Ultimate Guide To Palladium Investing

Palladium is an extremely rare element that was first discovered in the early 19th century. Despite a relatively short history, palladium and other platinum group metals (which include platinum, rhodium, iridium, osmium, and ruthenium) are used widely today. By some estimates, one in four products either contains a platinum group metal or uses one in the manufacturing process. Palladium, like platinum, is used widely in the manufacture of catalytic converters, creating a link between the price of the metal and the health of the global auto industry. As such, palladium as an investment vehicle has characteristics of both industrial metals such as copper and precious metals such as gold. There are a number of different options for investing in palladium, including exchange-traded futures contracts, stocks of companies engaged in the extraction and sale of the metal, and exchange-traded products [see also The Guide To The Biggest Companies In Every Major Commodity Sector].

Physical Properties And Uses Of Palladium

Palladium has the lowest density of the PGMs, and about half of the world’s palladium is ultimately used in catalytic converters. Those devices are responsible for converting hydrocarbons and carbon monoxide from automobile emissions into carbon dioxide, water vapor, and other non-harmful forms.

In addition to its use in catalytic converters, palladium is used in a number of electronic products, including computers, cell phones, and LCD televisions. Palladium also has applications in the fields of dentistry, medicine, photography, and groundwater treatment. Like platinum, palladium is also used as a precious metal; in jewelry, it is often an alternative to silver or white gold. In recent years, use of palladium in jewelry has become much more common due to a jump in the price of platinum and technological advancements that have addressed certain manufacturing hurdles. China in particular has emerged as a major driver of demand for palladium jewelry [see also Company Spotlight: Barrick Gold Corporation (ABX)].

Palladium Supply And Demand

Palladium is extremely rare; annual global production is approximately 200,000 ounces. Palladium deposits are spread throughout the globe, but there are only a handful of known reserves of significant size. Those include deposits in South Africa, Montana (United States), Ontario (Canada), and Russia.

South Africa and Russia have historically accounted for the majority of global palladium mining, and South Africa is home to a significant portion of known PGM reserves. The United States and Canada are also major palladium mining locations, though the U.S. has historically been a major palladium importer. As recently as 2008, the U.S. relied on imports for close to 80% of palladium consumption; that figure has declined to about 60% in recent years [see also Commodity Investing: Physical vs. Futures].

The concentration of both reserves and mining output in two emerging markets can have obvious ramifications on the price of the metal, especially considering that supply disruptions in the form of mine strikes, natural disasters, or other occurrences are not uncommon.

Country 2009 Production 2010 Production PGM Reserves
U.S. 12,700 11,600 900,000
Canada 6,500 9,400 310,000
Russia 83,200 87,000 1,100,000
South Africa 75,100 73,000 63,000,000
Zimbabwe 5,680 6,600 n/a
Other Countries 9,230 9,800 800,000
Global Total 192,000 197,000 66,000,000

In recent years, the relative scarcity of platinum group metals has sparked the development of technologies to recycle these materials. In the U.S., the recovery of palladium and platinum from used catalytic converters has become a lucrative business, and theft of these devices has become increasingly common as metal prices have jumped. Technological advancements have allowed the number of ounces generated by recycling converters to skyrocket in recent years; supply from this activity increased from only 195,000 ounces in 1999 to more than 1.1 million ounces in 2008 [see also Three Mining Companies With Robust Yields].

According to the US Geological Survey, an estimated 26,000 kilograms of platinum group metals was recovered from new and old scrap in the U.S. in 2010. Palladium can also be produces in nuclear fission and extracted from spent nuclear fuel. However, the quantities produced from this method are not significant.

Price Drivers

Though palladium is a precious metal similar to gold, these commodities do not always move in unison. Because there are various industrial applications for palladium (and for all platinum group metals), this commodity tends to perform better during economic booms. There are several factors that can impact the price of palladium; a few of the potential price drivers are outlined below:

