PHYSICALS - Potential scenarios awaiting aluminium should UK vote for Brexit

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London 20/06/2016 - There could be a widespread impact on the physical base metals markets should the UK vote to leave the EU this week's hotly contested referendum.

In the futures market, industrial metals came under pressure last week when polls indicated that the 'Leave' campaign had secured a lead of as much as 10 percent but the 'Remain' camp has since recovered some lost ground. Still, the outcome is far from certain, capping moves higher. 

The threat of Brexit looms large over not just the European and UK economies but also the FX trading desks in New York and the physical metal desks of South East Asia.

FastMarkets looked at some of the potential outcomes and how the vote could affect the physical markets, particularly aluminium.

"I think the implications will be quite serious if all hell breaks loose in European economics," one producer said.


INVESTMENT ALREADY ON HOLD

With the future direction of the UK and European economies shrouded by uncertainty, companies in the UK are delaying investment decisions relating to product orders as well as hiring, sources said.

"Some of our customers are actually delaying POs [purchase orders] and putting staff recruitment on hold because of the Brexit," an extruder in the UK told FastMarkets.

This lack of investment into UK manufacturing could be exacerbated should the UK vote to leave the EU, sources added.


CURRENCY DEVALUATION WOULD HURT DOLLAR PRODUCERS

Analysts from the International Monetary Fund (IMF) and the National Institute of Economic and Social Research (NIESR) warned earlier in the year that the pound could fall against the dollar and international currency baskets if the UK pulls out of Europe.

This volatility would affect the way international producers are able to market material into the UK and the EU, with premiums for aluminium facing downside risk.

European extruders and rollers could resist future premium contangos for physical metal and are unlikely to accept effectively paying more for their aluminium requirements when the market is currently pointing towards lower premiums.

"That volatility will not be good for the dollar producers. Our European market customers want to buy in euros and if we see the euro melting alongside Sterling that will be pretty tough going, making people gun-shy when it comes to commercial decisions," a non-European aluminium producer said. "We're taking the situation seriously."


STOCK MIGRATION

A downturn in the European economy could alter the global supply map, some traders have suggested. One trader in Asia voiced concerns about a large relocation of material to the Far East while market participants seek sources of liquidity in the face of any recession in Europe.

"If Brexit happens, I worry that there will be a huge redirection of metal into Asia, not just in aluminium but across the whole complex," he said.

When the second-quarter Major Japanese Port (MJP) premium in Japan was settled at $115-117 at the end of March, the trader said, some ingot and billet cargoes were redirected into Asia to capitalise on the higher premium. A higher MJP premium usually influences movements in nearby regions, where premiums were largely stable at the time.

In comparison, the duty-unpaid premium in Europe was $80 at the start of April, although lower deals were already being reported. Rates have since dropped as low as $60 in the EU; finding buyers willing to take large spot tonnages is increasingly difficult, sources said.

An economic slowdown in Europe could exacerbate this situation on a much grander scale due to the UK's high profile in the EU, the trader suggested.

As well, the UK is a major consumer of European goods. Domestic production is considerably lower than its counterparts on the continent; the lack of tariff benefits in the event of Brexit could see the UK buying more goods from outside Europe.

"The fact Britain will no longer be buying as much from the EU means that there could be some [economic] depression in Europe," the trader added. "Europe is a tripod - France, Germany and the UK. You lose one of those legs and things could get bad," he added.

(Editing by Mark Shaw)



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