Aluminium: How real are concerns about Russian supply?

Aluminium prices have risen above $3,200 a tonne and are on track to hit a record high. We believe the renewed rally is driven by multiple supply concerns, from environmental cutbacks in China to the energy crisis in Europe and potential sanctions against Russia.

Experience suggests that the latter scenario could create chaos in the aluminium market and that imposing similar sanctions would be highly unwise. Aluminium prices will rise significantly as a result of such a decision, but we believe some of this risk is already reflected in offers.

While most industrial metals remain below the highs they hit last year, aluminium is aiming for a new record. Prices have risen nearly 25 per cent since mid-December to more than $3,200 a tonne, close to 2008 levels.

Multiple supply concerns added to extremely bullish sentiment and contributed to the resumption of the rally. Compared with last year, the market is still worried about production cuts in China for environmental reasons. Although Chinese production has been falling over the past few months, metal volumes both domestically and for export have been rising recently, suggesting there is no shortage.

Another problem remains high electricity prices in Europe, which have forced some producers to announce capacity cuts. In addition, Europe is an important export destination for Russian aluminium, and the aluminium market appears to be at high risk of sanctions from Russia given the rising tensions in Ukraine.

Similar sanctions could create chaos in the interconnected world aluminium market, as they would not only block the flow of refined metal from Russia, but also of raw materials, such as bauxite or alumina, to smelters and refineries.

Alumina plants in Ireland or Jamaica, for example, supply bauxite, which are among Russia’s biggest aluminium producers and would be cut off from the market if sanctions were imposed.

It would be highly unwise to impose such sanctions as there is less supply in the aluminium market. Such a solution would not only lead to a significant increase in aluminium prices, but would further disrupt supply chains far beyond the aluminium market.

While this is largely a double-edged sword for the market, we believe some of the risk is already factored into metals prices. We avoid chasing the current rally.