Since the start of the year palladium has been by far the best performing commodity, up almost 16% to almost $790 per oz. In contrast to the stellar performance from palladium, its precious metal kin platinum (+8%), silver (+7%) and gold (+5%) lag well behind. Palladium typically performs well at this time of year. Since 2000 the median increase in January versus the month earlier has been 3.4% with prices increasing over 80% of the time. But what has been behind the increase this year?
Much of the gain has just been due to a rebound in sentiment towards precious metals in general since the start of the year. A decline in yields on US Treasury bonds in the US has encouraged investors to move funds towards other perceived safe havens, gold in particular but also by extension silver and other precious metals. There were also signs, going into late 2016 that precious metals were also very much oversold compared, and that based on historical trends were likely to rise in the months ahead.
Meanwhile, renewed scandal involving diesel vehicles, in which platinum is more commonly used as a catalytic converter, this time from Fiat Chrysler has dampened sentiment for platinum and optimism that increased petrol fueled vehicles will increase demand for palladium.
However, the main driver behind palladium price sentiment has been a tax break on Chinese car purchases. Buyers typically pay a vehicle-purchase tax, which is applied to vehicle prices before the 17% value-added tax. The tax was cut from 10% to 5% on purchases of small vehicles from October 2015. The tax break helped stimulate sales in China during 2016 by 14% during the first 11 months of 2016, according to the China Association of Automobile Manufacturers.
The tax break was due to expire at the end of 2016. But in mid-December authorities announced that it would be extended into the end of 2017. While Chinese consumers are likely to have sought to taken particular advantage of the tax break in December, because of the expectation that the tax break would expire, demand for new cars and by extension palladium catalysts could still be high in 2017.
Roughly 75% of palladium demand is from the autocatalyst sector. Palladium finds application in gasoline engines and is more exposed to the Chinese and US markets where diesel hardly features in the passenger vehicle segment. Chinese demand is particularly important in that almost one-third of net palladium demand (accounting for recycling) comes from the Asian economy.
Indeed, the Chinese government has form in doing last minute tax break extensions. The government previously cut the vehicle-purchase tax to 5% between 20 January 2009 and 31 December 2009. It later extended the tax-relief period to the end of 2010, but raised the rate to 7.5%. The 2009 tax cut stimulated year-over-year auto sales growth to 45.5% in 2009 and to 32.5% in 2010 from 6.6% in 2008, according to the China Association of Automobile Manufacturers.
Where do we go from here?
Palladium price strength comes on the back of declining output from top producer South Africa, which together with Russia is responsible for more than 80% of global supply of the metals. Data released this week showed South African output fell 2.1% in the period Jan-Nov 2016 versus the same period in 2015. Under investment in one of the main palladium producers could start to become more evident in 2017 and beyond.
Investment demand in the form of funds moving into ETF’s could help prices move higher. Set against this is that palladium is an industrial metal – higher prices, when compared with its close substitute platinum tend to result in users (vehicle manufacturers in general) looking to reduce its use or substitute it with platinum.
Strength in palladium prices has typically not been long lived as abundant above ground stocks can be brought into the market relatively quickly to take advantage of any price strength. Finally, higher prices are likely to incentivise the recycling of palladium catalytic converters (a source that typically accounts for around 30% of total supply).
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