Metals Weekly: Will aluminium imports finally pick up in China?

We have long argued that China has drawn down their aluminium inventories. Net imports have not yet picked up. Part of the reason is that is has not yet been economically sensible to increase imports significantly since international prices (LME) adjusted for import taxes have not been low enough compared to domestic spot prices of primary aluminium. Chart of the week show that after the recent price fall on the LME, aluminium prices may have become low enough to see imports picking up. Due to the tightness in the domestic market in China, we believe Chinese buying can provide a short-term floor for LME prices and that the downside in aluminium prices is smaller than for most base metals. However, if the global economy enters recession again, China will probably stay on the sidelines until prices bottom out instead.

 Last week

The base metal complex broke a three-week losing streak with five of the six major LME metals in positive territory last week. Nickel, the poorest performer year-to-date, was the only metal with negative performance week-on-week. The LME index rose 2.5% w/w. General market sentiment improved during the week which culminated with the annual speech by Fed chairman Bernanke on Friday. On the positive side last week was an improvement in the manufacturing outlook in China (PMI flash estimate) and in durable goods orders in the US. Most other indicators point to a slight worsening of the US economic outlook. Base metals reacted positively to the expected wording from the Fed about further stimulus tools being available should the economy need support. Official copper prices rose 3.5% w/w ending at 9,091 USD/t. A quiet trading week ended with solid gains on Thursday/Friday following expectations for the Fed speech. Total exchange inventories fell 1% w/w due to a 9% drop in SHFE inventories. The Chinese copper market has been pricing in a tightening of the domestic market since August 1 reflected by strengthening time spreads and spot premia. The arbitrage for importing LME priced material have been open the past two weeks, which could lead to increased Chinese imports in the coming months. Money managers’ positions in the Comex copper contract were net short (profiting on a drop in prices) last week for the first time since October 2009. We continue to believe that copper prices have further downside if we are right the global economy is slowing.

Aluminium continues to be a completely different market in China vs. the LME. LME inventories are close to record highs and the LME term structure is therefore rising (“contango”) with cash prices around 2,300 USD/t. The SHFE inventories are very low with a corresponding falling term structure (“backwardation”) and spot prices around 2,800 USD/t. Total aluminium inventories in terms of weeks of consumption rose to 7 weeks from a three-year low of 6.35 weeks in June. Primary demand dropped back in July from record-highs in June, but output has still fallen short of demand since March. In our view, the global market is tighter than the LME inventories and term structure suggest. We see less downside in aluminium than for the rest of the base metals.

Gold prices corrected sharply last week after the sharp run-up in prices since mid-July. Prices corrected 11% in three days, but recouped half of the losses on Thursday/Friday. It’s difficult to point to what exactly caused the sell-off, but the Shanghai Gold Exchange raised margin requirements for trading gold futures and the CME followed suit with a 27% margin increase on Wednesday night. We continue to believe gold prices will stay strong for the remainder of the year, but do not rule out further corrections.

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