Curve ball: How the ‘S’curve can help investors focus on the long term

One of the ways that resource investors can achieve success is by focusing on the long term outlook for economic growth and what that might mean for commodity demand. As investors have become fearful of the direction that many emerging economies are going in (populism, etc.) and the potential for more limited gains in their equity markets its worth considering whether now is an opportune time to bet on renewed demand growth from many of the emerging economies.

Since 2000, commodity investors has been fixated on China as the main source of demand growth. Over the following 18 years, China’s oil demand grew by nearly 10 million b/d, representing 40% of total global demand growth.

Economies’ demand for commodities typically tends to follow an S-curve. This is where consumption rises at an increasing rate before eventually stabilising at much higher levels. As economies develop, high income elasticity of commodity demand means that the quantity of commodities demanded rises substantially in response to an increase in income per capita. However, as economies develop further the income elasticity gradually declines resulting in smaller increases in commodity demand for a corresponding rise in income.

Recent research published by Goehring & Rozencwajg looks to where the next opportunity for growth could come from. And it has the potential to be a large consumer of commodities – India.

India today is only just reaching the same level of real per capita GDP growth that China reached in 2001, when China first crossed its “S-Curve Tipping Point.” Over the last decade, Indian per capita oil demand has grown by 0.03 barrels per year – the same rate as China between 1991-2001. In 2016, India’s real per capita GDP averaged $1,900 while its oil demand was 1.2 barrels per person per year. These levels are both very similar to China in 2001 when China’s real GDP per capita averaged $1,900 and oil demand was 1.4 barrels per person per year.

If India is in fact in the process of crossing its “S-Curve tipping point,” what should we expect to see?

If India has indeed crossed its tipping point and, using China as a guide, then we should expect to see India grow its per capita oil demand by nearly 2 barrels per person per year over the next 15 years. This equates to 7 mm b/d of total oil demand growth over the decade or ~500,000 mm b/d per year

One of the most important drivers of a country’s commodity demand growth is the rate at which its population urbanises. As a population moves from the countryside into cities, there is a dramatic increase in demand for both materials to construct infrastructure and buildings and energy to power them.

Today, India sits exactly where South Korea and China did in 1970 and 2000, respectively. With $1,900 of per capita income, 33% of its population is urban and total per capita primary energy consumption averages 0.35 tonnes of oil equivalent. Projections from the UN estimate that India could add 300 mm urban residents over the next 15 years which, assuming India’s population continues to grow at 1.2%, would equate to a ~50% urbanization rate by 2030. In turn, this would suggest that total primary energy consumption will need to grow by between 160% and 270% (depending on whether India follows the South Korea Model or China model).

A key driver of oil demand growth in China has been the sharp increase in total vehicle sales for both personal and industrial use. Major contributors to accelerating vehicle sales have been an increase in Chinese real GDP per capita, an increase in the urbanization rate, and the final point we turn to – a massive increase in the number of expressways across the country.

Amazingly, India has 1.5 million citizens per mile of expressway (ten times the amount as China in 2000 with a comparable level of real GDP per capita). There are 31,000 vehicles in India per mile of expressway (32 times China’s level in 2005).

But the Indian government appears to recognise the problem and is planning on large scale investment.

In response to these staggering statistics, the Indian government has announced a massive expressway building program of its own. In the next five years alone, India plans on increasing its expressway system by a staggering 14 fold (albeit off of a very low base). By 2022, there are expected to be 13,000 miles of expressways in operation. While this is a step in the right direction, there will still be 100,000 Indian citizens per mile of expressway (twice the level of China in 2005).

In the short term a drop in the exchange rate of any country that imports a lot of commodities (and oil in particular) is going to present a headwind for growth. Since oil and other commodities are priced in US dollars the recent selloff in emerging market currencies will mean that imported commodities become more expensive. India’s currency has not been spared the carnage, falling to a record low against the US dollar in recent weeks as investors focused on the country’s widening trade deficit.

However, the picture presented in this article is that the longer term potential for growth remains. A short term curve ball shouldn’t overcome the long term ‘S’ curve.

Related article: A long term view creates opportunities for commodity investors: Interview with Mike Alkin part 1

Unlock commodity market insight now and subscribe to our email updates or

Most popular content on Materials Risk

I have had a large number of new subscribers join over the past few months. Thanks for sticking with me! In case you hadn’t seen some of the content that Materials Risk has put out there I’ve pulled together the 7 most popular articles / resources of 2018 so far.

