Shanghai aluminium - riding for a fall

Since late March, we have been aware of some financial plays in the aluminium space, but even despite the warning we got, we did not forecast the jump in the Shanghai metal price. ShFE has gone from RMB9865 at the end of November to RMB12,820 today. That’s a rise of 30% in 5 months. On the day someone warned us that financial plays were about to hit the aluminium space (April 1), the metal price was RMB11,775. So even in the space of a little over 3 weeks, the price has jumped over RMB1000.

The trade press is full of stories about how the same hot money is flowing into other commodities. Everything from steel rebar to cotton to garlic is attracting speculators. We here at AZ China don’t know much about cotton futures, but we are definitely worried about the future for the aluminium price.

Kathy at AZ China has made the chart you see in the feature image, and repeated here.

She overlaid last year’s Shanghai Composite price with the daily closing price for aluminium for the last 50 trading days, with today’s date as the anchor point for the two lines. Excel tells us the correlation between the two lines is 0.93, which is pretty close. That’s correlation, but is causation similar? Loose money this year, which helped China achieve its GDP in Q1, is now pouring into investment vehicles, in almost exactly the same way it did last year.

There are differences. Last year, every spare fen seemed to go into one investment - shares. This year the money is flowing into a variety of products, though all in the commodities space - if garlic can be considered a commodity.

But it is the similarities and the outcomes that are most concerning. From April 27 2015 to the bust on June 12, Shanghai shares rose another 14%. If aluminium futures in Shanghai generate the same growth as shares did last year, that would lead the price to over RMB14,500.

That in turn would encourage every tonne of idle aluminium capacity to come back into the market. If the “lemming path” continues past mid June, we could see a lot of metal re-enter just as the price bubble bursts. One hope that wise heads in aluminium company board rooms decide to wait and test the price, but if this trajectory keeps going, there’s only one place the excess metal is going - overseas.

We may be wrong of course. There are different drivers at work, and the Shanghai aluminium price may be supported by real demand growth. Let’s hope!

But there is one other difference that also worries me. In 2015 when the share market price bubble burst, the Chinese government stepped in and attempted to save Mum & Dad investors. There has been plenty in the press about how effective or considered some of the measures taken last year really were, but to me it seems highly unlikely that a bubble burst in commodities would elicit the same response from Beijing.

In the two months following the stock market bubble burst, the index fell 32% - despite or because of the government’s intervention. Where would aluminium prices go in the event of a similar bubble burst?

We will keep tracking this chart and see if Shanghai aluminium continues to follow stocks and shares.