long term investors, and those wishing to hedge against worst case Russian-Ukraine scenarios to maintain their positions. We continue to hold our medium-term price target of US$858/oz, a further 5% upside from current levels. While we expect palladium to outperform platinum this year, we believe supply disruptions coupled with stronger demand will bring the platinum price back to the levels last seen in April 2013 and therefore maintain our target at around US$1,550.

Source: Johnson Matthey, Thomson Reuters GFMS, ETF Securities estimates.

* As of Johnson Matthey Platinum 2013 Interim Review (November 2013)
** A): Includes estimated 1050koz (18% of 2013 global mine supply) of platinum and 550Koz (9% of 2013 global mine supply) of palladium lost from South Africa strikes. Demand based on 5 year average.
**B) Adds on estimated potential lost supply if Russian platinum and palladium exports are completely banned (an unlikely scenario in our view). We estimate that this would remove the equivalent of an additional 15% of global palladium supply and 6% of global platinum supply compared to Scenario A