Aluminum: LME Useless as Market of Last Resort, Interest Rates the Answer?

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Continued from Part One.

The Reuters article quotes David Wilson of Citibank London in saying that about three-quarters of European Union aluminum smelters are loss-making based on the LME price alone, but after adding in physical premiums, only a quarter are in the red. European premiums for duty-paid are said this year to be around $280-$295 per metric ton.

As a result, it can be said the LME has completely collapsed as a market of last resort.

Prices do not reflect the actual price paid by consumers because they fail to reflect the massive aluminum premiums being charged. Nor do end users access the exchange for supplies because of the untenable warehouse queues to access metal.

What do the experts say?

Aluminum expert Jorge Vazquez of HARBOR Aluminum commented to us recently that the North American LME Aluminum market is owned by traders and financiers; end users have not turned to delivery points in Detroit or New Orleans for a year or more.

It is indeed fortunate that the Chinese aluminum market exists in a vacuum all its own. The overcapacity there would depress prices even more if primary metal were allowed to free-flow out of the country. Recognizing the high-energy content of primary aluminum, Beijing has held exports in check by tariffs, rightly seeing unrestrained exports as a waste of precious domestic energy production.

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Nevertheless, massive Chinese overcapacity, combined with some 5 million tons of global exchange stocks and upwards of the same hidden inventory overhang, is having a depressing effect on prices worldwide. Even if downstream consumption continues to rise at some 7 percent per year, as Alcoa believes it will, nothing less than a complete collapse in premiums will shutter enough capacity to bring the market back into deficit.

Deadlock will likely come only when interest rates rise sufficiently to dissuade the financiers from rolling over stocks, and that could have the effect of releasing vast quantities of metal onto an already oversupplied market.

According to the Fed and ECB, interest rates will not rise for at least another 18 months – but then it will be a matter of how far and how fast.

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