Palladium prices have dropped 28% year-to-date…
…because of investor liquidation, weak car sales in EM and risk aversion
We expect lower prices from here but the downside momentum to ease
Palladium out of favour
So far this year, palladium has been the worst performing precious metal. Prices have dropped by around 28% year-to-date. They even lost 36% from the peak in September 2014. In this report we focus on what has contributed to this sharp fall.
Investors abandoned palladium,…
Palladium has been the favourite precious metal among investors because of its supply shortage compared to demand. The fundamentals were good, so investors piled massively into this precious metal. The sky was not the limit. In September 2014 – when the peak in prices was set – investor positioning was excessive taking into account market depth. This positive outlook started to unravel bit by bit. For a start, the US dollar started its impressive rally in H2 2014 versus major currencies and emerging market currencies. This resulted in a re-think among investors about their zero-income palladium investment. Increasingly investors became more concerned about their palladium investment because palladium prices failed to rally on supportive news. Instead, prices started to come under more pressure. In general, a higher US dollar and expectations of higher US rates are negative for investments that yield close to nothing like palladium and other precious metals. Investor liquidation (non-commercial and total ETF positions) year-to-date has been 1.8 million troy ounces or close to 19% of global palladium demand (2014). This investor liquidation has coincided with a drop in palladium of 225 USD/per ounce.
…concerns about US demand…
Moreover, weaker-than-expected economic growth in the US at the start of the year added pressure to the palladium price outlook. The US is an important market for palladium autocatalyst demand (see graph above). In addition, the deterioration in investor sentiment also played a role. Usually growth worries result in a deterioration of investor sentiment with is often reflected in higher equity volatility (VIX). Palladium prices tend to weaken if the VIX rises (see graph 1).
…and sharp falls in Brazil’s and China’s car sales
What has made things worse is the sharp deterioration in economic outlook in emerging markets, especially China and Brazil. Vehicle sales volume in Brazil dropped by a staggering 45% from 370’000 units to 200’000 units so far this year. In China car sales (volume) dropped by 38% year-to-date (see graph below) and dropped by 6% yoy in July. China accounts for 23% of global autocatalyst demand and 16% total annual palladium demand (2014).
Lower prices but downside pressure is easing
We expect palladium prices to drop further this year. However, we see downward pressure on palladium prices easing. One the one hand, autocatalyst demand from emerging markets, especially China and Brazil, will remain weak. We expect the trend in weaker car sales in China to continue into the first half of 2016. Moreover, investor positions in ETF related products remain close to all-time high levels and there a substantial risk that investors will also start liquidating these positions if US interest rates rise and the US dollar rallies. On the other hand, the most sensitive investor positions (non-commercial positions in the futures markets) have been sharply reduced and we expect investor sentiment to improve. The latter is in general position for palladium prices. In addition, we remain positive about the US and eurozone economy, which should support industrial and autocatalyst demand. If we take all the above into account, downside risks for this year and the start of 2016 remain. Therefore, we have lowered our palladium forecasts.