  • Health of Auto Industry: Because the automobile industry accounts for a significant portion of global palladium demand, price for this metal can be impacted by the health of this sector of the economy. Greater automobile production generally equates to stronger demand for palladium, while tough times for the industry can put a dent in prices.
  • Technological Developments: Improvements to the recycling process have allowed for greater quantities of palladium to be recycled in recent years; to the extent that additional improvements are made there could be additional downward pressure on prices. Moreover, as automobiles continue to evolve, the supply side of the palladium pricing equation has been put into question somewhat. A rise in electric cars might translate into reduced demand for catalytic converters, which in turn impacts the need for palladium adversely. Palladium is also a key component of fuel cell technology, a process that can produce electricity and water by combining hydrogen and oxygen.
  • Gold/Platinum Prices: Though it was more expensive than platinum as recently as 2001, palladium is now considerably cheaper than both gold and platinum. Rising prices for other precious metals may prompt industrial users to shift towards cheaper palladium.
  • Replacements: Some vehicle manufacturers are substituting palladium for platinum, as the former is cheaper to obtain. Historically, only platinum has been able to be used in diesel catalytic converters, but new technologies allow about 25% palladium to be used. Experiments have shown that that percentage may go as high as 50% in the near future.

Investing In Palladium

Palladium may have appeal as an investable asset for several reasons. As a precious metal that is used widely in a number of industrial applications, it can be thought of from an investment perspective as a cross between gold and copper. Palladium has some safe haven and inflation hedge appeal as a precious metal, but also can benefit from strong demand for consumer products such as automobiles. It can also be thought of as a play on a continued boom in emerging markets, since greater auto ownership rates in the developing world would likely give prices a boost [see also Why Commodities Belong In Your Portfolio].

There are a variety of options for accessing palladium, including futures, ETFs, and physical exposure:

Physical Palladium

Because palladium maintains a high value-to-weight ratio (one ounce is worth about $500), it is possible and feasible for investors seeking exposure to simply buy and store palladium. This strategy has the benefit of eliminating the nuances of a futures-based strategy, but may require secure storage arrangements. There are a number of dealers selling palladium coins and bars in both the U.S. and Canada; the Northwest Territorial Mint is one such example.

As discussed in more detail below, there are also ETFs whose underlying assets consist of palladium. These funds offer exposure to spot prices while allowing for economies of scale that can minimize storage expenses.

Palladium Futures

Palladium futures are traded on the New York Mercantile Exchange, with contracts priced in dollars and cents per troy ounce (one troy ounce is equivalent to about 31 grams, and is equal to about 1.1 avoirdupois ounces). Trading in palladium futures, which carry the product symbol “PA” occurs on the CME Globex, CME ClearPort, and in Open Outcry trading in New York.

Palladium futures are available over 15 months, beginning with the current month and the next two calendar months before moving into the quarterly cycle of March, June, September, and December. The contract size for palladium futures is 100 troy ounces.

Palladium futures are subject to NYMEX position limits.

Palladium Miners

Investors can also obtain exposure to palladium by purchasing stocks of companies that are engaged in extracting and selling the metal. Like most companies, the profitability of palladium miners depends on the prevailing market price for the products they sell. As such, mining companies tend to realize higher profits when natural resource prices are elevated—especially if significant portions of the cost structure are fixed in nature. Mining stocks tend to trade as a leveraged play on the underlying resource, meaning that the movements in price are often more significant than changes in the related commodity over the short term.

Many of the largest mining companies are engaged in the extraction of a variety of resources, including various precious and base metals. Given the rarity of palladium, it generally accounts for a very small portion of mining company output—meaning that broad-based miners such as BHP Billiton or Rio Tinto can’t be expected to move in unison with palladium prices. There are, however, a handful of “pure play” palladium mining companies and firms who focus on extraction of PGMs:

  • North American Palladium (PAL)
  • Aquarius Platinum (AQP)
  • Anglo Platinum (AMS)
  • Eastern Platinum (ELRFF)

[see the holdings of the First Trust ISE Global Platinum Index Fund for a more detailed list of platinum and palladium miners]

Palladium ETF

There is currently one ETF available to U.S. investors that offers exposure to palladium bullion. The ETFS Physical Palladium Shares (PALL) holds palladium in secure vaults, and as such can generally be expected to reflect changes in spot price of the commodity.

There is also an ETF whose underlying holdings consist of stocks of mining companies engaged in the mining of PGMs; the First Trust ISE Platinum Miners Index Fund (PLTM) invests in about 25 different global mining stocks. Few of this ETF’s underlying holdings are pure play palladium miners; many are also engaged in the extraction of platinum and other PGMs, so there may be some limits to the relationship between palladium prices and this ETF. Additionally, since most of the palladium is mined in Russia and South Africa, investors may want to take a closer look at RSX or EZA as well.

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