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COLUMN- China's aluminium market shrouded by statistical smoke and mirrors: Andy Home
(Repeats May 23 column. The opinions expressed here are those of the author, a columnist for Reuters.)
By Andy Home
LONDON, May 23 (Reuters) - Are China's aluminium smelters ramping up production again?
The rest of the world can only hope not.
Production just about everywhere else is either falling or flat.
The latest figures from the International Aluminium Institute (IAI) showed a collective annualised run-rate outside of China of 25.1 million tonnes in April. That was the lowest level since August last year, reflecting the ramp-down of capacity in the U.S (Other OTC: UBGXF - news) ., where local producer Alcoa (NYSE: AA - news) has shuttered its Warrick and Wenatchee smelters.
The world outside of China is widely believed to be in supply deficit.
China, on the other hand, is widely believed to be still in production surplus, the resulting imbalance generating continued flows of semi-manufactured products into international markets.
There were signs that Chinese smelters were also curtailing capacity at the end of last year but with Shanghai aluminium prices staging an impressive rally, the fear is that production discipline will be lost and that Chinese exports will increase again to fill any supply gap in the rest of the world.
(Graphic on Chinese monthly production figures:
UP, DOWN OR UNCHANGED?
So is Chinese production going up, going down or is it largely unchanged?
It (Other OTC: ITGL - news) should be an easy question to answer but unfortunately it's not because of the volatility in the recent figures supplied to the IAI by China's Nonferrous Metals Industry Association (CNIA).
If the figures are to be believed, Chinese output slumped by an annualised 6.6 million tonnes in the December-February period only to surge back by 5.2 million tonnes in March and April.
Except anyone who knows how an aluminium smelter works will tell you the figures don't make any sense.
Looking for example at the apparent 4.8-million tonne increase between run-rates in February and March, Paul Adkins of consultancy AZ China noted wryly that the month-on-month jump was equivalent to "10 smelters running at full speed on March 1 after being idle on February 29".
Volatility is nothing new to these Chinese aluminium production figures, particularly around the turn of the year, both calendar and lunar, but this year's variance is unprecedented.
Perhaps the best way to penetrate the statistical smoke is to look at annualised production over a longer period.
On this basis April's run rate was 31.3 million tonnes, down a net 1.79 million tonnes from September last year.
That would tally with the anecdotal evidence that capacity was indeed curtailed as local prices fell below 10,000 yuan per tonne in November, lower even than during the worst of the Global Financial Crisis in 2008-2009.
The figures for March and April would also suggest, however, that restarts may already be happening, albeit not on a scale implied by that month-on-month explosion in output in March.
And Chinese smelters right now have every incentive to lift output rates, given the strength of the rally in Shanghai prices.
(Graphic on Shanghai aluminium price, volume and open interest: http://tmsnrt.rs/244b517)
SHANGHAI RALLY - A RELIABLE SIGNAL?
The most active aluminium contract on the Shanghai Futures Exchange (ShFE) is currently trading around 12,400 yuan per tonne.
The strength of the rally since November's trough has dispelled all the earlier talk of coordinated production cutbacks in return for government help in setting up an aluminium stockpile.
There is no hard evidence that the proposed scheme ever got off the ground, although it may have played a part in deterring the short-sellers who were swarming over the Shanghai market at the end of last year.
Speculators appear to have returned in March but this time on the long side, trading volumes spiking as the price made it above 13,000 yuan for the first time since July of last year.
Some of that speculative froth has been blown off thanks to the coordinated tightening of margin requirements by China's main commodity exchanges last month.
But while other over-heating commodities such as steel rebar and iron ore have collapsed in the wake of the regulatory intervention, Shanghai aluminium has recouped most of its immediate losses and is trending upwards again.
This does in part reflect an improving demand picture in China, AZ China's Adkins for example noting that "several sectors are showing good growth signals, including high voltage cables, automobiles, white goods and consumer durables".
But there are still reasons for doubting the solidity of the rally.
Firstly, it's worth noting that market open interest on the Shanghai aluminium market underwent a step change in the fourth quarter of last year and it remains extremely elevated by any historical benchmark.
Unless there has been a mass embrace of the contract by the country's aluminium industry, the inference is that there remains a heavy speculative foot-print in the market.
Secondly, as AZ China has also highlighted in recent months, there may be localised tightness in the aluminium ingot market as more and more producers switch to delivering metal in liquid form to their consumers.
Although a more efficient transfer mechanism for both producer and manufacturer, liquid aluminium is not deliverable against the ShFE contract, which risks being starved of the standard ingot required for settlement of short positions.
Such market mechanics may be distorting the underlying market signal.
PRICE UP, PRODUCTION UP?
What is not in doubt is the outperformance of the Shanghai aluminium contract relative to the London market this year.
The Shanghai price has risen by 16 percent, while the price of three-month aluminium on the London Metal Exchange (LME) is up by a far more modest 6 percent.
That doesn't bode well for producer discipline since Chinese smelters have in the past responded first and foremost to domestic price signals in terms of capacity utilisation.
And right now the price is telling them that it's profitable to restart idled capacity.
If demand continues its early-year rebound, that will be fine. The danger, of course, is that it fades, just as the government's mini stimulus in the first quarter loses traction.
The proof of that particular conundrum will come in the evolution of the country's exports of semi-manufactured products.
So far this year they have fallen by 10 percent to 1.31 million tonnes, although any relief felt by producers outside of China is likely to be mitigated by the fact that so much is still seeping out of the country despite a negative arbitrage with the outside world.
The scale of that export flow still holds the key to whether the global market can rebalance to the point that high stocks, the ultimate price dampener, can be reduced.
It in turn will depend on the underlying supply-demand drivers in the country. Just a shame they are currently so obscured by statistical smoke and market mirrors.
(Editing by Susan Thomas)
