How to profit from South Africa’s power cuts
By
Dominic Frisby Feb 15, 2008
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Here’s a joke that’s doing the rounds at mining conferences just now. “What’s the difference between South Africa and the Titanic?”
“When the Titanic went down at least the lights were on.”
As you’ve probably read, South Africa’s having serious problems with power cuts right now, and it’s a situation that won’t go away any time soon. That can’t be much fun for locals. But for anyone invested in precious metals, and platinum in particular, it has its upsides.
The country is a crucial supplier of platinum and other platinum group metals such as rhodium and iridium, and the threats of disruption to production have sent prices soaring.
Now, you could buy into this boom via an exchange traded fund or spread-bet – but there’s one group of miners for whom South Africa’s power woes could be very good news indeed...
Blame for South Africa’s national grid problems has been shuffled between the government and state-owned utility Eskom. Regardless of who’s at fault, for whatever reason, a lack of planning means the power supply has failed to keep up with demand. That’s bad news for South Africa’s miners. As an extremely energy intensive industry, a fluctuating power supply is the last thing miners need, and the initial power cuts led to shutdowns of mines across the board.
If a mine’s not working, then it’s not pulling any metal out of the ground. That in turn, is bad news for anyone who needs platinum, or other platinum group metals (PGMs). Not only are they precious metals in their own right, the PGMs also have many industrial uses, and are particularly important for use in catalytic converters (which basically make cars ‘greener’ and so are in high demand in these eco-aware times).
The trouble is that just one tiny area of South Africa, the Bushveldt, has a virtual stranglehold on global supply. A whopping 78% of platinum comes from South Africa, and 82% of rhodium (for a more detailed supply breakdown of the PGMs, see the pie charts below). If that supply dries up because of power shortages, where are the PGMs going to come from? Hence the surge in PGM prices – the platinum price is already up by nearly 30% this year.
Platinum supply breakdown
Rhodium supply breakdown
Palladium supply breakdown
Now this immediate fear will subside (any panic is overdone to begin with), so we can expect prices to pull back a little. But it’s a warning of what is to come as the global supply of resources is unable to meet demand.
The simplest way for investors to play this has been to own the physical metals themselves, the related ETF or derivative, or to find producers outside of South Africa.
Will South Africa renationalise Western miners?
But, bizarrely, even the South African platinum miners have seen their share prices rise. Frankly, I’m terrified of investing in South African companies. A South African mining analyst advised me last night, “If you’re intending to go to the World Cup in two years time, only buy tickets for matches during the day, you won’t be able to see the night games.” It doesn’t bode well for economic or social stability. And indeed, if you talk to locals and ex-pats, many say the stage is set for it to become another Zimbabwe.
I don’t believe it will ever get that bad. Reports suggest Mugabe is clinically insane; Jacob Zuma does not appear to be. Moreover, the international community values South African resources too highly; they did not value Zimbabwe’s. Mugabe’s atrocities began during a secular (ie long-term) bear market for commodities. We are now in a secular bull market and the world values resources far more. I doubt the international community would have allowed Mugabe to do what he did had it all been happening now, when her resources would have given Zimbabwe a far higher strategic importance.
Even so, the risk – whether it’s political, social or infrastructural - remains enormous. Veteran mining analyst Michael Coulson is concerned that African governments are making the same mistakes they made in the 1970s. Back then, as commodity prices rose, they began nationalising Western miners. The result was that Western companies stayed away for decades. Michael is worried it could happen again. Two countries (DRC and Zambia) have just increased their tax rates. This will make companies think twice about expanding their investments in those countries. If the same happens in South Africa, the consequences for the country will be disastrous.
But it’s an ill wind. All of the above now means there is a huge premium on platinum and palladium producers in low-risk countries. One example is Stillwater (US:SWC), which mines PGMs – mainly palladium - in North America. Its share price recently went from $8 to over $15 in one month.
A risky - but potentially very rewarding - platinum play
Stillwater is probably too dear to buy into now. But one company that is exploring for platinum right next door is Beartooth (CA:BTP). This is a high-risk, grass-roots explorer, trading at about 11 cents a share. The group has drill results due out either late this week or next week. (The results have been held up for what seems like months because the labs are so snowed under. This has been a source of great frustration for virtually every junior explorer).
If the results are good, this thing will double and more. If they’re bad, the share price will halve. But if you want immediate results, Beartooth might be worth a punt. Be warned, it is nothing more than a punt, so only risk money you are prepared to lose.
As a footnote, I thought I’d mention rhodium. In 2003 you could have bought an ounce for about $380. Now that same ounce costs over $8,000. That is a 2,000% move. I wish I’d bought a bar of the stuff. I need never work again. Ah, well.
Turning to the wider markets…
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Sombre comments from Bernanke depress stocks
After spending most of yesterday'ssession in positive territory, London's blue-chip FTSE 100 index gave up earlier gains to close flat, at 5,879 yesterday, as US Fed chairman Ben Bernanke's comments on the outlook for the US economy prompted a slump on Wall Street. The broader FTSe indices were also lower. However, it was a good day for drinks maker Diageo, which climbed over 4% after announcing it was on-course to hit targets this year. For a full market report, see: London market close
Elsewhere in Europe, the Paris CAC-40 closed 4 points higher, at 4,858. And the Frankfurt DAX-30 was down 11 points, at 6,962.
On Wall Street, US stocks broke their three-day winning streak as comments from Ben Bernanke's congressional testimony - including predictions of 'sluggish' economic growth and fears of further losses to be revealed on banks' mortgage investments - filtered out. The Dow Jones ended the day 175 points lower, at 12,337. The tech-rich Nasdaq was down 41 points, at 2,332. And the broader S&P 500 was off 18 points, at 1,348.
In Asia, the
Japanese Nikkei was down 3 points at 13,622. And the Hong Kong Hang Seng was 126 points higher, at 24,148.
Irish bank sees profits dented by turmoil
Crude oil futures had extended yesterday's gains this morning and were last trading at $95.54, whilst Brent spot was at $95.56 in London.
Spot gold had risen to $909.20 this morning. Silver was at $17.27. And platinum was hovering above the $2,000 mark this morning, at £20.10, just below yesterday's new record of $20,25.
In the forex markets, the pound was trading at 1.9634 against the dollar and 1.3396 against the euro, having fallen back from yesterday's two-week high against the latter. And the dollar was at 0.6821 against the euro and 108.21 against the Japanese yen.
And in Dublin this morning, the Bank of Ireland - the country's second-largest bank - revised its forecasts for full-year profits down to as little as 3%. Factors including its losses and falling stocks, which hurt life-insurance earnings, will cost the bank as much as 70 million euros this year.
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