A new London Metal Exchange aluminum alloy contract, with specifications geared to the North American automotive industry, may excel next year with support from secondary alloy makers, consumers and metal traders.
The contract rolls out on March 4, 2002, and conforms to a modification of the existing A380.1 North American alloy grade favored by auto manufacturers. The industry largely avoided the LME's first aluminum alloy contract, which allows for delivery of some incompatible grades used overseas.
"The existing LME alloy contract was designed for European use mostly, and as a result there has been very little activity. It is really not a very usable hedge device for North American producers or customers," BB&T Capital Markets aluminum analyst Lloyd O'Carroll told Reuters.
This alloy grade would physically be used by the industry and actual use is the key to a contract's success," he said. "There is a very large market for this in automotive (components) and that really is the first step."
A380.1-grade material is used to make engine blocks, cylinder heads, manifolds, transmission and water-pump casings, and other nonstructural auto components.
Industry sources said hedgers looking to fix forward prices usually have used the LME primary aluminum contract, which has liquidity but also comes with basis risk.
Richard Klimisch, auto industry expert with the Aluminum Association, said industry voices had been calling for a specialized alloy contract to suit their needs.
Typically, the auto industry prefers material with a high secondary or recycled aluminum content, which is produced more cheaply as it reuses scrap metal, he said.
U.S. alloy producers and merchants who support the marketplace also wanted a contract that would attract volume, said one Midwestern secondary alloy smelter.
"Our customers certainly have a need and desire for forward pricing, for locking in the price for aluminum castings to go into their cars," said Bruce Warshauer, president of Wabash Alloys in Wabash, Indiana, the world's top secondary alloy producer.
But a common problem facing producers catering to the industry has been an inability to lock in a price on material far forward. They often did not want to sell alloy when customers wanted to buy.
"So the possibility exists that it could be useful for our customers and for us as a legitimate buyer of last resort as a vehicle for hedging either forward sales or raw material inventories," said Warshauer. "And ultimately, perhaps we'll be able to purchase scrap on contract at differentials to the LME price."
Currently deliverable ingots will be supplemented by two new shapes of product, called sow, in 2002, the LME said. Delivery will only be possible into LME-registered warehouses in Baltimore, Chicago, Detroit and St Louis, although it is considering adding Nashville to its good delivery points.
Both LME alloy contracts will trade out to 27 months forward starting next year, and the warranting period will extend to 16 weeks from the alloy melt date.
If the industry adopts the contract and it reflects market prices for actual U.S. alloy products, operators said it could be a vehicle for speculative traders, as well as consumers, producers and merchants.
"I might actually be getting into trading alloy, although I'm not into it yet," said one U.S. aluminum trader. "We might be developing more of that market share for ourselves."
A380.1-type alloy, as registered with the Aluminum Association, may also contain small amounts of silicon, copper, zinc, iron, manganese, nickel, tin and magnesium. Reuters