JPMorgan talks bull
Palladium price should converge to around half that of platinum
SUSTAINED HIGH platinum prices have again prompted global financial services group JPMorgan to revive the argument that autocatalyst manufacturers – and to a lesser extent jewellery makers – will increasingly substitute platinum with cheaper palladium, with obvious benefits for platinum’s cheaper cousin.
JPMorgan expects palladium to hit US$430/oz by fourth quarter 2007, with average prices for 2008 and 2009 projected at $455 and $489 respectively. Although the 2010 price is expected to average $510/oz, JPMorgan sees the average real price of palladium over the next 25 years at $460/oz in today’s money – just under half the $1 100/ oz price it estimates for platinum over the same period.
That bolsters the bank’s previously aired view that over the long term palladium should converge to a price of roughly half that of platinum. Palladium is currently trading at $350/oz – just 28% of the platinum price of $1 244/oz at the time of writing. If JPMorgan’s theory is correct the metal could still gain $272 over the long term.
The central pillar of JPMorgan’s favoured substitution theory is that autocatalyst manufacturers – who accounted for just over 50% of platinum demand in 2006 – will increasingly substitute platinum with palladium, despite the difficulties that surround the latter’s application, particularly in dieselpowered vehicles.
“We can see no good reason why manufacturers of gasoline-powered vehicles would want to use platinum autocatalysts considering the huge price difference [between platinum and palladium],” says JPMorgan.
Although current technology renders palladium diesel unfriendly, JPMorgan is essentially banking on an inevitable technological breakthrough that will see greater palladium weightings in diesel-powered vehicles.
“They’re obviously making a long-term assumption that there will be a breakthrough in diesel application for palladium,” says one analyst.
“They obviously feel that isn’t an insurmountable scientific problem and you have to admit there’s a great incentive for a break- through to be made.”
Although one ounce of platinum can’t be replaced with one ounce of palladium – the replacement ratio is between 1,5 and 1,8 times – the fact that platinum is around 3,5 times more expensive than palladium means the latter would be a rewarding alternative if there was a breakthrough.
But there are some potential facts that could render JPMorgan’s theory a dud.
Car manufacturers are still cautious of putting their faith in palladium after its price spiked to more than $1 000/oz in 2000 from around $438/oz a year earlier. That this price spike occurred after the Russian state treasury slapped a ban on PGM sales in 2001 means the pain endured by manufacturers is still fresh in the mind. Russia is the world’s largest supplier of palladium, accounting for 50% of total supplies.
SA’s Catalytic Converter Interest Group (CCIG) is also doubtful concerning palladium substitution, saying that with current technology it’s only possible to replace around 25% of the platinum used in autocatalyst manufacture with palladium for diesel-engine application. The process is also expensive, which limits some of the cost gains from switching to palladium.
Given that SA produced 14%, or one in seven, of the world’s catalytic converters in 2005, the CCIG does have some credibility.
However, JPMorgan sees things very differently. “We believe the wounds inflicted on car producers by the price spike must have healed by now – so we expect the move away from platinum to palladium to continue apace. We have been, and remain, palladium bulls.”
Although JPMorgan concedes that fears of supply overhang due to large Russian stockpiles and increasing recycling volumes flowing back into the market are price negative for palladium, it believes there are some compelling bull arguments that outweigh the negatives.
It also says: “The potential exists for explosive growth in the fledgling palladium jewellery market” thanks mainly to the sustained high prices of competing precious metals gold and platinum. JPMorgan expects demand for palladium jewellery to grow by 15%/year over the next two years before moderating to 10%/year growth in 2009. Jewellery demand is forecast to snap up 1,629m oz of palladium by 2009 compared with 1,12m oz in 2006.
As a consequence of the move to palladium, JPMorgan predicts a fall in demand for platinum jewellery over the next three years from 1,74m oz this year to 1,287m oz in 2009. That amounts to falls of 11,5%, 11% and 6,1% in each of the next three years.
Interestingly, JPMorgan doesn’t believe the platinum price will suffer too severely from the projected increase in the use of palladium as a substitute for platinum.
With jewellery demand accounting for just under 25% of platinum use, there’s still plenty of scope for platinum to benefit from the rampant increase in diesel-engine applications. Net autocatalyst demand for platinum is still projected to growth at 15,6% this year and 12,5% in 2008 before moderating to 6,4% in 2009.
“The demand outlook for the entire PGM complex looks fantastic,” says JPMorgan’s Jon Bergtheil. “Thanks to increasingly strict emission regulations, the whole basket of PGM demand will benefit. The fact that palladium will take a bigger share of that basket doesn’t necessarily mean platinum will suffer.”