Aluminium Prices in Q2: A Market Analysis

Aluminium Prices in Q2: A Market Analysis

Base metals prices tumbled in the last week of April and at the start of May, with the aluminium price falling to US$ 1765/t on May 10 (cash LME, US$ 1800.5/t 3-month), the lowest since January 2017. While there is no one reason for this series of plunges, lower than expected economic indexes both in China and USA and uncertainty related to US-China trade negotiations are clear factors. After all, on May 10th, President Trump increased tariffs on Chinese imports worth US$ 200 billion to 25% from 10%, with the option of passing another 25% on the remaining US$ 325 billion worth of yearly imports from the Middle Kingdom.

The tariffs were passed against the backdrop of bilateral trade negotiations with China’s 100-strong delegation, led by Vice Premier Liu He – which Trump deemed were progressing “too slowly”. The tariffs, which took the markets by surprise and sent base metals prices tumbling down, will be removed if and when agreement with China on trade conditions gets concluded. The latest developments may put pressure on base metals prices during May but they also strengthen the case for striking an agreement, perhaps sooner than expected. The current situation is harmful for both Trump and Xi in the long term and, and they know it.

But Trump’s tariffs focus could soon shift to a different front: the May 18 deadline to decide on how to react to a US Commerce Department report on car imports is coming up – a decision that could result in tariffs on imported cars and car parts. That shouldn’t be surprising, as a recent UNCTAD analysis indicates exports from the EU may grow by as much as US$ 71 billion as a consequence of the US tariffs on Chinese exports, replacing US and Chinese firms. President Trump may see this as grounds to slap car tariffs as a way of rebalancing the US’ deepening trade deficit with the EU.

Economic growth steady in Q1, April indicates slowdown

China’s economy grew at a steady pace of 6.4% in the first quarter, defying signs of a further slowdown, as industrial production jumped sharply and consumer demand showed signs of improvement. However, both the official and Caixin PMIs came in lower than expected in April, indicating that Chinese factories are struggling to gain traction from the Q1. The official Chinese Purchasing Managers’ Index for the manufacturing sector (PMI) fell unexpectedly to 50.1 in April. The PMI compiled by Caixin dropped even more sharply – it is standing at 50.2, on the limit of expansive territory. The data suggest that the Chinese economy is not tracking its momentum from March into the new quarter and probably the Chinese government and central bank will implement further stimulus measures.

The U.S. economy accelerated more than expected in the first quarter, putting to rest fears of a recession for now. According to the Bureau of Economic Analysis, GDP increased by 3.2% in the first quarter (Q1), which is the best Q1 growth in 4 years. However, the ISM index for the manufacturing sector dropped significantly more sharply than expected to 52.8 in April, putting it at its lowest level in two and a half years. Industry sentiment has become noticeably gloomier, indicating slower growth in Q2.

The GDP of the 19 countries that make up to the Eurozone monetary union grew 0.4 % in the first three months of 2019 compared to the last three months of 2018. That was the best increase since the second quarter of last year. Italy emerged from a half-year recession with growth of 0.2 % over the previous quarter.

The Euro zone manufacturing index for April’s reading of 47.9 was an improvement on March’s six-year low of 47.5, but marked the third consecutive month of contraction.

However, the global economy has entered a “synchronised slowdown” which may be difficult to reverse in 2019, according to the latest update of a tracking index compiled by the Brookings Institution think-tank and the Financial Times. A similar assessment came from Societe Generale’s Robin Bhar: “The global economy appears to be hitting a soft patch and that is going to hit demand for aluminium, that’s why the funds have been selling”.

The headline readings slipped back significantly at the end of last year and are at their lowest levels for both advanced and emerging economies since 2016, the year of the weakest global economic performance since the financial crisis, according to the report.

As the weak economic data and scepticism have predominated, base metals prices risk further downward direction during the course of this month.

Is the latest fall of metals prices exaggerated?

Despite somewhat weaker economic indicators in April, two major economies (US, China) are still in the expansive zone and two-year low for aluminium and lead prices are not quite justified. What this means is that there has to be something else hiding in the woodwork depressing the market.

It’s worth mentioning a recent Reuters news story that pinned blame for base metals slumping on computers: “aluminium and lead hitting their lowest in more than two years, as computer-driven funds sold after an options expiry amid concerns about China demand”. This shows the role played by algorithms, which may partially explain the discrepancy between the actual and the real value of metals prices.

Further, a statement by Colin Hamilton, managing director of commodities research at BMO Capital Markets, pinned the blame on something else:  Financial players are “simply not interested” in aluminium. “Over the past year client questions on aluminium have been few and far between,” Hamilton wrote in BMO’s round-up of the CRU conference in April, adding that the lack of investors at the meeting was itself a sign of the broader lack of interest. (“CRU Aluminium Conference Feedback,” April 28, 2019)

Moreover, the question is whether the recent sharp increase of aluminium stocks at LME registered warehouses came as a form of asylum for excess aluminium, as a protection in case of falling prices, or just contributed additionally to price decreases? LME aluminium stocks have increased substantially over the last week of April (by 230,000 tonnes, i.e. 22.5%). Most deliveries were made into warehouses in Malaysia and Singapore. Reuters’ Andy Home argued that “Occasional mass inflows of metal into the LME system indicate that what we see in the aluminium market is dwarfed by what we don’t see”.

