Minews - Aluminum Leaving LME Seen by Jefferies Increasing Volatility

(Minews) - Aluminum is exiting warehouses tracked by the London Metal Exchange at the fastest pace in a decade, leaving investors with less information about the market and possibly more volatility.

Banks and traders are moving metal to cheaper facilities outside the LME network, a tactic to save money as profits from one of the most common trading strategies shrink, according to analysts at Jefferies Group LLC and INTL FCStone Inc. About two-thirds of the metal exiting LME depots this year ended up in warehouses not monitored by an exchange, Macquarie Group Ltd. estimates.

“What that means is the market is going to become less transparent,” Gayle Berry, a strategist at Jefferies, said in an interview from London. “This is a risk for me. As markets become less transparent prices could become more volatile and more vulnerable to big swings when inventory finally becomes visible to the market.”

Storing aluminum to make money from the spread between short- and long-term contracts has limited supplies for consumers, helping boost premiums to obtain the metal to a record high, according to Macquarie. The metal is up almost 10 percent in 2014 at $1,967 a metric ton, heading for the biggest annual advance in four years, with demand for the metal used in car frames and soda cans expected to exceed output this year.

Price Swings

About 34 percent of global aluminum was held in LME warehouses last month, the smallest percentage in at least five years and down from a peak of 50 percent in July 2009, based on estimates from Macquarie. A measure of the metal’s price swings over 100 days has risen 21 percent from 14.2 in February, which was the lowest level since 2004, data compiled by Bloomberg show.

It costs as much as 51 cents a day to store a ton of aluminum in an LME-approved warehouse, compared with an average 5 cents to 10 cents off-exchange, Jefferies estimated last month. Stockpiles at the exchange have fallen 21 percent this year to 4.3 million tons, the biggest decline in a decade, bourse data show.

Traders and banks pay the storage costs as part of a strategy to take advantage of contango, when near-dated futures are cheaper than long-term ones. Investors simultaneously buy contracts to take delivery of the metal soon and sell ones that promise delivery at a later date. They store the metal and profit from the difference after paying additional costs including insurance, transportation and financing.

Aluminum Spreads

The technique was popular in recent years as near-zero interest rates made metal cheap to finance. With demand for aluminum rising, the spreads have narrowed and traders are looking to cut rent costs, according to Jefferies.

Aluminum for December 2015 delivery cost $29 a ton more than the benchmark three-month contract yesterday. Last month, the spread reached $5, the smallest in data going back to 2008. A year ago, the difference was $186.50.

With more orders coming in for aluminum this year, wait times in Detroit and the Dutch city of Vlissingen, which together hold 65 percent of LME aluminum, still stretch to almost 700 days.

Rising premiums show that a lot of the metal leaving the LME isn’t reaching consumers, according to Vivienne Lloyd, an analyst at Macquarie in London. The surcharge added to the LME aluminum benchmark is up 75 percent to $490 a ton in Europe this year. In the U.S., it doubled to a record 23.75 cents a pound ($524 a ton), Metal Bulletin data show.

“Premiums are still so high,” Lloyd said in an interview. “It’s irrational to take the view that the majority of the outflow is actually gone into the wider marketplace.”