London 28/06/2016 - Two large trading houses are widely believed to be involved in a tug of war of copper deliveries and cancellations in warehouses, generating uncertainty and affecting the near-term direction of the market.
"One delivered massively, aiming for a wider contango, while the other one cancelled to support prices - they have different standpoints in the copper market," a source familiar with the issue told FastMarkets.
There were sizeable deliveries of copper into LME-listed warehouses over June 6-9 - stocks jumped 57,000 tonnes to 210,675 tonnes from the previous week, with 70 percent of the metal stored in Asian warehouses at that point, according to LME data.
Some sources have speculated that some of the supply is not new but merely the result of a trading house unlocking large volumes of off-warrant supply to shift the cash/three-month spread to contango while warehouses provide attractive incentives.
When the metal is put on warrant, no movement takes place - it merely has its label changed from off-warrant to on-warrant, effectively from off-market to on-market. In other words, it is simply reclassified as LME-registered stock in the same warehouse.
At the same time, Chinese copper smelters have consistently delivered metal to LME sheds, taking advantage of incentives to cash out while physical premiums have been depressed in Shanghai, traders and analysts told FastMarkets.
According to unconfirmed speculation, the trading house may also have delivered metal onto the exchange on behalf of some Chinese smelters who may have been producing large volumes of copper despite having promised late last year to cut capacity. Still, other sources have claimed the smelters have kept their promise to lower output.
"It's a war mainly between two major trading houses and others like Chinese smelters were forced to be involved," one source claimed. "What the trading house wants is a contango - the wider, the better [for their business]."
In other words, the contango must be wide enough so that traders can still make profits after paying the cost of financing, insuring and storing the metal over the future delivery period.
Following the early deliveries, the LME cash/three-months spread swung to $4 contango on June 7 from $26 backwardation at the end of May and widened further to $17 on June 13, two trading days before 'third Wednesday'.
June 15 was a key date for position holders - the third Wednesday of each month is the date on which traders who took positions in LME have to make or take their delivery.
"Playing spreads is a matter of timing," a warrant trader in Asia said, adding that the contango play will only last as long as it makes sense to do financially. The trading house is unlikely to deliver more copper now that 'third Wednesday' has passed.
In response to the massive deliveries, cancelled warrants - metal booked for removal - in LME-approved warehouses climbed 58 percent to 54,625 tonnes on June 23 from 34,625 tonnes on June 14.
A second trading house is widely believed to be behind the move. Fresh cancellations during this period were 40,975 tonnes, with 38,050 tonnes or 93 percent cancelled in LME-bonded warehouses in Singapore, South Korea, Malaysia and Taiwan - the same locations where its rival delivered metal.
Accordingly, the benchmark LME cash/threes narrowed to $4 contango on June 23 from $17 in the previous week.
"The trading house will not take defeat lying down - the backwardation will return if there are continuous cancellations although most people are bearish on the copper price," the third source in Asia said.
What the main canceller probably wants is not simply a backwardation but a higher copper price, several market participants told FastMarkets.
"Its stock price usually falls if the copper price goes down," a trader in Asia noted.
Whoever plays the spreads must have to have access and the ability to store or cancel large volumes, which means "they must be big players", a warrant trader said.
Most analysts and traders surveyed by FastMarkets believe the battle did, does and will continue to affect the copper market to a considerable extent.
"The copper price is up but I don't see any fundamental support - cancelled warrants were an indicator of demand but it seems not any more," a physical trader in Asia said.
Copper continues to trade around its strongest in eight weeks - it was last at $4,860 per tonne, up $22 on Wednesday's close.
(Editing by Mark Shaw)