Winds of Change: Aluminium prices see resurgence

The markets need persistent production cutbacks from China for the prices to garner any concrete bullish impetus.

June 18, 2014 10:21 IST | India Infoline News Service
Aluminum prices have witnessed some resurgence this year after a listless performance during 2013, when prices on several occasions moved below the key cost level of US$1,800/ton. Surging physical premiums have reignited some kind of bullish interest in otherwise a beleaguered metal. Huge quantum of metal tied in the financing deals and consequent long queues at LME major warehouses is attributed behind the amazing rise in spot premiums. Meanwhile, lower spot prices have made the business economically unviable for majority of aluminium production facilities across the globe. Effectively, the fundamental profile for this metal is changing of late, whereby structurally oversupplied market is gradually expected to shift towards a balanced supply/demand equation in the coming years.

Projections convey a moderate surplus for 2014 and a marginal deficit during next year. There has been some meaningful production cutbacks witnessed in Europe and North America. Nevertheless, there has not been yet any significant reduction in Chinese output. According to Antaike, Chinese producers have already cut at least 420,000 tons of capacity this year, which cumulatively has now taken some 2mn tons off the market over the last year. However, these cutbacks are not yet fully reflected in Chinese production numbers, as new smelting capacity is replacing the old and inefficient production units.

In the meantime, there is a growing anticipation that much of the LME stockpiles tied in the financing deals will be slowly accessible to the physical markets. Severe criticism of the LME/banking warehousing model may compel investment banks/funds to unwind the inventory financing deals. During the past few years, lower interest rates have encouraged banks and financial institutions to control the major chunk of the stocks lying in the LME warehouses. In this respect, financial institutions bought the metal from the producers, sell it forward at a profit and strike a warehouse deal to store it cheaply for an extended time period. This led to a huge queue and hefty spot premiums for the delivery of the metal from LME warehouses. Now, US Federal Reserve is re-evaluating the authorization given to banks for commodity trading.

In addition, US CFTC has conducted its own investigation into warehouse modus operandi. In the days ahead, there can be a substantial change in the warehousing model, as the LME is also contemplating at some meaningful reforms. Stringent measures may dissuade investment banks and traders from venturing into inventory financing deals. At the current juncture, approximately two-third of the LME stockpiles is estimated to be tied up in financing deals. As the deals eventually liquidate, we will witness the exchange stockpiles being easily accessible to the physical markets. Consequentially, spot premiums will move lower and suppressed spot prices may induce aggressive production cutbacks during next year.

On global fundamentals, World Bureau of Metal Statistics numbers indicate that global markets during 2013 period stood in a surplus of 1.6mn tons. However, the surplus is expected to mitigate this year to around half a million ton. During the first quarter of this year, the markets witnessed a marginal surplus of 92,000 tons, as compared with an excess of more than 400,000 tons during the first three months of 2013. On price outlook, although there are encouraging signs of moderation in global supply growth, the markets need persistent production cutbacks from China for the prices to garner any concrete bullish impetus. We infer that any substantial curtailment from China will probably come next year, as tightening credit conditions and high operating costs will compel domestic smelters to trim supply. As in the case of most non-ferrous metals, aluminum's price trajectory hinges on whether Chinese smelters bite the bullet.

Source: India Infoline Research

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