By Tony Daltorio
Even after a sharp sell-off on commodities prices, the spot price of platinum remains within reach of a two-year high. That high was hit last month at around $1,870 per ounce.
The consensus in the industry is for higher prices in the coming years. And this is despite the disaster in Japan, whose automotive industry is one of the biggest consumers of the precious metal.
Why so much bullishness?
The main reason investors, analysts and those in the industry point to is the challenges facing South Africa's platinum mining companies. South Africa is the world's biggest producer of the metal. It produced 4.6 million of the 6 million ounces mined in 2010.
Problems in South Africa
Some metals have seen a spectacular appreciation in dollar terms. For instance, palladium has quadrupled from its lows in late 2008.
However, the prices South African miners receive are not keeping pace with costs.
A basket of platinum, palladium and rhodium weighted for the level of the average South African miner's production has risen just 4 percent in rand terms in the past 12 months. This is according to Walter de Wet, head of commodities research at Standard Bank.
That compares with cost rises of 8-9 percent in wages, 25 percent in electricity and 18 percent in fuel. Because the mining companies pay costs in a strong currency but take payments in a weak currency, the rand's strength against the dollar erodes earnings.
The rapid increase in costs means prices are unlikely to fall far from current levels, most analysts believe.
And let's imagine the scenario where platinum prices stay steady or even fall. It won't be a pretty picture. Leon Esterhuizen, mining analyst at RBC Capital Markets, puts it this way: “If we get sideways prices for even a year you will see [mine] shutdowns.” He added that the big platinum producers are “running out of [profit] margin.”
Johnson Matthey, in its annual report, also stated that platinum prices would not fall far from current levels of $1,765 per ounce.
Its annual report estimates a net surplus of just 20,000 ounces of platinum at the end of 2010. This is down from a surplus of 635,000 ounces the prior year. The drawdown was due to last year's recovery in car manufacturing.
But even if the price of the metal does rise, do not expect the normal supply side response.
Due to the geological freak of nature, most platinum production will continue to come from South Africa and Zimbabwe, although production is increasing in both Russia and North America.
With the notorious power shortages in South Africa, the mining companies simply do not have enough reliable electricity to expand production at their mines. This in itself will support platinum prices.
For investors looking to profit from rising platinum prices, perhaps the best way is through the use of exchange traded funds. One such ETF is backed by actual physical platinum. It is the
ETFS Physical Platinum Shares (NYSEARCA:PPLT
If one does purchase PPLT, an investor should keep in mind the well-known volatility of precious metals day-to-day prices. Make sure to properly manage your risk via position sizing.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.