Monday, August 29, 2011

Gold/Platinum Spread: A Rare Event

Recently the price of gold surpassed that of platinum, which is a rare event. Once this occurred, it wasn't long before platinum overtook gold and began trading in lockstep as gold moved higher, consistently trading for a small premium. It seems that as gold approaches platinum, it begins to trade as a monetary metal. The spread between the two prices has converged before (the ratio approaching 1), and occurs on occasion. Inevitably, platinum trades at a premium. Even during the '70s gold boom, platinum demanded a premium. The most recent convergence occurred after the Lehman failure in '08 and within a month, platinum was trading at a $150 premium, before increasing to $400 in the Spring of 2008 during the stock market sell-off. Since then, platinum has held a premium averaging around $300, until now. If history is any guide, it should retake a premium on the order of $250, or more. This poses a potentially lucrative pair trade that is under appreciated, and seemingly unrecognized. In practice, your risk is managed by the natural convergence barrier, while there is plenty of room for divergence. Overall, an interesting trade that rarely presents itself with such favorable conditions.

Going forward what does this mean? It may mean that gold is overextended and will re-enter the prevailing channel as shown in the figure below. It seems that something has to give, either gold must retrace a little more, or platinum needs to appreciate.

(click chart for larger image)

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