Trafigura faces off with aluminium bulls over huge metal stash

The aluminium market is caught in a clash between some of the biggest traders and banks, with more than US$1 billion of metal changing hands while lengthy queues form at London Metal Exchange (LME) warehouses.

The big bear in the market is Trafigura: the commodities trading giant has delivered massive volumes of aluminium onto the LME in recent weeks while touting its downbeat view.

On the other side stand banks and hedge funds including Squarepoint Capital, Citigroup and JPMorgan Chase & Co, which have responded by buying up Trafigura’s metal and ordering it back out of the warehouse system, according to people familiar with the matter.

The result has been a major change in who owns the world’s aluminium inventory, at a time when some are predicting shortages ahead. It’s also heralded a return of the stockpile battles and warehouse queues that have been regular hallmarks of the LME aluminium market, causing controversy among buyers and headaches for the exchange itself. The ballooning backlogs at facilities in Port Klang, Malaysia, mean that traders could now have to wait many months to take delivery of stock.

The events of the past few weeks have been the climax of a trade that began many months ago. Trafigura has been accumulating a stockpile of aluminium in Port Klang over the past year, much of it from India where the trading house has large contracts with suppliers including Vedanta.

Trafigura’s trade wasn’t a secret: the growing stocks of aluminium in Port Klang – a key global hub for aluminium storage – were visible in the LME’s monthly reports on metal stored outside its network of warehouses.

But nobody in the wider aluminium market knew exactly what Trafigura would do with the metal. Often, traders accumulating large stashes see opportunities to profit from increases in the physical premium that buyers pay over and above the LME price. If demand outstrips supply, the location-specific premiums tend to rise as real-world consumers of aluminium draw down metal that’s held in stockpiles.

Instead, in the past two weeks, about 650,000 tonnes of aluminium sitting in Port Klang was suddenly transferred on to LME warrant. Trafigura was the key player behind the deliveries, which led to an increase in live warrants of more than 500,000 tonnes on May 10 – the largest single-day delivery onto the LME in at least 27 years.

A few days after the deliveries began, Trafigura laid out its bearish outlook at a conference in London. Analyst Henry Van predicted that aluminium prices would fall, saying it was seeing “a very grim demand picture right now”, and noting recent smelter restarts.

But other traders are taking the opposite view. Of the metal delivered on to LME warrant in the past two weeks, about 400,000 tonnes – worth about US$1 billion at current prices – was quickly requested for delivery out again. The buyers include hedge fund Squarepoint, and banks such as Citi and JPMorgan, the people said. 

In the short term, the buyers of the aluminium in Port Klang are likely to use it for so-called financing deals – holding physical aluminium and selling higher-priced futures. But in the longer term, the biggest payoff for the trade would come if the physical market tightens to a level that allows it to be shipped to real-world buyers for a profit.

The bullish view of aluminium has a growing following: investors on the LME, who were collectively short aluminium as recently as mid-March, have lifted their bets to the most bullish level in two years. 

Inventories remain relatively low, while production in China is nearing a 45 million-tonne per year cap imposed by Beijing. Add in forecasts for demand growth of 3.1 per cent this year – led by demand from China and India – and the market is set to tighten in the second half of this year, according to CRU.

“We’ve come to the end, largely, of destocking cycles in various sectors,” said Ross Strachan, principal analyst for aluminum at CRU. “As demand picks up, the industry will need to encourage the restart of new capacity.”

The metals world has a long history of traders battling over giant stocks of aluminium, which can generate hundreds of millions of dollars a year in storage and handling fees. Just last month, Trafigura and rival Glencore grabbed the market’s attention with a trade made possible by new sanctions imposed on Russian metal, involving ordering out and re-delivering large volumes of aluminium. (The LME responded by rushing out new rules to undermine the traders’ antics.) 

But the decision to offload the mountain of stock on to the LME has puzzled many of Trafigura’s competitors in the aluminium market, and the scramble to get hold of it has underscored its value to rival traders. Facing soft trading conditions in the physical market, Trafigura may have taken the view that the quickest and most lucrative way to turn a profit on the metal would be to sell it on the LME and collect a share of the rent from future owners.

Traders delivering large volumes to the LME generally enter “rent share” deals with the warehouse company they’re delivering to, meaning they earn a share of the revenues for as long as the metal stays in the warehouse. At a rent of 56 US cents a day, the total rent on 650,000 tonnes of aluminium could be worth as much as US$133 million a year – more than US$200 a ton – as long as it stays where it is.

If it’s all requested for delivery, the total earnings would be a fraction of that amount. Still, it is guaranteed to earn a certain amount of money – about US$40 a tonne in rent – because the metal is only delivered out at a rate of a few thousand tonnes a day.

The big orders for withdrawal of aluminium have already led to a long queue to take delivery from warehouses in Port Klang operated by Istim Metals. The LME has rules to limit rents as soon as warehouse queues exceed a certain threshold, which it introduced after spiralling backlogs for aluminium drew consumer ire and regulatory scrutiny a decade ago.

Representatives for Trafigura, Squarepoint, Citi, JPMorgan and Istim all declined to comment. The LME has said its rules are designed to “disincentivise the build-up of queues”.

So far, the bulls have held the upper hand. Aluminium prices on the LME have risen about 4 per cent since Trafigura’s deliveries began, hitting a 23-month high on Tuesday after Rio Tinto declared force majeure on some alumina supplies from Australia.

And physical premiums have been rising since the start of the year, particularly in Europe, where output was slashed when energy prices spiked in 2022 and where Russian tonnes that previously supplied the continent have been redirected to Asia. 

Still, the long queue in Port Klang already appears to have deterred some would-be buyers: of the 400,000 tonnes requested for delivery in the past two weeks, about 60,000 tonnes of those requests were subsequently retracted. BLOOMBERG