Glencore and JPMorgan's LME Warehouse Activity Scrutinized; Physical Metal ETFs Affected?

When Goldman Sachs told clients to “get out of Dodge as far as commodities went earlier this spring, metals prices plummeted on fears that a commodities bubble had been reached. Metal prices have slowly begun to appreciate, and even though gold, silver and copper are still holding their own, they have not quite gotten back to their historic levels. As speculation continues to cause movement, what role do ETFs play in the commodity price drops?

According to a Kitco interview with Will Rhind of ETF Securities, not much.

ETFs “didn’t accentuate the price drops, they only reflect the activity in the market, Rhind told Kitco News last week. The article noted that ETF critics claim that they influence market movement, suggesting that ETFs inflate commodity prices above and beyond the fundamentals and conversely cause massive selloffs once prices show indications of receding. Indeed, as we’ve written about before, the worries over supply constraints of industrial metals still exist (even though they’ve abated somewhat, now ranking as more of a latent concern).

Physically backed aluminum, zinc and lead ETPs are the latest to be released. As of about a month ago, there was one confirmed warrant (24.766 tons) of physically backed aluminum on ETF Securities’ rolls, according to their daily tracking (compared to 131 warrants of confirmed physical copper, or 3276.551 tons, as of May 16. ETFS released the copper ETP in December 2010.)

One benefit of physically backed ETPs that ETF Securities touts is the security and relatively low-cost fee structure associated with physical storage. However, the effective functioning of LME warehouses may impact investors trading in physically backed ETFs, as Reuters’ Andy Home reported recently.

The Minor Metals Trade Association (MMTA) raised a concern to the Science and Technology Committee that LME warehouses’ ownership by JPMorgan and other trading companies (allegedly Glencore, Goldman Sachs, and Trafigura) compromises the “effective functioning of the market. Movement of warehouse metal has been under the microscope; load-out wait times at Detroit warehouses have been cited as symptoms of ineffective functioning, according to Home’s article. The committee was expected to present a definitive report to the LME’s warehousing committee late last week.

Perhaps these types of logistical hiccups i.e. if it gets harder to move physical metal tied up in ETFs on time will pose a significant risk. Then the question becomes not whether ETF metal supply will be constrained, but how the physical movement of the supply will affect the metals markets especially the ETF component.

–Taras Berezowsky

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