Winter Park, Florida 06/01/2016 - The US Midwest aluminium premium has taken an unexpected step backwards because a mild early winter has freed up excess scrap.
The US Midwest delivered duty-unpaid premium this week fell to 8.5-9.0 cents per pound from 8.9-9.25 cents and is off of the six-month high of 9.25-9.75 cents set late in November.
This year’s El Niño, among the strongest on record, has brought drier-than-average conditions and warm temperatures across the northern tier of the country, including the industrial Great Lakes and Ohio Valley regions.
Temperate weather makes it easier to collect and deliver scrap metal to recyclers. It also allows Canadian primary smelters and importers from other regions to make on-time deliveries.
"In the US, the mild weather has changed the dynamic as people were worried about scrap availability," one trader noted.
There is also historical context to consider. In the autumn of 2013, some consumers delayed purchasing metal because they expected lower premiums early in the next year. This strategy proved disastrous.
A brutal cold snap and blizzard in January 2014 tightened the scrap market, which was the catalyst for an unprecedented supply squeeze. Over a two-week period, the Midwest P1020 premium spiked by 11 cents to a then all-time record of 20 cents.
Consumers have since made sure they have enough metal to cover their first-quarter needs. But the flip-side is that, if the weather is warm and demand is tepid, they risk holding too much inventory going into the second quarter. This is quite a possible scenario this year.
So several key traders, who are long aluminium, would therefore like a run of cold weather and a heavy blanketing of snow on the Eastern seaboard.
"The US premium is under [downward] pressure but all we need is a big snowstorm and we should get some demand back," a London-based trader said about the US market.
SOME DEMAND WORRIES
There are also some jitters about end-market demand, especially toward the end of February - recent manufacturing reports indicate some softening in that sector.
The Institute for Supply Management (ISM) manufacturing PMI came in at 48.2 for December, lower than the 48.6 recorded in November and also below the estimated 49.0. Any number below 50 indicates contraction.
Economic activity in the Midwest fell at its fastest pace in more than six years in December, according to the Chicago PMI, which declined to 42.9 from 48.7 in November.
Additionally, US construction spending slipped 0.4 percent in December, marking the first month-on-month drop in more than a year-and-a-half, according to the Commerce Department.
Given this uncertainty, several consumers intend to hold off on buying additional spot metal until after a major industry conference in South Florida on January 20-22.
"All of our customers took their contract maximum for Jan-March but all those deals were done when people were worried about [first-quarter] supply. Now we're starting to hear about a little softness in February. So we're now expecting people to ask for below max levels for April-June," a primary aluminium producer recently told FastMarkets.
FUTURES BACKWARDATED
Meanwhile, the forward curve for CME Group's Aluminum MW US Transaction Premium (AUP) contract has moved deeper into backwardation in March and April - this also supports the argument that the end of the first quarter could be a trouble spot.
The December AUP contract ended last week at 8.9 cents, which was essentially unchanged week-on-week. January and February settled at 8.65 cents, up 4.8 percent from the prior week, but March and April finished at 8.5 cents, down 3.0 percent, and May at 8.35 percent was off 1.2 percent.
But there are still several good reasons why this lull in the US Midwest premium might be temporary.
Most importantly, the US is a deficit market. This year, the country will consume more than 5.5 million tonnes of primary aluminium, while domestic smelters will only produce about 1 million tonnes. That equates to shortfall of about 4.5 million tonnes.
"I don't think this level is sustainable in the long-run. The US needs imports but 8.5 cents isn't enough to attract them. We have to get back to above 9 cents," a producer said.
Additionally, Metro International stunned the market last week by announcing that it will raise its daily rent for primary aluminium by a third to 72 cents per day per tonne from 54 cents currently, while its free-on-truck (FOT) charge in Detroit - its flagship location - is up 39 percent at $55.55 per tonne from $39.95.
In theory, higher rent and FOTs should support premiums. Detroit LME sheds still hold 3.55 million tonnes of aluminium, with 2.16 million tonnes of that metal cancelled.
"It's strange that [the Midwest premium] hasn't gone up after Metro announced the high rents/FOTs because they basically can pay $40 higher incentives, although they may be hit by QBRC (free rent after 50 days)," a trader said.
"And the CME curve is in backwardation so it seems we are in for lower premiums. But the physical trade tells us the US is tight and premiums should rise - it's all a bit illogical," he added.
(Additional reporting by Perrine Faye, editing by Mark Shaw)