Aluminum losing battle against oversupply

 

 

Rio Chief Executive Tom Albanese warned margins may continue to be squeezed in the medium term. "The current environment in the aluminum industry is tough ... I can't predict when the price will recover." In China, which accounts for 40 percent of global output, local authorities are wary of closing smelters that lose moneybut provide jobs, while the central government continues to drive an overall capacity expansion to maintainself-sufficiency.  Election politics in Russia also have halted at least one planned shutdown.  Throughout the sector, furthermore, smelters that consider closures are often hampered by long-term contracts to buy power and raw materials.  Companies are losing money on 30 to 40 percent of global output, analysts estimate. Margins have been hammered by fiveyears of surpluses and rising input costs, particularly for power. Benchmark aluminum prices on the London Metal Exchange have crumbled by a third since hitting a peak in July2008 of $3,380 per ton. Producers including Rio, Alcoa and Norsk Hydro have cut global capacity by around 1.3 million tons as prices slumped in the second half of 2011 to reach below $2,000 per ton, but more cuts are needed to bring the marketinto balance.

 

 

Analysts in a Reuters poll last month expected further market surpluses of 600,000 tons this year and 415,000 tonsin 2013.

 

 

Earlier in the week, the head of rival BHP Billtion was even more downbeat, saying the world's largest mining group had halted investment in aluminum and had to review the future of its business. "There is no sense in letting something hang ... on the balance sheet if it doesn't want to be there," CEO MariusKloppers said. "It's something that we've got to review. It's clearly not something that's an issue now, but I do think I have to note the aluminum reductions (in profitability) are structural. It's not a cyclical thing." CHINESE PRESSURE The elephant in the room is China with its many ageing and high-cost operations.  "In China, there is some political pressure at a local level to continue some high-cost plants running, especially if they are in a small city where they are the largest employer," said Paul Adkins, managing director of Beijing-based aluminum consultancy AZ China. Chinese aluminum prices are not low enough to cause widespread shutdowns and authorities are keen to remain self-sufficient in the metal, he added. Albanese said Rio had been taken by surprise by an increase in smelting capacity in western China, where stranded coal is being used to generate cheaper electricity for smelters. China's annual production capacity of primary aluminum may jump 60 percent in the next four years, an official at astate-backed industry association said last November.

 

 

"In our opinion, the Chinese government has been unsuccessful in controlling aluminum capacity growth,"Macquarie said in a note earlier this month. Macquarie estimated that nearly 80 percent of Chinese producers were not profitable, based on total cost of productionincluding administration, finance and depreciation. The cost of shutting down capacity is high, however, so most smelters will strive to maintain existing output, it added. RUSSIAN POLITICS In Russia, home to top global aluminum producer UC RUSAL, political considerations have also come into play. Prime Minister Vladimir Putin, seeking to return to the presidency next month, intervened in December to prevent anarchaic 67-year-old smelter from closing.

 

 

"There is sensitivity, especially in an election year that we're in now," said analyst Erik Danemar at Deutsche Bank inMoscow. "There are limits to how quickly RUSAL can move and also how much they can move. But over time the government is alsoreasonable over what needs to be done."RUSAL, which accounts for about 10 percent of global production, said last month it might cut output by 6 percentover the next 18 months.

 

 

Its European operations could take the brunt of any cuts since they are less profitable than the Siberian smelters, which have access to cheap hydroelectric power.  "The European operations are probably breaking even, maybe making a little money if they get a good premium," Danemaradded.