Big Brother is watching you

The nickel price on the London Metal Exchange (LME) is holding up well – and so far successfully – against the general macroeconomic downward trend. It seems, therefore, somewhat surreal that the LME nickel market, precisely now, finds itself in a backwardation situation. This means that the spot price for immediate delivery is above the futures price (for example delivery in three months), despite good physical availability. In contrast to the 3 months future price, the spot contract is dealing with premiums of more than USD 200/mt at times, the highest level for 12 years.

This situation can only be interpreted as a technical market distortion. Presumably there are market participants who are short in the near term i.e. holding short positions and, in market terms, can be squeezed by dominant market players. Not a nice situation, but a reality on the oldest metal exchange in the world. Contributing to this is that for a few days now, nickel has been seeing continual, and considerable, depletions from LME warehouses suggesting an increasing market tightness for spot delivery now becoming optically obvious. Should this continue, it would be surprising if the LME did not react.

Development of warehouse stocks in LME certified warehouses is often taken as an indication of the underlying supply and demand situation of the commodity in question. As previously mentioned, the warehouse stocks of nickel have depleted at an amazing rate in the last few weeks. It is not yet clear how much nickel has actually been taken out of the market or has just been moved from the visible to the invisible area. Warehouse stocks in the middle of September were about 160,000 tons of nickel, equating to an actual market value of approx. 2.9 billion USD but have now been successively reduced to 94,134 tons, about 42.7% less. Just in the first weeks of October 25,000 tons net of nickel with a market value of around 440 million USD have been taken out of the LME warehouses.

This is the biggest depletion in the four decade history of the nickel futures market. As these sales are of private nature, there has been no official statement from the LME. If market rumours, reported by Bloomberg, are to be believed, the globally biggest stainless steel producer, Tsingshan Holding Group Co. Ltd, in cooperation with various investment banks, such as JPMorgan Chase & Co., is behind these purchases. Apparently the company plans to extract all these quantities of physical nickel purchased from the LME warehouses. If interpretations can be believed, the stainless steel producer intends to secure its nickel requirements before they become endangered, should the threats of an export ban on unrefined nickel ores from Indonesia be realised. However, it cannot be excluded that this Bloomberg report has been deliberately circulated to keep the real goals of the transactions quiet. Of course, it has to be asked just what happens to the nickel price when this powerful market participant stops buying, or even starts to sell the nickel again.

At this moment in time, the nickel trading range has settled between USD 17,000/mt and USD 18,000/mt. It has been actually trading at these levels since the beginning of September, after prices, within five days, were catapulted from USD 15,500/mt up to USD 18,850/mt. Whether this rise has anything to do with warehouse stock depletions is difficult to judge. But it is certain that the upwards movement of nickel started on the Shanghai Futures Exchange (SHFE) directly continuing on the LME in European business time. Seeing as only Chinese companies or market participants registered in China are so far allowed to trade on the SHFE, it seems obvious just where the momentum has come from.

The major customers for physical nickel do not seem to be too bothered, as at the moment – now again totally in line with the whole economic situation – they have a reduced requirement. New orders are somewhat lacking unfortunately. Prices, therefore, have been unanimously traded on the downside. At the same time, it is once more being argued about the competitiveness of Chinese and Indonesian stainless steel producers because of the primary commodity nickel pig iron (NPI). But, as the Australian Investment and Commodity Bank Macquarie writes in its research, the Chinese as well as Indonesians certainly have their problems. The Chinese are operating with negative margins according to Macquarie. And Indonesian producers do not know what to do with their products after most countries, including China, have closed their borders for imports of stainless steel from Indonesia. Desolate markets, therefore, in the Far East.

In contrast to this, local producers were able to show positive figures, at least in the second quarter, and actually even a cautious positive guidance for the third quarter. Since the start of the year a recovery has been seen in share prices, having been heavily beaten in the wake of economic weaknesses and the trade war between America and China already in the second half of 2018. Recently, however, coming under pressure once more, subsequently moving in nice correlation with the tweets of US President Trump about the Sino-American trade conflict and other incongruities, as well as following economic data. This should not be surprising to investors and shareholders, as equity values, reliant on economic cycles, such as those of steel producers, immediately react indubitably to these parameters.

