NEW YORK The
aluminum markets issues could be fixed by new regional
premium contracts and transparent data reporting, not by the
proposed changes to London Metal Exchange warehousing rules,
which will only complicate and prolong the situation, according
to Alcoa Inc.
aluminum producer called on the LME to establish regional
premium contracts for four locationsthe U.S. Midwest,
Rotterdam duty paid, Rotterdam duty unpaid and c.i.f.
It also reiterated its
call for the LME to improve transparency by establishing a
Commitments of Traders style report, similar to that
established by the Commodity Futures Trading Commission
The growing spread
between the LME price and premiums is the real problem, not the
amount of time it takes to get material out of storage, Tim
Reyes, Alcoas president of Materials Management, said in
a letter sent to Matt Chamberlain, the LMEs principle
architect of the current warehouse proposals and new head of
"While satisfying a
short-term public relations need, imposing this rules change
will have serious short and long-term impacts, encouraging the
movement of LME inventory to invisible, off-warrant inventory,
increasing the call for regulation of the LME and undermining
confidence in (Hong Kong Exchanges & Clearing Ltd.), its
understanding of the aluminum industry and its motivation for
purchasing the LME," Reyes said.
"We believe that the
proposed changes constitute a major market intervention that
will aggravate the lack of transparency that has had a damaging
impact on the aluminum industry and will do nothing to help our
customers manage their exposure to aluminum pricing," he
comes in response to proposed changes to the LMEs
warehousing rules, designed to cut queues to access metal in
storage and reduce premiums paid for physical delivery
amm.com, July 1).
Those proposals, which
impose additional load-out requirements on warehouses with wait
times of more than 100 days, are set to be voted on at the
LMEs next board meeting in October.
"We encourage market
users to contact us with their views," an LME spokeswoman said,
adding that the exchange had no further comment until the
conclusion of the consultation.
The proposed changes
to the LME warehousing rules "are trying to solve a
non-existent metal availability problem," Alcoa chief executive
officer Klaus Kleinfeld said.
analysis of the situation shows that metal is readily available
and consumers arent waiting in queues.
The main problems with
the proposals include the potential for higher warehouse rents
and handling fees, along with the movement of metal off-warrant
and out of regulatory oversight.
warehouses with queues beyond 100 days would also likely go to
locations with lower queues and stay there invisibly until it
was placed on warrant.
The letter also noted
that material could shuffle between warehouses, while
logistically constrained warehouses might be forced to refuse
metal. This would create an artificial tightness, creating
backwardations even at a time of market surplus.
"Instead of taking
such a questionable action that massively interferes with
supply and demand market dynamics, to maintain the credibility
necessary to achieve those growth goals the LME needs to
address pricing transparency immediately," Alcoa said. "If the
proposed warehouse rule changes are implemented, it will say to
existing and potential users of the exchange that the HKEx is
willing to act carelessly and that the LME may not be the
correct forum for their price discovery process."
The basic problem is
that aluminum premiums, which rose to record highs at the same
time as queues to access material soared to sometimes 18
months, are difficult to hedge in the current marketplace,
alternatives available to hedge premium exposure are illiquid
and only available in the over-the-counter market. Credit
exposure to financial premium swap counterparties limits
liquidity and there are no visible benchmarks for forward
premium prices necessary for valuing forward positions," Alcoa
said in the letter.
The warehouse queue
issue is a "red herring" driven by claims that it would reduce
prices, despite the reality that aluminum prices have declined
40 percent in the past five years, according to Reyes, and by
claims that it would increase supply despite a surplus of
physical aluminum available to end market consumers.
The current LME system
of warehousing bases delivery upon the sellers option;
the buyer of an LME warrant doesnt know which location it
will get in advance.
This deters consumers
from using it irrespective of the queues, Alcoa said, adding
that it is time for a physical market the size of aluminum to
move beyond being based on a U.S. Midwest benchmark.
for setting regional prices, by publication surveys, does not
allow risk holders to effectively hedge their position," the
premium contract will address the call for more transparency in
how premiums are set. And a clearing system would enhance
liquidity in the marketplace by allowing a greater portion of
the market to participate," it added.
The LME must use its
forum, platform and technology to "offer a transparent
marketplace for these products to trade in the open market,"
according to Alcoa. "Through premium contracts, users will have
the ability to trade a transparent, clearinghouse-backed
product and value their forward positions on a daily
trading with zero interest in physical metal delivery means the
LME aluminum price doesnt reflect the fundamentals of the
industry, Alcoa said in the letter.
Instead, the price is
being driven by short-term macro-events: historically low
interest rates and metal price contango, combined with the
increased attractiveness of metal and other commodities as an