HardAssetsInvestor

Written by Sumit Roy  |

October 04, 2011

Precious Metals Monitor: Gold/Platinum Ratio Hits Record High, But Palladium May Have More Upside

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The steep drop in prices for palladium may be an opportunity for investors.

Gold and silver prices fluctuated this past week, but ultimately stayed flat. As we wrote in last week’s edition of Precious Metals Monitor, we expect the pair will be in for a lengthy consolidation period and that forecast has not changed.

But while gold and silver prices were fairly stable last week, the other precious metals duo — platinum and palladium — continued to plunge on fears about the global economy. Because of their use as autocatalysts, the two are closely tied to developments in the automotive sector.

According to Johnson Matthey, autocatalyst demand accounted for 40 percent of total platinum consumption in 2010. Consumption for jewelry fabrication, other industrial demand and investment demand totaled 31 percent, 21 percent and 8 percent of total demand, respectively.

For palladium, autocatalyst demand, jewelry demand, other industrial demand and investment demand made up 57 percent, 6 percent, 26 percent and 11 percent, of total demand, respectively.

From 2009 until the early part of this year, platinum and palladium outperformed gold as the strong global recovery from the depths of the 2008/2009 financial crisis boosted prices for the metals. Now we are seeing the opposite phenomenon as traders fret about the European sovereign debt crisis and the impact that will have on global growth.

Prices for platinum have fallen from this year’s peak of $1917/oz to $1452, or 24 percent. Those for palladium have declined from $862 to $546, or 37 percent.

Many are comparing the situation in Europe to that of the housing bubble. The fear is that if Greece, or worse — a larger country such as Italy or Spain — defaults, that will cripple banks that hold hundreds of billions, perhaps trillions of euros worth of sovereign bonds for these countries. In turn, we could see another credit crisis and global economic contraction akin to that of 2008/2009.

We, like most forecasters, do not foresee this worst-case scenario. The stakes are quite simply too high. That is why the European Central Bank is in the market buying up sovereign bonds for Italy and Spain. That is why fellow EU members continue to support Greece, despite the fact that the country has persistently missed its austerity targets.

The worst-case scenario would likely spell the end of the eurozone as we know it. Instead, the more likely scenario is one in which the region works through its troubles slowly with more bailouts, more austerity measures and more central bank intervention.

European economic growth would remain weak in such a case, but global growth may only take a marginal hit. Taking into consideration recent events, the International Monetary Fund cut its global growth forecast for 2012 from 4.5 percent to 4 percent — still a very robust rate. During the 2008 and 2009 financial crisis, global growth was 2.8 percent and -0.7 percent, respectively.

If the global economy avoids a shock like that of 2008/2009, worldwide auto sales may continue to surge thanks to the emerging markets. China’s auto sales may hit a record 19 million units this year, up 5 percent from a year ago, according to the China Association of Automobile Manufacturers. Sales grew 32 percent last year.

Palladium in particular looks like a compelling buy at current levels if investor sentiment begins to turn around. In addition to benefiting from growth in global auto sales, palladium has been taking market share from platinum in recent years as manufacturers use the cheaper metal as a substitute.

Prices would rise more than 50 percent if they were to once again hit the peaks levels set earlier this year. That is much more than the 18 percent increase gold would need to reach its peak. Nevertheless, the potential for such return doesn’t come without risk. If the global economic outlook deteriorates further, palladium would certainly fall much more than gold. Moreover, the metal is a play on global growth — a much different investment than gold, which investors typically buy as a hedge against inflation or other economic ills.

Gold Daily Chart 1-Year:

Silver Daily Chart 1-Year:

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Palladium Daily Chart 1-Year: