Platinum and zinc imbalances and how to profit from it - Matthew O'Keefe
Market fundamentals are about to pop up some serious game changers in both the platinum and zinc space, making now the time to take a hard look at the state of supply. An interview with The Gold Report.
Posted: Saturday , 13 Oct 2012
The Gold Report -
The Gold Report: What is the current state of demand in the international zinc market?
Matthew O'Keefe: As a base metal, demand for zinc mirrors economic growth. When industrial growth is slow, demand for zinc is slow. The zinc supply is currently about 13.2 million tons (Mt) per year versus demand of about 13 Mt per year. Due to the current gap between supply and demand, inventories are high.
But things are going to change pretty dramatically during the next year or so. In Q1/13, the first of a number of large zinc mines is slated to close down.
MO'K: Zinc mines tend to be smaller than gold and copper mines with fewer very large producers. But early next year, the first of several large mines will close with production of about 275,000 tons (275 Kt) a year.
Later in the year, another large mine is scheduled to shut down. Along with a few smaller operations, the market will lose more than 0.5 Mt next year alone, which is a big chunk of production. That will start the trend of depleting zinc inventories. In 2014, more large mines will close. These are structural changes in the industry because there are no large operations to replace them. The global decline in inventory should perk-up the price of zinc.
TGR: Why are these mines scheduled to close?
MO'K: These mines are at the end of their lives. Zinc mines, like all mines, have finite life spans. But they also tend to be fairly discrete deposits compared to the large porphyry deposits that dominate the copper industry that can often be expanded to capture lower grades. But the issue is more one of timing as the closure of several large zinc properties is occurring close to the same time. Usually, closures are offset by the development of new mines, but there is only one new large producer starting up with about 90 Kt per year. That's less than half of what the larger mines are producing, highlighting the looming supply-demand imbalance.
TGR: With gold mines, as technology improves and the price of gold goes up, you can access tailings and basically re-mine the property.
MO'K: There have not been major changes in the mining technology for zinc. And zinc has not enjoyed the sustained price rise of gold or copper. Therefore, not much money has been thrown at improving zinc mining technology.
TGR: What is the primary use of zinc?
MO'K: Zinc is mainly used for galvanizing steel. It's used in brass and some other manufacturing so it's a true base metal used almost entirely for industrial purposes. Underneath that nice paint job on your car, it is the galvanized steel that keeps it from rusting. It's a major metal in construction. All of the high rises, and many houses, use galvanized steel studs. Duct work is galvanized steel. Growing economies require growing supplies of zinc.
TGR: What regions are rich in zinc?
MO'K: Zinc is globally available, but most zinc production comes out of China, South America, Australia and Canada.
TGR: How will the imbalance between supply and demand affect the price of zinc?
MO'K: A supply shortage should drive the price of zinc up. And with it, capital will flow to bring more mines into production. It's a typical exploration cycle. When prices are high, there's money available to explore and develop new mines. When prices are low, belts tighten and there is not a lot of extra money allocated to exploration or development. Losing the big producing mines means that there will be more demand for zinc to close the supply gap. A number of junior projects are well staged to succeed, if they get funding.
TGR: Such as?
MO'K: I recently screened North America-listed zinc names looking for companies positioned to take advantage of an increased zinc price balanced with the window of reduced supply. They all have relatively short time frames to production and good exposure to the zinc market.
TGR: You also cover platinum. What is the story there with supply and demand?
MO'K: Platinum, palladium and rhodium are the principal platinum group metals (PGMs) or platinum group elements (PGEs). Platinum is mainly used for making catalytic converters for reducing noxious fumes from cars. The automotive market is a bit flat in North America and Europe, but a rapidly growing middle class has created huge demand for cars in Brazil, China and India. Because environmental standards in these countries are going up, new cars are being fitted with catalytic converters, which use 3-7 grams platinum and palladium.
The supply side for platinum is fairly fixed. There is some production in North America and other places. But 85% of platinum comes from South Africa. Most palladium is mined in Russia. There is a need to find additional supply elsewhere because South Africa and Russia pose various types of obstacles for foreign investors.
