Not Taking a Shine to Platinum Metals Yet

Aside from the fact that consultants love 'em, matrices do have actual uses. Remember the periodic table of elements from your high school chemistry class? We can reorganize elements into a little 2-by-2 matrix along the dimensions of abundance and economic value. Some elements, like silicon, are both abundant and economically useful. No silicon, no silicon chips. No silicon chips, no tech stocks. No tech stocks, no 90% losses. Can't live without silicon.

Off in another corner of the matrix are the platinum group metals. These are far scarcer than gold and are of such great economic value that approximately 20% of the goods in the modern economy have one of the platinum group catalysts involved somewhere in their manufacture.

The precious metals have been emitting inflationary warnings, and the base industrial metals have been stuck in recessionary gear. What can we learn from the platinum group, which includes platinum, palladium, osmium, iridium, ruthenium and rhodium (an element crucial to Mary Tyler Moore reruns)?

From Russia With Shove

Just like crude oil is found in such desolate locales as the deserts of Arabia, the jungles of Indonesia, the trackless wastes of north Alaska and in Los Angeles, the platinum group is found in such garden spots as South Africa, western Australia and Canada. The world's incremental supplies have come from mines in northern Siberia.

A series of production disruptions in Russia -- our newfound allies in the fight against global terrorism mysteriously get victimized by disruptions when whatever they produce enters a bull market -- led to some Nasdaq-like price jumps in the metals' prices between late 1999 and early 2001. That bubble has burst as all commodity-price bubbles do. Higher prices stimulate new production and lead to demand conservation.

The Catalyst Bubble Deflates

Source: Bloomberg

The severity of this price collapse reflects, by definition, a supply/demand imbalance. Supply remains strong as exporters strapped for hard currency maintain production even as prices fall. Demand has weakened as a function of the downturn in global manufacturing. Are there any signals from the equities of platinum miners that this cycle is about to break?

Stocks and Commodities

Share prices for commodity producers tend to rise earlier and more quickly than the prices of the underlying commodity. In fact, this relationship tends to resemble the profit profile of a call option; the firm's profits increase exponentially with commodity prices, but the damage can be contained on the downside by reducing production and operating costs. We can illustrate this with a Canadian firm, North American Platinum, whose price jumped fifteen-fold between early 1999 and late 2000.

North American Platinum as a Function of Platinum Prices

Source: Bloomberg

Given this relationship, we should expect the share prices of platinum miners to rise rapidly if the market perceived firmer prices in the future. This doesn't appear to be the case. While a reliable long-term price history of the principal Russian miner, Norilsk Metals, isn't available, let's note its dollar price fell from $17.20 on Aug. 27 to $10 this past Friday. But we can extract good long-term price histories for British firm Anglo American Mining, South African firm Impala (also known as Implats) and American firm Stillwater Mining SWC. All prices will be converted to U.S. dollars for purposes of comparison. North American Platinum is excluded from the chart below in the interests of preserving the chart's scale.

Relative Prices of Platinum Group Miners, USD Basis

Source: Bloomberg

The share prices of Stillwater, Impala and North American have continued to fall; Anglo American has caught a bid recently but is still mired in a downtrend. We can use this to conclude that platinum group miners' profits will remain soft relative to other investment opportunities, which implies that platinum group metals prices will remain under pressure.

The implication here is the same one reached last week from the base metals prices: If an economic recovery, or at least a manufacturing recovery, is imminent, it's news to metals buyers.