Bullishness in western Al markets may be misplaced

Aluminium ingot (AI) premiums in western markets have climbed this month on speculation that rising Chinese demand following the lunar new year holiday will tip the balance against tight supply levels caused by production curtailments in the west. But some market participants have warned that such expectations may prove optimistic on a number of persistent headwinds.

US aluminium premiums have jumped since the start of this year. Argus assessed the US Midwest premium at $0.26-0.29/lb on 25 January, up by 35.8pc since the start of this year. Premiums initially edged higher this month on forecasts for slightly higher demand this year. The increases then accelerated in response to sustained supply issues following a series of smelter curtailments last year, set against rising demand expectations around China's return.

"US premiums are rising because buyers have to attract more metal," a trading firm said.

In Europe, premiums have been more stable but started to increase this week, with the Argus duty-paid P1020 ingot in-warehouse Rotterdam premium assessment rising to $270-290/t on 25 January, from $250-270 previously. Ingot premiums moved higher on expectations of recovering demand in China following the lunar new year holiday and higher US premiums.

Trading firms said some consumers have started to ask for long-term fixed-premium supply deals, which many so far have avoided in recent months, in a sign that premiums may have bottomed in Europe.

London Metal Exchange (LME) prices have also risen strongly this year. Official three-month LME aluminium prices peaked at $2,662/t on 18 January, up by 17.01pc since the first week of January.

Such is the positivity around aluminium in some spaces that US investment bank Goldman Sachs sharply increased its 2023 aluminium price forecast earlier this month. It now expects aluminium prices to average $3,125/t in 2023, reaching a peak of about $3,750/t. The bank previously forecast 2023 average aluminium prices at just over $2,500/t.

But not everyone is behind the positive story in aluminium, and there are a number of question marks hanging over the market's assumptions.

Chief among them is the issue of Chinese activity from next week as trading companies return from the lunar new year holiday. Market expectations are for a strong return, particularly as China has only just rescinded many of its Covid-19-related restrictions on movement both within and into the country.

But high Chinese demand is by no means certain. The country's easing of Covid-19 related restrictions led to a sharp increase in infections and the holiday period could well spur further cases. Record-low winter temperatures in parts of China this week will also weigh on an instant uptick in industrial activity.

Chinese aluminium prices climbed sharply in the week before the holiday, but had traded well below LME levels previously. If Chinese activity is slow to return, prices again could fall to a significant negative arbitrage that would spur more exports from China, instead of the imports that western markets have been expecting.

Construction demand in many major global markets remains in deeply negative territory, which has caused aluminium billet premiums in Europe to drop sharply in 2023 so far. The Argus assessments for aluminium 6063 billet delivered to Italy and Germany both fell to $550-650/t this week, down by a fifth since the start of this year.

"At a presentation in Germany, producers were all saying that construction demand is terrible and automotive demand is not great either," a market analyst said. "Producers in the Middle East have said the same about Europe and the US. The demand is just not there."

Automotive demand is thin in 2023 after production across Europe fell in 2022, while last year's new vehicle sales in the US were the worst in more than a decade.

"The removal of subsidies and tax cuts in China has slowed automotive demand there as well, after they had pulled demand forward," the analyst said. "Automotive markets are a big problem for the aluminium market."

Rising LME prices may also have been more dependent on speculative positioning than in real demand, as most LME base metal prices have followed a similar path and for similar reasons — confidence in China's post-new year activity.

"Things may well improve after the Chinese new year, but it will be disappointing compared with expectations," the analyst said. "Some people don't expect much Chinese demand until the second quarter, or even the second half."

Given the headwinds, it may be a challenge for prices to even approach Goldman Sachs' forecast unless there is a significant tightening of supply. Premiums will also come under downwards pressure if China proves sluggish in its activity from next week.

By Jethro Wookey