Following relatively quietly on the heels of the iron ore contract, many other commodities are moving from annual priced contracts to spot or monthly pricing. The speed at which this is happening is catching some by surprise but is not wholly unexpected or even unwelcome by buyers it seems. A recent Financial Times article suggested most European companies that depend on raw materials believe annual price contracts are no longer appropriate. Although the steel industry’s association Eurofer fought vigorously to preserve the annual benchmark, a survey published last week and reported in the FT found that 67% of managers taken from the survey group of 250 steelmakers, chemicals and specialty manufacturers believe that contracts with a fixed annual price are out of date, only 24% support benchmark prices. Nor did most managers believe that dynamic pricing would necessarily lead to higher pricing although they accepted it would add to volatility.
This view may be why a change to the bauxite and alumina pricing mechanisms only recently announced by Alcoa and now by other members of the Alcoa Worldwide Alumina Alliance (AWAC) has been met with such equanimity. Possibly that and the fact John Dudas, head of BHP Aluminium has reportedly spent the last 18 months doing the rounds in the industry garnering support for a change. Marius Kloppers, head of parent BHP Billiton was an early advocate of more flexible iron ore pricing and has worked for the last five years to move a range of commodities the group produces onto dynamic prices usually tied to indexes.
According to The Australian newspaper, Alumina Ltd, number two to Alcoa in AWAC and the world’s biggest supplier of third party alumina, is progressively moving clients onto a pricing mechanism to be based on a new alumina index to be launched by Platts on August 16. The index will include a daily Australian FOB spot price and a North China alumina assessment. Apparently 20% of AWACS contracts roll over for renewal each year and the plan is to move these onto index pricing as they fall due.
Stepping back from the buyers complaints about miners strong arming them into agreements, they (the miners) don’t want buyers reneging on long term fixed price contracts if spot prices fall. Nor do they want to lose out because of spot prices consistently being at a premium to contract prices. It is fair to say the bauxite and alumina pricing mechanisms were created for the convenience of vertically integrated smelters not to reflect the underlying dynamics of the raw materials concerned. Miners argue for example that the spot price has generally (though not consistently) been above the contract price for several years, currently by about $45/ton. The objective though is not so much higher prices but prices that more fairly reflect the fundamentals of that product rather than the vagaries of a downstream product. With bauxite and alumina increasingly being purchased by new smelters in China and the Middle East that do not have captive raw material sources, an open market price becomes more viable and more relevant. It looks like alumina at least will become increasingly important for aluminum buyers to track as another fundamental price driver for the semi finished sheets, plates and bars they buy.