Huge Arbitrage Opportunity in Platinum

From http://www.higheralpha.com

PTM and PPLT are platinum ETF/ETNs that track the Platinum index. PTM tracks the front-month platinum futures prices while PPLT tracks the market valuation of physical platinum in a vault. Both symbols should have very similar values at all times with the exception that PTM’s price should fall slowly over time due tobackwardation (i.e. the opportunity cost of borrowing money (Futures yield curve), which is roughly 0.25% a year (today’s risk-free interest rate).

PTM: The investment seeks to replicate, net of expenses, the UBS Bloomberg CMCI Platinum Total Return Index. The index measures the collateralized returns from platinum futures contracts. It is designed to be representative of the entire liquid forward curve of platinum contracts. The index, which is rebalanced monthly, is comprised of the platinum futures contracts eligible for inclusion in the CMCI with a single target maturity of three months.

PPLT: The investment seeks to reflect the performance of the price of physical platinum, less the expenses of the Trust’€™s operations. The fund designed for investors who want a cost-effective and convenient way to invest in platinum with minimal credit risk. Advantages of investing in the Shares include Ease and Flexibility of Investment, Expenses, Minimal Credit Risk.

The Opportunity

Currently, there exists a huge deviation (arbitrage opportunity) between PTM and PPLT, one of the magnitude never seen before. Since the deviation is not due to future prices deviation from the physical price of Platinum, the arbitrage opportunity comes from an artificial imbalance in PTM itself, which we can profit from it.

Of the 520 days of data we can use to detect an arbitrage opportunity between the two symbols, there were only 14 days of total arbitrage days that you could have made money shorting PTM and longingPPLT. Of these opportunities, the average arbitrage gap was 5%. However, we’re looking at a 20%+ arbitrage opportunity today (4-5X normal deviations). Opportunities like these occur about 2.5% of the time in PTM:PPLT, but never of this magnitude. The deviation should only lasts a matter of days, and the gains are large enough to make this a very sweet opportunity to rake in a profit.

Profiting from the Opportunity

Short an equal amount of PTM while longing an equal dollar amount of PPLT. Since both symbols represent the same amount of Platinum, the proper hedge is a 1:1 proportion on both sides of the trade in dollar-terms. The expected profit is the deviation difference between PTM and PPLT, which you may find the chart here that we have made available to denote the ratio relationship between the two.

Example:

Short $50,000 of PTM (2,386 shares at $20.95)
Long $50,000 of PPLT (332 shares @ $150.54)
Opportunity size: 20%
Expected profit:  +$10,000
Expected time-frame: 1-3 days

Annualized ROI: +840% to +2,520%

Past Opportunities vs. Today

With comparable data to analyze from PTM and PPLT since January 2010, we have only seen a platinum arbitrage opportunities like these 5 times. However, the previous opportunities only had a arbitrage opportunity of 4-7%. However, this time around, we have seen as much as a 26.5% arbitrage opportunity to profit from, and currently still is showing a 19% gap.

1) November 15, 2010: 8% opportunity, 2 days

The first opportunity occurred on November 15, 2010, with up to a 8% deviation from the expected normal price (opportunity), which lasted only two days.

2) December 10, 2010: 4% opportunity, 5 days

The second opportunity was about 4%, with the opportunity lasting 5 days.

3) February 22, 2011: 4.5% opportunity, 3 days

Again it occurred on February 22, 2011 with a 4.5% deviation, lasting 3 days.

4) May 1, 2011: 9.5% opportunity, 2 days

In May 1, 2011, it set a record then with a 9.5% opportunity, which lasted a short 2 days.

5) Nov 5, 2011: 3% opportunity, 2 days

Just two months ago, a small, 3% deviation lasting 2 days occurred. In the 24+ month history of both PTM and PPLT, there we no other opportunity greater than 3% lasting more than one day, which leads us to our current arbitrage opportunity…

(NOW) January 17, 2011: 24% opportunity, 4 days and counting…

You can see from the full history of comparing the ratio of both symbols that our most recent arbitrage opportunity is the greatest of all, exceeding the previous spikes by multiple folds.

When we zoom into a 60 minute chart, we see that the arbitrage opportunity has been building on the past few days, which according to past experiences, shouldn’t last too much longer (1-2 days at the most) before reverting back down another 20% to the expected area.

PTM Intraday Chart Price-Volume Analysis

We analyze PTM’s price/volume chart to detect when smart money would like to start selling short PTM to collapse the arbitrage opportunity. We look at the 15 minute interval candlestick charts and look at volume triggering 1, 2, and 3 standard deviations from the mean.

Day 1: A flurry of buying came in on January 12, 2012, with some profit-taking during the last hour of trading, but nothing compared to how much buying occurred. Traders are net long a lot.

Day 2: There were more buying at the open. The arbitrage opportunity isn’t over as no signs of selling can be seen.

Day 3: Another gap up. Also no signs of selling. The arbitrage opportunity expands further. until late in the day, with some selling activity. However, traders are still net long a lot.

Day 4: We climb further again, but it is finally met with some selling. Traders are still net long, though some selling is seen late in the day. There were no large signs of switching sides yet, which we are waiting for to cash in on the arbitrage opportunity profits. Based on the lack of buying interest, we may be near or just passed the peak of the opportunity.

Day 5+: If we could see selling on the price/volume chart going forward, this opportunity will fade away quickly, perhaps in 2-3 days. As we’ve seen before, these opportunities don’t last long. And one of this magnitude may grant itself a longer lifetime, but in all likelihood it’s going to go away fast.

We’re also providing a continuously updated intraday analysis on PTM’s price/volume chart here to identify when traders will tip it over and commence to close the arbitrage opportunity. We will see obvious selling activity as the gap closes and it is key to timing the trade.

Conclusion

There is an unprecedented and rare arbitrage opportunity between PTM and PPLT.  In a sense, this trade is set up to profit from a post-black swan scenario.

This special write-up was created due to the time-sensitive nature of this opportunity. Some obstacles in which you may come across while executing this trade is the lack of shortable trades on PTM. If you can find shares to short PTM using your broker, I highly recommend you do so. Also be careful of the thinly traded nature of both symbols — the bid/ask spreads may be wider than you’re accustomed to in liquid stocks. We’ll be posting updates to this trade on this post as new developments arise. Good luck!

P.S.: We commit real money and act with conviction on our research. We have HigherAlpha members currently making this trade in the last two days.  Credit goes to Nick for pointing out this opportunity.