MI WEEK IN REVIEW: Aluminium squeezed (again)

MI WEEK IN REVIEW: The rest of the LME metals were last week plagued by concern about what the re-weighting of the giant DJ-AIG index fund would mean for prices but the aluminium market was more focused on what the looming third-Wednesday date would bring. Yes, once again, the light metal is seeing short-position holders squeezed with backwardations flaring out across the nearby market structure.

Game On (Again)

In fact, the re-weighting of the big DJ-AIG index and its various replicants was always expected to be broadly positive for the light metal since relative to others such as zinc and nickel it underperformed last year with price gains of “only” 23%.

But activity was last week as much focused on the nearby spreads as it was on 3-month metal with the December squeeze rolling straight over into January, not least, we suspect, because some of the short-position holders had also simply rolled forward a month.

There was heavy borrowing around all last week, with the benchmark cash-3s period tightening accordingly. It had closed the previous week valued at $40 backwardation and that steadily widened last week to $75 backwardation at Friday's close. It's worth pointing out that this happened at the time of month when the Goldman Sachs index rolls forward, which should in theory provide good lending liquidity over the front part of the market structure.

Today is the prompt date for the third Wednesday and that has brought a further round of mayhem. The latest indications we've heard are that cash-for-a-day has traded at $10 backwardation and that the next three days have traded at similar levels. Jan-Feb, which today becomes cash-Feb has traded out to $70 from its Friday valuation at $38 backwardation and the whole cash-3-months period has widened to $105 backwardation bid.

In truth, this has hardly been surprising since the whole market was aware of the big open interest on the January date, which comfortably exceeds available LME stocks.

At moments like this the LME's futures banding reports are a useful guide to what is going on. They are backdated by two working days, which means they are only indicative of what is actually happening this morning but the report for the close of business Thursday showed two holders of big long positions, one with positions equivalent to 10-20% of outstanding open interest and a much bigger one with over 40% of open interest equivalent. On the short side, there were 2 in the 5-10% band and another 2 in the 10-20% band. Open interest on the January date was 38,872 lots, or 971,800t, which gives a fair idea of the size of positions we're talking about here.

There have been no dominant positions at the warrant/cash/tom-next level for a couple of days, which seems to reinforce locals' view that the focus of the squeeze was never the cash date per se but the January date and the period just after it. That would also explain why the front days are all trading in heavy backwardation this morning.

But note that all the components of the cash-3s period after the January date were valued in consistent backwardation last week, which suggests this rolling squeeze has further potential even with today's passage of the January main date.

Bear Trap

The size of the positions on the January date suggests a continuation of the “big-boys-games” that were first evident in December. 

Others, however, may well have walked into the bear trap. LME 3-month metal has succumbed to the same sort of speculative selling that has washed across the whole metals complex since the start of the year.

It closed the first week of 2007 showing a 7.0% decline and extended its losses to a low of $2,550 on Monday before the selling was met in sufficient quantities by trade buyers and bargain-hunters to stop the rot.

That extension of the downtrend, however, seems to have suckered in some of the CTA systematic fund community. Our fund-watching sources estimate that they lif