Commodities

Aluminium – too much, too expensive

Production cuts have been announced in recent months – above all in China – that have lent buoyancy to the aluminium price. So far, however, any capacities that were shut down have always been offset by new ones, with the result that Chinese production is on track to hit a record level. Because China is still exporting large quantities of aluminium, the global market also remains amply supplied. In our view a significant price correction is needed to restore the market balance.

This year, aluminium has outperformed all other base metals, climbing 18% so far. In the beginning of August, on the London Metals Exchange (LME), it climbed above the mark of USD 2,000 per tonne for the first time since the end of 2014. Meanwhile, since the beginning of the year, aluminium on the Shanghai Futures Exchange (SHFE) has risen even more sharply (21%) than on the LME (Chart 1).

Chart 1: Aluminium has risen noticeably in price so far this year
Chart 1: Aluminium has risen noticeably in price so far this year
Source: Bloomberg, Commerzbank Research; as of 8 August 2017

The price rise is not justified in our opinion as aluminium production has been expanded considerably for many months, above all in China, where the high prices make production attractive. According to the state Chinese research institute Antaike, the average production costs in China range between CNY 13,000 and CNY 13,500 per tonne. Since the end of January, the aluminium price on the SHFE has continuously exceeded this level. What is more, production is also being artificially maintained at a high level, for example by subsidised electricity prices. The cost burden on aluminium producers was also eased last year by the depreciation of the Chinese currency, which contributed to lower production costs by international standards. According to data from the International Aluminium Institute (IAI), Chinese aluminium production reached 2.95 million tonnes in January, its highest level to date. June saw it nearly back at this level, and even achieving a new record figure on a daily basis (Chart 2). Since China accounts for more than half of worldwide production, significantly more aluminium was also produced on a global level. Global aluminium production in the first half-year was 6% up year-on-year. It is therefore on track to hit a new record high and on a whole-year basis is likely to exceed the 60-million-tonne mark for the first time.

Chart 2: Record-high aluminium production in China …
Chart 2: Record-high aluminium production in China …
Source: IAI, Bloomberg, Commerzbank Research; as of 20 July 2017

Production looks set to continue growing in the medium to long term, too. After a power outage that resulted in low production rates for several months, the Portland smelter in Australia should soon be producing a good 220,000 tonnes more aluminium each year again in the near future. The US producer Alcoa plans to put its Warrick smelter in the US back into operation in 2018 – it had been shut down in spring 2016 because of the low prices at the time. The plant allegedly produces over 160,000 tonnes of aluminium p.a. Aluminium Bahrain, one of the largest aluminium producers in the Middle East, intends by 2019 to expand its annual production capacities by 50% to around 1.5 million tonnes. And in Russia, Rusal plans after years of suspended construction to complete its Taishet smelter by 2020, which was half-finished in 2009 (it has a production capacity of 430,000 tonnes p.a.).

Too much aluminium is being produced in China, however. Antaike estimates that an excess of 1 million tonnes of aluminium were produced in the first half of 2017. Even so, it is by no means the case that all production capacities are in operation or fully utilised. Antaike put capacities at a good 43 million tonnes p.a. as per end of 2016. As such, there were already overcapacities of more than 11 million tonnes p.a. even then. And capacities are set to be further expanded to 47 million tonnes p.a. by the end of 2018. China is thus attempting to export large quantities of aluminium. According to data from the customs authorities, 2.41 million tonnes of aluminium and aluminium products were exported in the first half-year, which is almost 6% more than in the same period last year (Chart 3). However, there is increasing opposition to the deluge of Chinese exports, especially in the US.

Chart 3: … reflected in continuing high exports (monthly production and exports)
Chart 3: … reflected in continuing high exports (monthly production and exports)
Source: IAI, Chinese customs authorities, Bloomberg, Commerzbank Research, as of 20 July 2017

Perhaps this is one reason why the authorities in China are now taking increasingly tough action against the aluminium smelters. According to the China Nonferrous Metals Industry Association, more than a quarter of the country’s smelting capacities may be in violation of the state rules and regulations. The Shandong province, China’s top aluminium production hub, has already ordered the closure of more than 3 million tonnes p.a. of illegal production capacities. At the beginning of March, the Chinese government already ordered that aluminium production be scaled back for the duration of the heating season, which normally runs from November until March. This is an attempt to combat the serious air pollution in many of the country’s cities. During the winter months, excessive amounts of coal are used to generate heat, thereby contributing to the air pollution. At the time, various media were speculating that production cuts of over 30% might ensue. However, the closed outdated plants so far have been completely offset by new capacities. In our opinion it is questionable whether all this will result on balance in lower aluminium production. After all, new low-cost production capacities are being built at the same time (see above). The following example illustrates the situation: although the National Development and Reform Commission (NDRC) reports that production capacities of more than 100 million tonnes p.a. were closed down in the Chinese steel industry from early 2016 to the end of May 2017, steel production climbed to a record high in June.

Global aluminium demand is very solid and broad-based. The main consumers of aluminium are the transport sector, the construction industry and the packaging sector. This is also unlikely to change much in the medium term. UC Rusal, one of the world’s largest aluminium producers, also expects global aluminium demand to increase sharply in the next few years. By the year 2021, Rusal puts this additional growth at 4 to 5% p.a. Thus aluminium shows the highest rates of demand growth of all base metals. And this is not only the opinion of Rusal, which more or less has to broadcast such optimism for business reasons; many other market observers also share this view, at least on a short-term basis. According to data from the World Bureau of Metal Statistics, global aluminium demand has already climbed 5.5% per year on average since the beginning of the millennium – more than the demand for any other base metal.

At first glance, the fact that LME aluminium stocks have now been declining for three and a half years appears to confirm the picture of robust demand. However, we believe that the inventory reduction is due not only to real demand but also in part to financial transactions. Furthermore, to some extent it has simply been a question of stocks being reshuffled from LME to SHFE warehouses. For example, a good 360,000 tonnes of the 890,000 or so tonnes of LME stocks that have been reduced so far this year were presumably transferred to the SHFE’s warehouse system (Chart 4). What is more, the exchange-registered aluminium stocks do not show the whole picture, as only a small part of the total aluminium stocks is kept in exchange-registered warehouses. Worldwide above-ground aluminium stocks are estimated at around 14 million tonnes. This certainly does not suggest any shortage.

Chart 4: Reshuffling of aluminium stocks (exchange-registered stocks)
Chart 4: Reshuffling of aluminium stocks (exchange-registered stocks)
Source: LME, SHFE, Bloomberg, Commerzbank Research; as of 8 August 2017

The physical premiums in the leading consumer countries/regions are proof that the good demand is not sufficient at present to fully absorb the very plentiful supply. According to data from Metal Bulletin, premiums in Europe fell to USD 75 per tonne at the beginning of the third quarter – the lowest premium this year. The premium on the LME price in the US is at around USD 155 per tonne, which is the lowest figure since November (Chart 5). And in Japan, the largest Asian importer of aluminium, producers and consumers agreed on a premium of USD 118 per tonne for the third quarter.

Chart 5: Low physical premiums do not point to shortage on aluminium market
Chart 5: Low physical premiums do not point to shortage on aluminium market
Source: Metal Bulletin, Bloomberg, Commerzbank Research; as of 8 August 2017

As we consider the global aluminium market to be well supplied, we believe that a price correction is needed. We expect the price to fall to below USD 1,800 per tonne. In our opinion, higher prices would only be justifiable if production in China were to be scaled back to a major extent and exports reduced accordingly.