“Aluminium Wars” is a phrase familiar to those of us who
were around and dealing in Russia
during the first part of the 1990s; if we posit legal action as the closest
thing to war in our civilised society, perhaps it’s one we’re going to have to
start using again.
Lawsuits are beginning
Certainly the lawsuits are beginning to fly, first of all
targeting Goldman Sachs and the LME and now, I understand, aimed at Glencore, J
P Morgan and other (as yet) unnamed defendants who may be joined to the action.
The allegation seems to be that the actions of one or more of the parties named
may have resulted in aluminium consumers paying more for their metal than might
otherwise have been the case. The issue of delayed metal – caused by warehouse
queues – is also considered, even though it is difficult to discern too many
large consumers caught in those queues. It may, of course, be very illuminating
to see details of the ownership and destination of the cancelled warrants which
are responsible for causing the queues.
Who supplied the metal?
Now, what I find interesting about this is that the
complainants do not appear to have been buying metal from the defendants. The
contractual relationship would seem to be between the buyers on the one hand
and various aluminium producers or traders on the other. Presumably, the
pricing conditions incorporated some form of LME base price plus
delivery/location premium. It seems slightly odd, therefore, that the lawsuit
concerning, effectively, an alleged requirement to overpay for goods does not
include the party who was setting the price and selling those goods. Is it the
case that some of those unnamed potential additional defendants will be the
traders and/or producers who actually contracted with the complainants to
supply metal? This issue becomes more complex when you consider that what one
might call the ‘guilty’ metal – in other words, that sitting in the warehouse
for which a high incentive has allegedly been paid – must also have come from
somewhere. That somewhere, logic tells us, is likely to have been, either
directly or via a trader, from a very similar range of producers who have also
sold to the complainants. So actually, this legal war is between the consumer
half of the aluminium industry on one side, and the producers and financiers on
the other. The headline names of course are the bogeyman banks and the City of London institution; but I
can’t see how it can avoid being widened as I suggest, because it is very
difficult to believe that the blame lies entirely with the warehouses.
Presumably, producers also had some say in negotiating the premium at which
they were selling to them.
Will the Courts understand pricing?
Then there is the issue of the actual price. We all know
that the underlying price is hedgeable – if desired – and the premium element
is not. That makes the premium disproportionately significant, compared with
the percentage of the final price that it represents. However, that’s a thorny
point to persuade the courts to understand. Expert witnesses can explain and
explain, but in my experience (and I genuinely have some in this, although
pretty limited, I admit) judges and courts tend to look at the total price. In
this case, therefore, they are going to be presented with a picture of a
declining overall price (because the LME price has dropped further than the
premium has risen) at precisely the time when the allegation is that customers
have been obliged to overpay. I understand the logic, but it may be a tough one
That’s one side of the issue – that it’s an argument between
producers and financiers on one hand and consumers on the other, and that
anyway absolute prices declined during the period in question.
A different perspective
However, there is another side to it, equally worthy of consideration.
I have said many, many times before that the build-up of stocks in warehouses
is not a good thing. Industrial metals – and we can extend this beyond
aluminium to cover zinc, where the warehousing game seems to be being played,
and copper, where ETFs have threatened to withdraw metal from circulation –
should not be gambling chips in a storage game; they are produced to be
consumed by productive industry. It is nonsensical to extract ores from the
earth, smelt and refine them into primary metal and then lock that metal away in
a warehouse for years.
Combination of circumstances
The responsibility for this state of affairs, though, lies
with a particular combination of circumstances. The decline in consumption in
2008, together with a reluctance to cut production in response, coincided with
a governmental policy of very low interest rates and the creation of huge
quantities of new money. Those factors resulted in a situation ripe for
exploitation. Having said that, though, it does not necessarily mean
laws or rules have been broken. We can say, with the benefit of hindsight, that
the LME should probably have acted more quickly to amend the rules, but in
fairness to them it was difficult to see how big the brewing storm would
become. Again, it’s convenient to point the finger at the banks and warehouses,
but the rules permitted what they have been doing. Personally, I don’t think it
is a good idea to have the bank/broker/trader monoliths owning warehouses, but
at the moment the rules allow it. As I have been saying for over two years,
allowing cheap money to distort the non-ferrous market is in the long run in
nobody’s interest. Changing the environment in which it has happened is what
needs doing; whether lawsuits based on existing rules will succeed will be
interesting to see.
Were laws broken?
So, it’s a confused picture. The market has been distorted,
and certainly we can see who appear to have been the beneficiaries. Whether
that distortion happened as a result of breaking of laws and collusion between
parties is far less clear; maybe a pointer will be to see how big the class of
One final random thought; if, in 2008,instead of taking the
warehouses’ shilling, producers had elected – independently – to cut production
substantially, and that had resulted in prices remaining at significantly
higher levels, would they have risked a similar lawsuit? In other words, how
far can one party’s attempts to sustain its own business be regarded as a
legitimate target for another party?