In discussions at the moment about the disproportionate drop in stainless steel scrap prices, consumers invariably also argue about the apparent detachment of NPI prices in China and Indonesia from LME nickel prices. Even if it may be empirically so that NPI prices in recent times have not been moving totally relative to the development of nickel prices on the London Metal Exchange (LME), the above assertion is not altogether correct. It can be statistically proven, in analyses by Macquarie and others, that there is a considerable surplus in supply of NPI, especially in China.

As prices for NPI are especially higher in China than in Indonesia, NPI is being produced in Indonesia instead of stainless steel at times in order to utilise capacities. These additional NPI amounts are being exported to China as arbitrage to reduce price differences. In this way, Indonesian NPI producers can profit from the higher prices there. This short-term increase in supply in China of course puts pressure on the NPI price.

Economically, it is difficult to conclude that the price must fall for all other commodities with nickel content. For the following reasons: the LME, even if not so much today, but in the past has always detached itself from fundamentals, but still remains as the reference price for nickel worldwide. The differences in respect to qualities of individual nickel products, independently of whether they are LME brands or not, have, and will continue to be, accounted for by premiums and discounts to the LME price. In addition, these premiums and discounts also reflect the market conditions at the time, and the supply and demand and availability of the product.

So in the example now of NPI in China, it is taken into account that demand is faltering and on the other hand there is a surplus in supply. It is not clear here if there is a supply surplus in stainless steel scrap. It could also be the case that certain market individuals have a plan which is not necessarily economically viable or cannot be developed in the short term as it is part of a long-term strategy. An example of this would be the continuing massive stock depletions in LME nickel warehouses or even the fact that commodities or stainless steel products are sometimes offered at dumping price levels.

What, however, in this context, has to be ensured by appropriate regulations and supervisory authorities is that those with the deepest pockets do not end up as the winners. This would be against all market order and perceptions of markets in many parts of the world. But if this is seen and practised differently elsewhere, there is, unfortunately, no other way but effective protectionistic measures against such market distortions. Therefore the anti-dumping tariffs are not a mechanism against free trade, but a necessary, if not always wished for, instrument to ensure a fair environment for all market participants.

Finally the question has actually to be raised as to why this so-called game changer, NPI, is not utilised in Europe and other countries outside of China and Indonesia. As an argument in price negotiations, the commodity does seem to be worthwhile, but does this carry on in practice. If it were so, that, as described above for China, NPI would be exported to other countries in order to optimise profits for NPI producers through arbitrage, then there would really be a common market and prices of other commodities would have to be aligned according to their attributes.

However, since this commodity is not in fact available, and due to a lack of financial and fiscal transparency, the status of actual profit from, and sustainability of, NPI and stainless steel in China and Indonesia is not at all clear, then some questions have to be made about this argument. If Macquarie, for example, speaks of negative margins for stainless steel in China, then it cannot be excluded that, as described above, certain market activists will follow a different agenda. Apart from this, and for whatever reasons they may be, there are subsidies in the commodity and energy sector which are unavailable to competitors here.

This situation, which leads to incorrect allocations and market distortions, can only be brought under control if calls are made to governments for measures to be taken, which is also happening. Also, concerted steps in the whole of the stainless value chain can be considered to safeguard locations, which has happened in the past. This, however, only functions if benefits and obligations are more or less equal and fairly distributed. If the only objective is for capital markets and consumers to profit, then such partnership attempts are not very realistic. Independent of the quite understandable and legitimate wish to buy commodities at low levels on the one side and on the other to achieve the highest stainless steel price when selling, economic logic in combination with negotiating power between purchaser and seller has so far always asserted itself. And this will continue also in this phase.

At the beginning of October, the British company Earth-i released a press statement about the start of the SAVANT Global Copper Smelting Index, an index which would like to be an indicator of the development in copper markets globally. It would not evaluate market data, but satellite pictures of copper plants. By means of artificial intelligence these photos will be analysed in order to determine production output. A possible stoppage can already be recognised before a press statement is even given out by a company. If the company is to be believed, the satellites will cover up to 90% of global production. Since copper, also known as “Doctor Copper” has a vast range of applications in the manufacturing industry, the consumption of the metal is also taken as an early indicator for global economic development. The fall in price by about 9% over the last 12 months is therefore also an indicator for a global economic slowdown.