New metal warehouse rules to pile pressure on aluminium smelters

Proposed rule changes for industrial metals warehouses and increased scrutiny by regulators are likely to unleash stored aluminium, adding to the global surplus and forcing more smelters to shut.

The new rules will slash the profitability of financing deals that have locked up metal in London Metal Exchange (LME)-registered warehouses and kept millions of tonnes of aluminium off the market, which has supported prices.

"The conclusion we've drawn from the warehousing financing issues is that it is pretty much coming towards the end game," consultant Marco Georgiou of CRU in London said.

Backlogs in deliveries from the LME warehousing network have created long queues and inflated the premiums to obtain physical metal, sparking complaints from consumers. Those complaints have led to a string of U.S. lawsuits and an LME proposal to overhaul its delivery system from next April.

As the new rules force warehouses to release more stocks, LME prices and premiums are expected to decline.

"Premiums have started to fall already, and we'd expect if the LME implements the proposals, then we'll see a reduction in warehouse queues from next year ... that would push premiums down further," Georgiou said.

The increased stocks on the market will add pressure on aluminium smelters to curtail capacity.

Smelters in Europe and North America are likely to feel the greatest impact. U.S. producer Alcoa Inc and Russia's Rusal have recently announced cutbacks. China, the world's biggest producer, is not directly affected by the premiums, and its smelters may keep churning out metal.

CRU estimates it will take until 2017 for the knock-on effects of the new rules to force the shutdown of 700,000 to 1 million tonnes of annual production capacity outside China.

The scope of the predicted shutdowns compares with a surplus on the global aluminium market that is forecast to increase from 825,385 tonnes this year to 1 million tonnes in 2014, according to a Reuters poll of analysts.

Analysts differ on how the new LME rules will affect two elements of the total aluminium price - the LME price and the premium for delivery of metal. The LME proposal has already started to have an impact on premiums since it was announced last month.

Duty-paid premiums in Europe are down by as much as $35 a tonne to $260-$285 a tonne.

"It is fair to conclude that there will be downward pressure on physical premiums ... but we are in uncharted waters. You'll only get more cutbacks if the LME price does not rise to compensate," analyst Stephen Briggs at BNP Paribas said.