Why Physical Aluminum Premiums May Rise In Q1 2014

There is clearly a disconnect between the expectations of sellers and buyers in the current negotiations between Japanese buyers and Western smelters, including UC Rusal, Rio Tinto plc, Alcoa Inc. and BHP Billiton, expected to start this week.

Meetings are due to take place to set the first quarter 2014 physical delivery premiums for aluminum contracts in Asia’s biggest import market, Japan. Smelters are bolstered by Prime Minister Shinzo Abe and the Bank of Japan’s record stimulus measures, which have spurred rolled aluminum output for three months in a row. President Abe’s plan to raise the sales tax in April is also boosting short-term demand for household goods, autos and construction.

Smelters are encouraged no doubt by the partial shutdown of Saudi Arabia’s Ma’aden smelter, and the end of a pact with an Indonesian supplier limiting physical supply, according to Bloomberg via this article. Japanese buyers are expecting a premium to be set this quarter around US$ 245-247 per metric ton over the London Metal Exchange (LME) price CIF Japan, but according to Reuters, Rusal is looking for record-high premiums of $270 per ton, supported by tight supply and healthy demand in not just Japan, but the wider Southeast Asian market and Taiwan.

Physical premia did fall in the aftermath of the LME’s announcements in July (that they would reduce load out queues at warehouses), but they have since crept back up again. What’s the outlook?

The market seems to have concluded the changes will take a long time to impact material availability, years in the case of Detroit and Vlissingen, and as such it is business as usual for the time being.

It’s not even clear that the queues are the sole cause of the rising physical premiums.

According to Standard Bank, looking at the impact on US Midwest and Duty Unpaid Rotterdam premia (along with Japan, the other two major physical premium delivery benchmarks), the premium differential between the pre-queue aluminum market of 2011 and earlier and the post-queue market is around $50-100/metric ton, the bank says.

We would put the figure at the top of that range, but the point is a good one: the queues are not the sole cause of the high physical premiums and resolution of the load out queues is not going in itself to solve the issue completely.

Bottom Line on Aluminum Premiums

Meanwhile, it seems the pain for consumers is going to get worse before it gets better.

If smelters have their way in Asia, there will be a knock-on impact of physical premiums in Rotterdam and for the Midwest ingot price next quarter. Monitor the course of these negotiations – they will have a direct impact on the price of metal paid by consumers next year.