Rhodium is an attractive investment for a portfolio diversification. These days everyone talk about Gold and Silver and they are as popular as have never been. But what about rhodium? Aside from being a true rare metal, it has not historically been easily owned by individuals. Perhaps for that reason, individual investors have not been particularly active in Rhodium. That has changed because Deutsche Bank has created USD and EUR Rhodium ETC that holds physical rhodium:
I have personally invested in this ETC a small percentage of my portfolio for diversification. I believe that the risk/reward ratio is compelling. Below I present you my analysis of rhodium.
As with most commodities, the supply and demand is what drive the price of rhodium up and down.
According to Morgan Stanly’s Global Metals Playbook, – “Rhodium is the most price-inelastic of the platinum group metals on both the supply and demand sides of the price equation”. That means that when there is a surplus or deficit of rhodium, the price goes up or down dramatically and hardly balance the market of the metal.
First I will start with what the price of this metal has done from 1972 to 2011 (Chart 1. Rhodium Spot – 1972 – 2011) .
The average nominal price of rhodium over the last 39 years is some $1,500/oz (see chart above). For these 39 years, the price has experienced 9 up moves and 8 down moves. The average up move was 220% (excluding the biggest 2 moves of 1100% and 2300%) and it had average duration of 2.4 years. The average down move was 73% and had an average duration of 2 years. The biggest up move was 2400% from 2004 to 2008 (4 years), and the biggest drop was 92% . If you had invested in 2004 after the 83% 3 year’s decline, you could have made 24 times your money. As you can see, this rare and unknown metal has outperformed almost all assets during the period 2004-2008. The only reason for these up moves was the “deficit” of this metal, in some cases supported by some other factors. There was no speculation due to lack of investment vehicles for rhodium before 2011.
Rhodium price and (supply-demand) and price projections
So to make a successful investment in rhodium, we must study the supply and demand of the metal, invest before or when deficit appear and when the price has experienced a huge price decline.
The metal’s major use (82%) is as one of the catalysts in the three-way catalytic converters of automobiles. Rhodium has no substitute. It’s used along with palladium and platinum but is the best of these three and can’t be bypassed. The metal is also used in chemical, glass and electrical industry.
Demand for rhodium will not stop as long as cars are produced. As overall I’m not an optimist about the world economy and I do expect another great recession, I can’t understate the importance of Asian auto markets about the rhodium demand. Here is some news from China: “The China 4 emission standards will become mandatory for all cars sold across China from July 1s 2011″ according to The Truth About Cars China will also implement 5 emission standard from 2012. Higher emission standard level, require more rhodium in the cars auto catalysts, which increases the demand for the metal. China and other Asian countries have huge pollution problems, so they continue implementing higher emission standards. So in recession, while car production go down, rhodium demand could go up as the amount of rhodium per auto-catalyst go up. At this moment, worldwide average rhodium stands at 0.33 grams per vehicle. That is going to increase as more countries adopt the emission standards to fight air pollution. Rhodium decrease the most harmful auto emissions and that’s why it’s so important. Another positive factor even during recession is that Asian producers are trying to sell cheaper cars and even if customers have less money, producers are still selling more cars at cheaper prices. That Asian auto market over the next decade will be many multiples of that in North America and Europe.
Supply and demand of rhodium (1988-2013)
As you can see from the chart above, the glass industry is crisis vulnerable but the chemical and electrical industries are relatively stable. It’s important to remind you that even when demand is going down, if supply goes down too, the balance situation might even worsen and lead to higher prices. As per my supply – demand analysis, I do expect the rhodium balance to be in deficit in few years. We should not focus only on the balance but also the net stock change. As you can see from the chart above, it’s expected that every year the net stock change will be hugely negative.
From 2011, there is also the new demand source – Rhodium ETC. It’s expected that this ETC will purchase minimum 15,000 oz of rhodium per year. So far, since the launch of the fund, rhodium for $26 million was purchased. That is 13,000+ oz of rhodium demand already and it’s for just 3 months.
Europe has an investment product referred to as UCITS (Undertaking for Collective Investment in Transferable Securities). UCITS are aimed at retirement plans. The product must contain at least 5 securities, or ETCs, to meet diversification requirements. Rhodium ETC made the 5th, with Gold, Silver,Platinum, and Palladium being the other four.