1. Sugar prices: The top 10 most important drivers

2. Copper prices: The top 10 most important drivers

3. A long term view creates opportunities for commodity investors: Interview with Mike Alkin

4. Probably the best podcasts on macroeconomics, markets and geopolitics

5. Seasonal price charts

6. Positioning analysis in commodity markets: An interview with Mark Keenan

7. A growth business: Potash market shows signs of life

Unlock commodity market insight now and subscribe to our email updates or

Platinum prices: The top 10 most important drivers

1) South Africa

As of 2016, South Africa produces approximately 70% of the world’s newly mined platinum. As a result, conditions in South Africa are crucial to the supply of platinum. Given that South Africa’s political environment has become increasingly volatile in recent years, platinum supply is subject to a fairly high degree of political risk. Platinum production from their mines have been hit by labour disputes and foreign currency instability. These risks were felt particularly hard in 2014, when workers for for a number of miners all went on strike hitting 40% of global platinum production. Geological problems have also hit the nations miners with flooding causing the shutdown of mines in the past. Meanwhile the country’s crumbling electricity infrastructure has also caused production to be delayed as intermittent or longer electricity cuts delay platinum production.

The other main producers of mined platinum are Zimbabwe, North America and Russia. Taken together with output from South Africa mined supply accounts for around 75% of total platinum supply.

2) Recycling

Around one quarter of total supply comes from recycling and recovering of platinum from vehicles and jewellery. Higher prices typically incentivise the recycling of platinum catalytic converters from vehicles. But since platinum forms a very small proportion of the value of a vehicle high platinum prices only have a marginal impact on the incentive to recycle. High steel prices encourage dismantlers to recycle vehicles and take platinum and other materials as byproducts.

3) Stockpiles

Very little information is known about how much platinum is held in stock (either for investment purposes or for industrial applications) since not all of the metal is accessible and could be stored in vaults. Current estimates of above stocks by the World Platinum Investment Council (WPIC) put stocks at about 20%-25% of annual demand, however estimates vary widely with many suggesting stocks could be significantly larger. Perhaps even more important however is who holds the platinum and under what circumstances they would be prepared to make them available to the market.

4) Vehicle demand

Roughly 40% of platinum demand is from the automotive sector and so changes in vehicle production have a significant impact on platinum fundamentals. Platinum is typically used in catalytic converters fitted to diesel cars while petrol powered cars generally use palladium. With diesel cars typically using platinum in its catalytic converter trends in Europe (where diesel cars form a much higher percentage of the vehicle mix than other regions) are worth keeping an eye on.

5) Emission standards

Diesel cars have become increasingly unpopular in Europe since the Volkswagen scandal rocked the car industry over the under-reporting of emissions and the driving public has become more aware of the environmental problems that diesel cars can cause. Public uncertainty over the risk and timing of possible diesel bans in some cities has also put a dent in sales of diesel cars in Europe. Its not all bad news – the growth in the use of catalytic converters on heavy duty trucks in the USA and Asia (which tend to use diesel) as controlling emissions becomes more important is contributing to higher demand for platinum.

6) Technological change

Should electric vehicles grow in popularity then demand for both platinum and palladium could fall. However, the continued use of hybrid vehicles may mean the impact is not as severe. Until recently it was thought that fuel cell cars would use a lot of platinum, potentially providing a new source of demand for the metal as existing internal combustion engine cars decline. However, it is now thought that the amount of platinum used could be cut to very low levels. Should the price of platinum decline relative to other substitute materials other uses will be found by manufacturers, but as always it is very difficult to envisage what these could be nor the amount of material that they will use.

7) Jewellery

Demand for platinum jewellery was almost nonexistent 20 years ago. However, in recent times, platinum’s use in jewellery has grown extremely fast. Jewellery demand for platinum accounts for approximately 30% of total platinum demand.

8) Industrial applications

Platinum is also used in applications as diverse as laboratory equipment, dentistry equipment and computer hard disks.

High prices incentivise vehicle manufacturers to look for alternatives or reduce the amount of metal used in their products, whether catalytic converters or other products. This could involve substituting platinum with other metals such as palladium or rhodium.

9) Investment

The launch of a number of two platinum exchange traded funds in 2017 helped support investor demand, opening up the possibility of investing in platinum to a wider group of investors while diverting platinum which may have otherwise been available to industrial customers.

Investors should be cautious though. Unlike gold and to a lesser extent silver, the platinum market is a lot more opaque while swings in investment fund flows can have a disproportionate affect on prices.

Silver has been compared to gold as being ‘gold on steroids’, acknowledging its volatility. Platinum, palladium and the other precious metals are in the same camp of volatile returns, if not more so.

10) US dollar

A weaker dollar can act as a disincentive to producers to increase output. For example, a depreciation of the US dollar against the South African rand will (all other things being equal) reduce profit margins for platinum miners based in the country. All of its revenue will be received in US dollars, which will now buy less rand, but some proportion of the costs will be denominated in rand and will remain constant (at least in the short term). The prospect of a lower profit margin acts as an incentive to decrease the supply of platinum on to the global market.

Previous episodes

Gold prices: The top 10 most important drivers

Silver prices: The top 10 most important drivers

Natural gas prices: The top 10 most important drivers

Copper prices: The top 10 most important drivers

Livestock prices: The top 10 most important drivers

Sugar prices: The top 10 most important drivers

Cocoa prices: The top 10 most important drivers

Palladium prices: The top 10 most important drivers

Unlock commodity market insight now and subscribe to our email updates or