Aluminium likely to flood markets as hoarding metal stops being beneficial

A deluge of aluminum, held as collateral in financing deals, could be released back onto global markets as surging Chinese exports of the metal cause surcharges for physical material to extend their dramatic slide.

Premiums - which lurched lower for the first time last month after years of hitting record highs - are also facing pressure from market reform aimed at untangling controversial storage practices and the prospect of higher U.S. interest rates.

The surcharges, paid by buyers on top of the London Metal Exchange cash price to obtain immediate delivery of metal, had soared by up to nine-fold since 2009. This was partly due to expensive backlogs at LME-registered warehouses of up to two years to get access to material.

They have already shed 10-15 percent in Asia, Europe and the United States and some analysts and traders expect them to tumble by another 40-50 percent this year.

An estimated 10-12 million tonnes of aluminium are in storage worldwide, but until recently the bulk has not been available to the market, locked in financing deals or in warehouse backlogs.

"The whole equation has now changed," said Nic Brown, head of commodities research at Natixis in London.

"The risk is you can get a bit of a stampede from people who are holding metal in these financing transactions. That falling premium is now a negative rather than a positive for these financing trades."

Under financing deals, investors have profited handsomely in recent years by selling forward metal at a higher price, then leaving it in storage while also reaping the benefit of sky-high premiums.

Other elements are also making the financing deals less attractive, including a flatter forward curve in aluminium, reducing the forward selling price, and expected hikes in U.S. interest rates, boosting borrowing costs.

Another factor expected to inflate supply and curb premiums is the LME's wide-ranging reform of its warehousing policy, driven by consumer complaints about the long delays to obtain aluminium from storage.