In South Africa, foreign firms are required to find a black economic empowerment partner, a "BEE" partner, to cover 26% ownership interests. The agreement includes commitments for management control, employment equity skills, socioeconomic development-important steps but BEE is very well supported in South Africa so it's not an obstacle any more. The real issue for platinum and palladium explorers is access to good ground. The bulk of the metal comes out of the Bushveld Complex in South Africa, and that real estate is mostly controlled by three majors, but a few explorers have managed to squeeze into the Bushveld Complex. And in South Africa, there have been a couple of success stories in discovering new platinum deposits outside of the traditional Western Bushveld Complex. Some pretty interesting deposits, possible game changers, have turned up in the Northern Bushveld.
TGR: What is the life span of those mines likely to be?
MO'K: In the Bushveld, the life span is related to PGM prices. At higher prices, a miner can afford to go deeper. There is a lot of PGM resource in South Africa. The question is economics. A lot of the platinum mines are not economically viable at present; they cannot support new development. Some of the majors are shelving new development projects. Prices need to rise. There is a lot of cost pressure in South Africa on labor and capital costs. Mines deeper than 1,500 meters are just too costly.
TGR: Why is South Africa so blessed with platinum?
MO'K: Geology. The Bushveld Complex is a very special, layered intrusion in the 2-billion-year-old geological basin. It has concentrated platinum, palladium, rhodium and some other metals within a very thin five-foot zone. A century ago, it was mined from the surface. Miners have been following the sheet down dip ever since. But the deeper the mine, the higher the costs.
TGR: Are we looking at a constriction in the supply of platinum?
MO'K: Yes, I would say so because there's nothing like the Bushveld anywhere else in the world. The PGM deposits that have been found outside of South Africa don't have the same amount of platinum, they're mostly palladium, and they're nowhere near as big. There are some other platinum deposits around the world, but, again, it's a cost issue. We really need to see platinum sustained over $2,000/ounce (oz) to support new development from these lower-grade deposits.
TGR: Will price rise as supply contracts?
MO'K: I think so. Some of the South African mines are closing and some have been producing at a loss for quite some time. You can almost hear a board of directors saying to itself, "We can spend $1.5B to develop another one of these mines, which we know is going to be marginal if the price stays below $2,000/oz. Why not look at the new discoveries in the Northern Bushveld? It is amenable to mechanized mining and contains tens of millions of ounces. Maybe we should move toward a mechanized, more modern-type mining."
TGR: Are labor costs going to continue to increase?
MO'K: Yes. In South Africa, there have been violent incidents with striking platinum workers. They want higher pay. There have been regular increases in pay over the last few years, but it's become more and more acute. The issue is not going to go away. In fact, it has recently spread to the gold, iron ore and trucking industries.
TGR: Can rising labor costs be absorbed by price increases?
MO'K: They should-prices have to rise. When the strikes started happening in South Africa, the price rebounded quite strongly, because mines were losing production. There is greater awareness now that there is a supply constraint, and that we are relying on South Africa for the bulk of our platinum production.
TGR: Any final thoughts?
MO'K: Platinum and palladium are timely right now. Prices are running up, for good reasons. The recent disruptions in South Africa have brought to the fore the fact that South Africa is our major supplier of PGMs; extracting that supply is getting more challenging and more expensive. Prices have to go up in response.
We're early on zinc. The snapshot of the zinc market today looks as if it's in oversupply and there's lot of inventory so it's not that exciting. But watch it at the end of Q1/13 when Brunswick No. 12 closes. This should start a steady drop in inventories and rise in prices.
TCR: Matthew, glad to have you join us today.
MO'K: It's my pleasure.
Matthew O'Keefe is managing director, mining research at Mackie Research Capital Corporation. O'Keefe was selected as the #1 mining analyst in the Wall Street Journal's 2010 'Best on the Street' survey. O'Keefe has 11 years of investment experience, and began his career as an exploration geologist with a number of major and junior mining companies, spending five years in the field before becoming a mining specialist for Griffiths McBurney & Partners. Most recently, O'Keefe was a mining analyst with Cormark Securities. O'Keefe received a Bachelor of Science in geology from the University of Toronto, a Master of Science in geology from Queen's University in Kingston and an MBA from the Richard Ivey School of Business at the University of Western Ontario.