CRU: Are We ‘Out of Aluminum’?—Wall Street Soundbites vs. Reality

I was reminded of this when reading recent remarks from Jeff Currie, the widely respected and closely followed head of commodities research at Goldman Sachs.

Is History Repeating Itself? The Lessons of 1988

Mr. Currie was recently quoted as saying he’s never seen commodity markets pricing in the shortages they are right now. “I’ve been doing this for 30 years and I’ve never seen markets like this,” Currie said in a Bloomberg TV interview. “This is a molecule crisis. We’re out of everything. I don’t care if it’s oil, gas, coal, copper, aluminum. You name it, we’re out of it.”

Well, I have been doing this for 37 years and I can say that I HAVE seen this happen before…it happened in June of 1988.

London Metal Exchange stocks were virtually tapped out (we actually were flying aluminum in 747’s from the U.S. to Rotterdam to make delivery, as there were no U.S. LME warehouses at the time).

Demand was very strong, despite the major “head fake” that Wall Street’s Black Monday event of October 19, 1987, had inspired.

The Dow Industrial Average fell 508 points that day. In today’s market, that might not make the news given the absolute level of the market, but in 1987 that was nearly a 23% plunge. At current levels of the Dow (35,000) that would translate to an 8,000-point drop.

Aluminum prices were crushed in similar fashion, wiping about $300 per ton off a $1,600 price. People were convinced that the sky was falling, and consumption of aluminum was doomed.

Nine months later, in June 1988, it was a remarkably different story. Real consumption, as opposed to perceived demand, was MUCH higher than the market had forecast. Supply versus demand was desperate. We were on the cusp of running out of metal.

China did not exist as an aluminum producer. Russia was still part of the Soviet Union. Its aluminum was locked up tight as a strategic material, part of their “military-industrial complex.” There were no appreciable exports from Russia.

How did we survive that supply crunch? Just as all commodity markets do. With ruthless price efficiency.

Aluminum prices in mid-June 1988 reached a record high, which holds to this day: $4,288 per ton for cash aluminum. Did we run out of metal and shut down the industry? NO. Did the high price of aluminum kill demand or put people out of business? NO. Was it an expensive lesson for producers or consumers who had either over-sold or under-bought. YES!

Fast Forward to 2022: New Fears About Running Out

We have talked about the tight aluminum supply-demand balance in this column. It should not come as any surprise to our readers. Prices are rising steadily, and we are approaching 15-year highs on price. Do we believe that the market will run out of metal? No. Will buyers pay dearly for the current deficit versus current production and demand? Yes.

Let me explain.

First, the 2022 global deficit is about 1.6 million tons. CRU estimates that the available inventory of metal outside of China is about 6 million tons at the end of January. That means at a high level, the World would have 4.4 million tons of inventory left after satisfying the deficit for 2022. However, you must qualify how “usable” that inventory is and what price incentives are needed to prompt it’s release to the current market.

The 6 million tons of World ex China is divided into the following categories:

• About 1.3 million tons is held by producers. This level of stock has not budged in 10 years. Producers have thinned out their working inventories to a point where what is left is minimal levels of work in progress or is in transit to consumers. With the supply chain truly global, and not working all that well, it is safe to say there is a lot of metal literally floating around the planet that can’t be consumed easily or quickly. It is unrealistic to consider these stocks as having much room to be drawn down.

• Japan port stocks are 277,000 tons. Japan has no domestic production and consumes about 5,500 tons of aluminum per day. This means they have about 51 days’ supply. Given their dependence on 100% imports and much of their supply coming from the Middle East, Australia, and Brazil, the Japanese are very conservative with their supply-chain risk. These stocks will not be depleted but held tightly as a hedge against on-going supply disruptions. (P.S.: They get a fair amount from the Russians too…enough said about that risk.)

• The London Metal Exchange holds 799,000 tons. This is the lowest level seen in 15 years. Here in the U.S., we have 16,800 tons. Europe has 30,000 tons. The balance is in South Asia. These inventories are likely to be completely exhausted by the end of 2022 as China will have an appetite for them and the deficits of Europe and the U.S. will drain the warehouses. These will be pulled out due to the high physical premiums being paid in Europe and the U.S.

• Unreported stocks held by banks and traders,  financial intermediaries, represent 3.7 million tons. This is the key supply that the market will rely upon to avoid “running out.”

These stocks are a legacy of the big surpluses that were built during the Global Financial Crisis of 2008-2009. The financial intermediaries stepped up when neither producers nor end consumers of aluminum were willing or able to hold inventory. In that era, everyone wanted to deleverage and turn inventory to cash. It worked. The inventories moved into the hands of the banks and well-capitalized physical traders.

Now the market needs those stocks back and the owners of those stocks have waited 13 years to cash in. This will be how the market will get through this supply crunch. The banks and traders will cash out of their longs, but it won’t come cheap and that will manifest itself in the form of record-high premiums expressed over LME.

There has been a long-running debate about the sheer size of the unreported stocks, with some of CRU’s competitors believing they are substantially higher than our estimates. Once and for all, we are going to find out who’s right on this, as the current deficit in aluminum will quickly drain this supply pool. Physical premiums will dictate how fast and how deeply we will deplete those stocks.

Midwest and European ingot premiums are at all-time highs, so there is no time like the present for the banks and traders to take their profits…especially when the market fears “running out.” We won’t run out, just as we did not run out in 1988, but it will be a very painful experience for anyone who is short.

Greg Wittbecker joined CRU in January 2018 after retiring from Alcoa, where he was Vice President of Industry Analysis and Managing Director of Alcoa Beijing Trading, based in Shanghai, China. His career spans 35 years in the aluminum industry, having also held senior commercial and management roles at Cargill, Wise Metals and Koch Supply and Trading. Greg brings perspective on the entire aluminum supply chain from bauxite to aluminum finished products and will be a regular contributor to SMU going forward. He can be reached at gregory.wittbecker@crugroup.com

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