On the other hand, increases in aluminium prices on the SHFE have been attributed to declining stocks, which fell to their lowest level since November 2017, in the second half of April. The period of high seasonal demand is currently underway in China. Most of the aluminium demand forecasts for this year have been revised downwards, to just 1-2 %, the lowest since the economic crisis of 2008-2009, with only few producers (such as UC Rusal) forecasting demand growth of 3%.

While 30-40% of smelters are thought to be losing money due to low LME prices, those figures refer mostly to China’s producers. For the rest of the world, the figures are probably higher (over 50%). For instance, the world biggest aluminium smelter, Alba, in the Kingdom of Bahrain, reported a net loss of US$ 42 million in the Q1, on production of 272,707 tonnes, despite being on the low end of the cost curve, thanks to relatively low energy costs.

Premiums also under pressure

Fastmarkets’ assessment for the average monthly midpoint of the P1020 US Midwest aluminium premium was at US$ 418.87 per tonne in April, flat from March. Oversupply has created pressure on the US premium over the month, narrowing arbitrage opportunities for the third straight month.

Aluminium premiums in Europe edged lower on the week, with nearby London Metal Exchange spreads in a sustained backwardation and demand from consumers muted. Fastmarkets assessed the benchmark Rotterdam P1020 in-warehouse duty-unpaid premium at US$ 80-90 per tonne Tuesday April 30, down from US$ 85-95 per tonne a week ago. Premiums had been largely supported by trader-to-trader demand amid a contango on LME spreads earlier in April.

Reuters poll

In the second Reuters Base Metals Poll of the year, conducted in the third week of April, and published on May 1, a bigger than expected deficit in aluminium markets is due to support prices. Slowing supply growth in China and the looming possibility for further capacity cuts prompted by low aluminium prices are listed among the reasons for this sentiment. Analysts have sharply boosted their consensus estimate of this year’s market deficit to 868,240 tonnes, up from 490,000 in the previous poll.

The LME cash aluminium price is expected to recover in coming months, trading at an average of US$ 1984 a tonne in the third quarter, according to the 28 analysts co-opted by Reuters for the poll. The poll also showed that analysts are less optimistic about the aluminium price performance in 2019 and 2020, compared to the previous poll in January this year (which was also lower from the previous one, in October 2018).

China’s exports remain strong, though lower

Spot aluminium trades in China tumbled more than 100 yuan/mt from pre-holiday levels on the first trading day after the Labor Day break (May 6).

Spot trades in Shanghai were heard at 14,080-14,090 yuan/mt, before slipping to a range of 14,050-14,070 yuan/mt as future prices extended declines, SMM reported. Lower prices spurred purchase among downstream producers, especially in the south of the country. Despite the fact that production expansion is slowing in China this year, at least some 3 million tonnes of annual production capacity will be added, according to local industry experts and analysts.

Falling alumina prices on the world market (down to around US$ 355-360/t on Fob basis) and expectations the Alunorte alumina refinery in Brazil will restart at full capacity, led alumina exports from China to drop sharply in February and March (to 8,000 tonnes from 143,000 tonnes in January).

Source: Alcoa

The country’s alumina producers, by contrast, are stepping up imports of bauxite. The first-quarter count of 26 million tonnes was 27 % up on last year’s record levels. It seems that the environmental clamp-down is pushing more alumina producers to look overseas for raw material.

China’s aluminium exports fell to 498,000 tonnes in April, down 8.8% from 546,000 tonnes in March, but remain high. That was up 15.8 % from 430,000 tonnes in April 2018. It’s interesting to mention that record exports in March coincided with a production level of 92,900 tonnes per day (2.88 Mt for the month, according to National Bureau of Statistics), which is the lowest daily rate since October 2018. Production in the Q1 was 8.57 million tonnes, up 3.9 % year/year.

Furthermore, Reuters reported that China’s Henan Shenhuo Group has commenced construction of an aluminium smelting project with an annual capacity of 900,000 tonnes in the southwestern province of Yunnan. The project will involve a total investment of around CNY 6.75 billion (USD 996.59 million) and is expected to be launched in two years; the first phase will have a capacity of 451,100 tonnes per year

Final remarks

It looks like financial investors and speculators are getting tired of uncertainty on the market, realizing that too much capacity, too many exports and too much stock characterise the current aluminium market.

The results of US-China trade negotiations (expected by early June) and the amount of aluminium exports from China will determine the direction of aluminium prices through at least the second quarter.

One of the weakest segments of aluminium demand in the Q1 was low demand from the automotive industry, both in China and Europe. Chinese automobile sales fell for the ninth straight month in March. So demand needs to improve in following months to give support to the aluminium price.

The current aluminium price is unsustainable for the majority of the world’s aluminium smelters, meaning those are making losses and risk capacity closures if the price does not increase soon, to over US$ 1900/t. However, China’s aluminium exports for April and the latest US trade tariffs, do not give much optimism for the price to recover significantly during May.

All in all, aluminium producers are entering a new and challenging period that will certainly prove painful for some plants: expect more closures and production cuts soon.