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. Last Updated: 07/27/2016

LME Investigates Aluminum Contracts

LONDON -- The London Metal Exchange, the world's largest nonferrous market, on Monday launched an investigation into its aluminum contract, having already ordered traders to report all market positions.

The probe will look at possible collusion among market participants, warehouse inventory levels, individual trading patterns and the price curve, the LME said in a notice.

"This is very much a shot across the bows," a senior trader said.

The exchange's actions, which include reducing the large position reporting level to just one lot from 100 lots, seem designed to defuse long-running technical tightness, traders said.

This has seen high cash premiums, or backwardations, which appear at odds with warehouse stocks at eight-year highs.

"It [the action] is long overdue, and it not surprising ... although it is a case of the stable door being closed after the horse has bolted," another LME trader said.

"I think it is the LME pre-empting possible complaints from the industry, bearing in mind that demand is not great and stocks are reasonably high," an analyst said.

Aluminum is currently gripped by long-running tightness, with the cash/three months backwardation hitting its highest since February 2001 on Friday.

The backwardation reached $70 per ton at one point before easing back. On Monday it stood around $55.

Traders said a major long holder based in Europe was believed to account for a considerable proportion of the LME's warehouse inventory, which now stands at 1.3 million metric tons, having climbed over the last six weeks from 1.11 million tons, attracted by the tightness.

Despite this, much of the metal is unavailable as significant tonnages are tied up in long-term financing deals, traders said.

"Most of the people in the market know this -- the metal is on consignment financing deals -- so they trade accordingly," the first trader said.

Tightness has been rolled forward consistently this year and as yet shows no sign of easing.

The latest LME figures show one holder of 40 percent to 50 percent of warrants and cash positions.

Futures banding data for the August prompt date shows one long in the 20 percent to 29 percent band, one August short between 5 percent and 9 percent and one between 30 percent and 39 percent.

Traders said that ultimately a backwardation would break naturally by reaching levels where the deals that tied up metal would be financially less attractive and it would become more profitable to make metal freely available.

Also, there have been backwardations throughout 2003.

"Most customers know what the situation is. I can only think that it is either the regulators getting tough or someone has complained," the first trader said.

"The complaint is possibly to do with the backwardation flaring out ... and the cash price up around $1,550," the analyst added.

Since the Sumitomo copper crisis of 1996, the LME has instituted new measures to prevent high price premiums and discourage attempts at manipulation. When tight dates become traded as cash, certain mandated limits kick in, restricting the premiums.

Under its market aberrations policy, the LME says dominant market participants should be prepared to lend to the market at a maximum premium of half a percent on the cash price for one day. After five days this premium drops to a quarter of a percent.

If a participant controls more than 90 percent of the market, they must lend at the cash price only.

The coming probe will be carried out by the LME's regulation and compliance division.