Since LME aluminium warehousing hit the headlines and the
lawsuits started to be flung around, premiums have begun to soften across major
markets. Whether it’s the lawsuits or the proposed increase in daily minimum
load-out rates that is the cause is not really clear, but what is generally
understood is that one or other – or both - of those changes will almost
certainly sharply reduce the incentives offered by warehouses to obtain
Good for Consumers
Now, that looks good for consumers, particularly since it is
specifically the premium (as opposed to the total price) that they have been
exercised about over recent months. If the warehouse incentive drops, it’s
logical to assume that the physical premiums will as well.
Mixed for Warehouses
For the warehouses,
the effect is not completely clear. For sure, it will improve their cash-flow
in the short-term, because they will not be paying out so much, but at the
other end of the trade, the result will not be obvious until we see how the
withdrawal of metal actually goes. If we heed the queues as they are at
present, we would expect to see the stockpiles wind down; but, since most
informed observers would probably agree that much of the queue is created by
metal ostensibly required by non-consumers, it is by no means obvious that that
will be the case. It is perfectly possible for large stocks to be in warehouse
without any artificial queues keeping them there. If the truth of the
supply/demand balance in aluminium is such that there is a genuine surplus of
the metal of the size of the current stockpile, then there is no reason to
expect the stocks to decline. In those circumstances, consumers will pay a
lower premium and warehouses – although obviously without the certainty of the
queue-inspired money machine - may also end up seeing improved returns.
The big Losers
The big losers, of course, would be the producers. They
would see the incentive they are paid to put metal into storage reduced, a
corresponding decline in physical premium and unless demand were to pick up, no
improvement in the basic underlying price. In order to stimulate better prices,
something else has to happen as well.
Most informed observers would agree that the range of
applications for aluminium is growing – its combination of lightness, strength
and formability puts it in a strong position vis-à-vis many of its competitor
materials. So it’s fair to assume that as (or if) and when global economies
truly begin to grow again, aluminium should be a substantial beneficiary.
But if only it were as simple as waiting for growth to solve
the problem. Sadly, it’s not. First, there is the stockpile itself, which sits
in the market like the brooding presence of problem-free smelters in Europe and
That metal is there (and given a resolution of the current warehouse problems)
available; no smelter problems, no power outages, no production hiccups.
Secondly, there is the question of overcapacity in the
market. Aluminium producers know this; at roughly the same time as its CEO
predicted higher prices ‘very soon’ (May/June 2012), United Co Rusal also said
it would be cutting production by 600000mt/year. That was later revised to
300000mt, but the reality, I believe, is sub-100000mt. There are supposed to be
further steps towards the total by the end of this year. UC Rusal are not alone; others have been
painfully slow to reduce production.
Now, I fully understand that governments
do not want to see smelter closures, particularly in times of economic slowdown,
and neither do the smelter operators; indeed nobody, apart possibly from some
fringe eco-crazies, wants to see modern, effective manufacturing plants sitting
idle. I have every sympathy with the management of producers who will try
almost anything to avoid closure, but it’s getting very close to the time when
the industry has to face reality.
Has the game been worthwhile? Has the low
price/high production equation been better than what would probably have been a
higher price/lower volume one? We will never really know, but the truth is that
the much-maligned warehouse trade has been the reason why the aluminium
industry has been able to defer making the painful decisions since the
financial crisis hit; with the prospect of that trade falling out of favour,
the need to make those decisions gets closer and closer with each passing day.