Deutsche Bank expects $200-400 million to flow into the UCITS over the next year, which implies $20- 60 million flowing into Rhodium ETC. (Financial Times, 2 June 2011). At $40 million, that is 20,000 oz of rhodium per year at $2,000 oz price. I believe that the range of rhodium demand of this ETC will be between 15,000-30,000 oz per year. As I prefer to use worse case scenarios in my analyses, I have used in my “Supply and Demand chart”, ETC rhodium demand for 2011 – 15,000 oz, 2012 – 20,000 oz, 2013 – 25,000 oz. Let’s not forget that this kind of investment products as UCITS will attract capital not based on the interest of rhodium by itself but on the metals group. That means that even when rhodium price is going lower, purchases will continue and will take out of the market more ounces of rhodium.
There are 2 sources of rhodium supply: mines production and recovery of the metal.
South Africa is the home of the 85% of the world’s supply of rhodium. While these 5 mines: Anglo Platinum, Impala Platinum, Lonmin, Aquarius Platinum and Northam Platinum Limited produce most of that rhodium. So basically, the world rely on these 5 mines in Africa to supply enough rhodium for all the world vehicles so we can have less air pollution. Who would have imagine that?
World mine supply of rhodium
After a deep dive in the companies annual and production reports, I have came to the conclusion that they can hardly increase their production output of rhodium. Rhodium tends to occur along with deposits of platinum and is primarily obtained as a byproduct of mining and refining platinum. That’s why even high rhodium price, doesn’t change the supply, because there is no rhodium mine in the world but mines of platinum. The opposite is also correct, high platinum prices attract more mining and probably more rhodium.
Recovery of rhodium
The recovery of rhodium is at historical levels at 236,000 oz for 2010 or 24% of the total rhodium supply. As can be observed from the chart above, the recovery rate depends on what the price of rhodium is. In 2009, when the rhodium price declined by 90%, the recovery declined 17% and only 187,000 oz was recovered. In 2010, when rhodium recovered from $1,000/oz to $3,000/oz, the recovery rate increased by 26%. So the market is trying to adjust to high prices by the scrap. It’s expected that the recovery will continue strong but in case the price of the metal goes below $2,000/oz, expect less incentive and less recovery. It’s also expected that the new ETC will absorb more rhodium than the recovery technologies and market can offer.
Except the platinum and rhodium prices, these are other factors that weight on the expansion of mines and the new supply of rhodium:
Strong rand and rising local expenses:
Cheap USD, expensive ZAR, puts pressure on margins of the companies producing the metal and result in low expansion of mines. That’s the case right now. The USD was really weak for 2 years, while mining expenses in South Africa increased at more than 10% annual rate. All that led to a little mines expansion there even with very high platinum and palladium prices.
Eskom is the local electricity company. The company increased electricity prices by 25% in 2010, the first year of three planned such hikes. You can follow the electricity adequacy report here: http://www.eskom.co.za/c/59/supply-status/ for a planned or sudden electricity disturbs. Such electricity shortages in combination with a deficit of the metal led to the 2400% rhodium price increase between 2004-2008, as these 5 mines produced less rhodium than the needed and created a shortage of the metal in times of high demand.
Except supply and demand, I investigated how other factors influence rhodium price and here are my conclusions:
Fed’s and G7′s interest rate changes has little or no impact on Rhodium price. Rhodium rallies in rising and lowering interest rate environment.
Rhodium has low correlation with gold and silver, so it does offer good diversification to your portfolio.
Summary: I expect rhodium to be in deficit no later than 2014. Rhodium has suffered huge price decline and the downside seems limited. The upside potential is compelling. I have invested in rhodium and the metal is now 2% of my portfolio. The new ETC of Deutsche Bank is and will, absorb some of the rhodium supply and will tighten the market. As that happens the price will be more responsive to demand. Speculation is now possible and it’s easy to corner the market. We must also remember that rhodium supply is extremely price inelastic. Once the deficit does appear, you have the potential to triple your investment. My few years rhodium target is $5,000-$6,000/oz. You have a good risk/return ratio.