Platinum defies negative factors due to labor unrests

Some analysts and commentators came to the conclusion that the labor unrest in South Africa would have no impact on the price of platinum. However, platinum was the only metal posting a gain this week. All other precious metals lost more than they gained the week before. Those analysts pretending that the labor unrest would have no impact on the price of platinum made a simple mistake. They just compared the price performance of platinum with percentage price changes at times of former labor unrests in South Africa. They made the implicit assumption that the labor conflicts were the only factor determining the price movement of platinum. But this is not correct. Many econometric models for the fair value of precious metals show that other factors also play a crucial role. These models could be either of the linear regression type or Vector Auto-Regressive type (VAR). Taking those factors into account and not treating them as constant leads to a different conclusion. Labor unrests still have a strong impact on platinum prices!

Two variables, which are included in those models and which are significant, are the development of the US dollar against the five major currencies as measured by the US dollar index and the price of crude oil.

In our fair value models, we include the price of the front-month light crude oil future traded at the Nymex division of the CME group, which is based on the WTI oil sort. This oil sort was long the benchmark. Including the front-month of the ICE Brent future would not change the results considerably. The price for both sorts declined last week. The front-month WTI future lost 3.3% compared to the previous week. One reason behind the price decline of crude oil was the build of inventories at Cushing despite the rise in refinery input and capacity utilization, which exceeded expectations of many analysts and traders. However, the drop of the oil price also reflects some weaker economic data. Thus, the decline of the oil price signals not only a lower inflation risk but also a slower pace of economic activity. Both developments are negative for the demand for precious metals including the PGMs.

The FOMC kept the volume of monthly bond purchases unchanged as widely expected. However, the market was surprised by the FOMC statement recognizing a weakening of economic activity. This reaction again demonstrates that markets are not always rational. Rewarding Eugene F. Fama with the Noble laureate is not understandable and the Swedish academy looks foolish ones again. The shut-down of the US government has an undeniable impact on economic activity. Some economists estimated a loss of Q4 GDP by $24bn, which is not a negligible quantity. That economic activity in the US decreased already in September is also not really surprising as the shut-down was looming and there were no signs that it would be averted by a last minute compromise.

Against the backdrop of a further delay of tapering and the FOMC’s assessment of a weaker US economy, one would not expect the US dollar to strengthen. However, this is exactly what happened. But currencies always involve two currencies in a pair, which indicates that developments in other countries might have been decisive for the stronger US dollar. The Japanese yen weakened against the US dollar on a smaller than expected increase of industrial production. But as other economic data came in stronger than expected, it is more likely that the weaker yen was caused by cross exchange rates, especially by the EUR/USD pair. The euro weakened against the US dollar from 1.3804 to 1.3485, a depreciation of 2.3%. But the euro came under pressure mainly during the last two trading days.

It might be a coincidence, but there were two related factors, which contributed to the weaker euro. There were complaints against the strength of the euro reported on Thursday. The rise of the euro above 1.38 against the US dollar is probably less of a problem for the German export oriented economy. However, for the Southern European countries, which had to take severe austerity measures in order to regain competitiveness, a stronger euro is a serious problem. Further wage cuts to remain competitive would only send those countries back into recession and would aggravate the social and political tensions.

Later on the same day, the Eurozone preliminary October inflation rate was released. The HICP inflation dropped further to 0.7%, far below the ECB target of close, but below 2%. And the stronger euro is one of the factors contributing to the increased deflation risk. While the Austrian central bank governor already ruled out a further rate cut, the market is speculating on such a move. But also some other ECB council members from the Northern part of the Eurozone oppose such a move. But due to the fiscal austerity imposed, aggregate demand could not be revived by fiscal policy without a change in the policy regime. Such a regime shift appears to be impossible. If the ECB takes it task seriously, it would have to take measures to prevent slipping into deflation. Otherwise, the ECB might repeat the mistakes made by the Bank of Japan which led to the still lasting deflation in Japan.

Given the constraints, the ECB has to take measures that monetary policy gets more expansionary in order to reduce the deflation risk. Thus, the markets are speculating on a further rate cut, some unconventional measures of quantitative easing or a combination of both. Those measures would have the welcome impact of weakening the euro against other currencies.

The outlook for more easing by the ECB is negative for the precious metals. That platinum increased by 0.2% in this environment, while gold and silver dropped 2.7% and 3.1% respectively in the week on week comparison is remarkable. And it underlines that the labor conflicts in South Africa have a positive impact on the price of platinum. That palladium only declined by 0.5% also underlines the relative better performance of the PGMs. The outperformance of the PGMs over gold and silver is likely to continue for the time being.