The Barron's PGM articleJANUARY 15, 2001
Glistening Prospects
Palladium soars to $1,000 an ounce
By Cheryl Strauss Einhorn
Unobtainium. That's what Dave Andres, head of commodity purchasing for General Motors, calls palladium these days. And with good reason. The precious metal is so scarce and in such demand that prices last week soared to a record $1,000 an ounce.
They aren't likely to fall soon -- nor will they give back much of their gains when they do. Blame the Russians, who control two-thirds of the world's supply, much of it in stockpiles whose size is a state secret. And this year, as in the past five, the Russians aren't exporting much. Bureaucratic chaos continues to hold up palladium's global trade.
Jeff Christian at metals-research firm CPM Group says that perhaps prices could fall back to $800 an ounce once the Russians ship some metal, but right now, "the market is broken and you can't even get prices on options."
Supplies were so tight last year that prices, on average, were 91% above 1999 levels.
Bah to the futures
GM's Andres agrees that the futures market doesn't work. "I wouldn't even check Nymex prices if I needed to buy palladium. They only have quarterly contracts, and there isn't much activity. They have never been an accurate barometer of prices."
Part of the problem is that Nymex trades ingot, not "sponge," the form of palladium that 80% of the world's consumers use (and so-called because it looks like a sponge). That's helped create a dealer, or over-the-counter, market in the metal.
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Key Commodities Index
CRB Group Indexes 1/12 1/05 Yr. Ago
CRB Futures 229.54 228.56 205.20
Industrials 208.91 205.08 200.30
Grain/Oils 173.06 175.34 165.70
Livestock 257.04 254.33 246.30
Energy 254.59 352.41 215.90
Precious Metals 266.36 265.04 241.80
Barron's ~ Bridge Telerate
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Either way, the lofty prices are bad news for auto companies, like GM, which alone is estimated to account for 20% -- one million ounces -- of global demand. The metal is needed in the catalytic converters that control pollution from vehicle engines. Each car or light truck uses one-tenth to one half-ounce of palladium.
GM is working to cut its vehicles' appetite for the expansive metal. "We're on the Jenny Craig program," Andres says. For instance, GM is modifying its car computers to more precisely control how much fuel an engine needs, which in turn will curb emissions.
Beginning in 2002, GM will work with German catalyst maker Degussa Metals to slash palladium usage almost in half on vehicles built on a half-dozen of its light-truck and passenger-car platforms. Ultimately, however, the reduction at GM may amount to "no more than 250,000 ounces, or 5% of total demand," estimates Leanne Baker, a precious-metals analyst at Salomon Smith Barney.
Changes in technology and the soaring popularity of laptop computers and hand-held devices like cell phones also are contributing to the surge in demand for palladium, which is used to make capacitors that store electricity. While nickel is being substituted in some products, others still need palladium. And "these are precisely the areas like laptops, where the growth rates of the industry are 30% per year," says Christian. "So even if palladium is no longer used in, say, half its technology applications, the other half is growing so fast that they are still using as much as they used to."
Bill Nettles, CEO of Colorado-based Stillwater Mining, the only significant primary producer of palladium and platinum outside South Africa and Russia, agrees -- and should benefit from the supply crunch.
His company's share price rose about 36% last year -- it's recently been around $40 -- as palladium prices surged, despite production problems that hurt his aggressive expansion plans and forced some customers to "go into the futures market and buy [at market] prices."
Nettles contends that the stock is still cheap because he's negotiated long-term contracts with some car companies that ensure hefty margins. These contracts, which stretch until 2010, cover 100% of Stillwater's current annual production and as much as 70% of what the company will produce at the end of the decade.
The pacts have price floors and minimal price ceilings on certain percentages of Stillwater's production. For the next three years, Stillwater's floor on palladium prices will be $500 an ounce -- versus a cost of production of $280-$290 an ounce in the fourth quarter.
Nettles says he's comfortable with Wall Street earnings estimates of $1.70 a share for 2000. He feels good about this year's forecast of $2.18, but cautions that results will depend on the metal market's vagaries. And he concludes: "How many commodity companies do you know where the margins are locked in, the fundamentals are there and where, I think, we'll have strong prices for years to come?"
BB long