April 23, 2020 / 12:24 PM / a month ago

GRAPHIC-Banks shun aluminium financing deals, expose surplus

* Discount for cash over 3-month aluminium highest since 2015

* Physical market aluminium premiums tumble

By Pratima Desai

LONDON, April 23 (Reuters) - Banks’ diminishing appetite to lend due to the coronavirus crisis mean a ballooning aluminium surplus, which previously would have been hoovered up by commodity traders using financing deals, will keep prices under pressure.

Shrinking demand due to stalled manufacturing activity, particularly in the auto sector and growing supply are expected to leave the aluminium market with surpluses totaling millions of tonnes this year.

For more than a decade, since the 2008 financial crash commodity traders have used financing deals — buying surplus aluminium and selling it for a future date — to take metal off the market and lock it up for months, sometimes years.

This is lucrative when there is a large discount or contango for nearby contracts against those with longer maturities, which covers interest payments and costs of storage and leaves traders with a healthy profit.

The discount for the cash against the three-month aluminium contract MAL0-3 on the London Metal Exchange touched $39.75 a tonne this week, the highest since July 2015.

“The economics of financing deals are attractive, but the trader community is starved of funds,” a banking source involved with aluminium financing deals said, adding that he expected the contango to widen even further as nearby prices slide.

“Banks have seen large draws on corporate lending facilities, companies are not making money. Banks are worried about a wave of defaults and need to conserve cash.”

FLOOR FOR PREMIUMS

Global aluminium supply is estimated around 65 million tonnes this year.

“We expect a world surplus of 5 million tonnes this year, which would be a record, eclipsing the surplus we saw in 2009,” said Jorge Vasquez, founder of consultancy Harbor Aluminum.

Prices have also crashed on the physical market, where consumers pay the benchmark LME contract and a premium which typically covers transport and handling charges. Since March 2018, the U.S. premium has included a 10% import tariff.

U.S. premiums have dropped to $220 a tonne from $330 a tonne at the start of the year, the lowest since January 2018. In Europe they have tumbled to $83 a tonne from $109 a tonne on March 2, the lowest since January 2019.

For premiums there is a floor created by the incentives warehouses can earn on metal going on LME warrant and calculated using free-on-truck (FOT) rates, a payment made to warehouses to prepare metal for transport, and the rent that could be earned.

Under current LME rules, warehouses looking to compete with consumers and attract aluminium to storage could pay incentives of $77 a tonne — the FOT around $50 a tonne plus rent around 54 cents a tonne for 50 days.

Queue-based rent capping is extended to 60 days in May, 70 days in August and 80 days in November, which would allow warehouses to pay incentives of $93 a tonne.

U.S. premiums could rise if President Donald Trump increases the aluminium import levy to 25% from 10% in an effort to improve his chances in November’s presidential election.

“U.S. smelters are struggling at current LME prices and margins - if they motivate a change in tariffs, it is bullish for premiums,” Citi analysts said in a note.

Aluminium prices at $1,500 a tonne have tumbled 18% since January.

Reporting by Pratima Desai; Editing by Veronica Brown and xxx

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