LONDON (Reuters) - Global aluminum output was running at an annualized pace of 62.0 million tonnes in January, a new all-time record.
Once again this was a record forged in China.
While primary metal production in the rest of the world fell by 182,500 tonnes on an annualized basis over the course of December and January, it surged in China.
True, Chinese production figures come with a strong health warning, particularly at this time of year, but the underlying trend is becoming increasingly clear.
Smelters are responding to price signals.
In Shanghai, the most actively traded aluminum contract is trading above 14,000 yuan per tonne for the first time since November. Excepting last year’s late spike, it’s the highest price since early 2013.
The irony is that part of the reason for strong pricing is the threat of capacity curtailments in China on environmental grounds.
The jury is still very much out on whether that threat will become a reality but in the short term over-production rather than under-production is a more pressing issue for the aluminum price.
Graphic on aluminum production vs Shanghai price:
CRANKING BACK UP
Chinese aluminum output hit a new record of 2.95 million tonnes in January, according to figures from China’s Nonferrous Metals Industry Association (CNIA).
That was equivalent to an annualized rate of 34.7 million tonnes, 56 percent of the world total, and represented year-on-year growth of almost 19 percent.
The statistics may overstate the reality.
CNIA aluminum production figures, published by the International Aluminium Institute, have a history of wild swings over the period covering both Western and Chinese New Years.
Still, while individual data points may be suspect the underlying trend points to a significant upswing in production, as shown in the graphic above.
Chinese aluminum production started to contract in December 2015 and failed to increase during the first half of last year.
That was a reaction to the late 2015 slump in prices to below 9,000 yuan per tonne, with some producers curtailing capacity and new projects stalling.
However, the steady recovery in prices over the second half of 2016 has incentivized restarts and new capacity additions with production growth turning positive again in September and accelerating every month since.
THE ENVIRONMENTAL IMPERATIVE
Partly priced into the most recent leg of this price recovery has been the possibility of the forced closure of aluminum capacity on environmental grounds.
China’s Ministry of Environmental Protection has proposed shutting industrial capacity in five provinces over the winter months to alleviate chronic pollution problems in cities such as Beijing.
Aluminum smelting is one of the industrial sectors potentially targeted.
This, it cannot be overstated, is still a proposal and one that is likely to get plenty of pushback both from aluminum producers and local governments.
Also, while capacity curtailments are possible they are not going to happen soon since this winter is almost over.
But as smog rises to the top of the agenda for Chinese policymakers, the environmental imperative may trump all others, including economics.
A more immediate impact from Beijing’s new focus on clean air has been felt by suppliers of precursor materials for aluminum smelting such as coal tar, pitch and anode.
All these industries were the subject of tough environmental inspections last year, a clampdown that has continued into 2017, according to the AZ China consultancy.
“The operating rates of coal tar and pitch plants will be at a low level over a long term period, and that will put big pressure on prices,” it said.
Rising prices for these often overlooked inputs into the smelting process represent a real and present driver of higher aluminum prices, even while the vaguer, deferred threat of smelter closures lingers in the background.
In the shorter term, however, the increasingly pressing issue for the current aluminum price rally, both in Shanghai and in London, is the step-change in Chinese production trends over the last few months.
JP Morgan, for example, has closed out its recommended long aluminum position, even while maintaining its view that the potential for policy-dictated smelter curtailments “skews aluminum price risk asymmetrically higher in the medium term”. (“Metals Weekly”, Feb. 15, 2017).
The immediate warning sign comes from rising stocks.
Those registered with the Shanghai Futures Exchange (ShFE) have surged by 88,496 tonnes to 189,218 tonnes so far this year.
Headline exchange stocks have more than doubled since their low point of 83,775 tonnes in September last year.
Seasonality is in the mix in the form of the New Year holidays but resurgent production is also a factor.
JP Morgan, citing figures from the CRU research house, said that beyond the ShFE, reported Chinese stocks have “increased nearly 270,000 tonnes since the end of the Chinese New Year holiday” with an even greater build possible over the coming weeks as “excess metal from a Q1 17 domestic surplus makes its way into warehouses”.
Adding to the accumulating glut is the renewed flow of metal that had been stranded in the aluminum production hub of Xinjiang in the northwest of China by last year’s overhaul of trucking regulations.
Stocks in Xinjiang are now falling but, according to AZ China, there are still almost 350,000 tonnes awaiting shipment from smelters and transport hubs.
STOCKS UP, PRICE UP?
The combination of rising price and rising stocks is not one that is going to endure for very long.
So far this tension is largely internalized within China.
But whether it remains so is a moot point.
Exports of semi-manufactured products have been the country’s safety valve for excess production in the past.
The export flow fell by 3.0 percent to 4.1 million tonnes last year, the first annual decline since 2012.
That of course reflected a tighter Chinese market resulting from a year of supply growth constraint.
The recent production figures suggest the period of constraint is over and with stocks building, it may only be a matter of time before exports accelerate again.
If they do, China’s resurgent aluminum machine will no longer just be a matter for the Chinese aluminum price.
Editing by David Clarke
Our Standards: The Thomson Reuters Trust Principles.