Surging cancelled copper warrants and storage wars

Back in this post I took a look at rising LME and Chinese inventories, which has weighed on copper prices given the uncertain macro signals emanating from China more recently.

As I posted here, things like the PMI may not be as bad as the headline levels suggested, given it was dragged lower by destocking of raw materials, which has never happened in the March survey.  But more interesting since then has been the huge rise in cancelled warrants from LME warehouses, which have risen 2.5 times since the 22nd of March.

A cancelled warrant is essentially metal that has been assigned to move out of a warehouse, with the big surge in cancelled warrants usually associated with rising consumer demand.  That said, the material could just be shifted into another warehouse and the data doesn't tell us about metal coming into warehouses (although LME stock accumulation has slowed quite alot in the past week or so).

The percentage of cancelled warrants of total inventories is not too different from this time last year.  But of course, the absolute levels of inventories are much, much higher.

Further examination of the inventory data shows some interesting regional trends in where material is being drawn.

The rise in cancelled warrants in Asia is encouraging as it is consistent amongst warehouses and is mostly likely to be going into China where consumption demand is improving.  SHFE stocks saw a small draw at the start of April.

But outside of Asia, most of the increase is concentrated between two warehouses: Antwerp and New Orleans.  To be sure, these two warehouses, along with Johor in Malaysia, have accounted for over 100% of rise in LME inventories since September, with other warehouses seeing outflows.

This rise in warehouse stocks has also been accompanied by rising premiums for delivery, with premiums in Europe reportedly rising towards $100t from ~$60t earlier in the year despite the big increase in stock levels.

So what is going on?  One explanation is that owners of warehouses (Trafigura, Glencore and Goldman Sachs) have been accumulating metal to gain rental income and gain from rising premiums.  Some metal may also be going into financing deals given the contango in the copper market and the likelihood of better seasonal demand into mid-year. This is certainly the experience of other metals like Aluminium and Zinc in the past few years.

Physical premiums would only be going up if consumption demand was rising by more that metal available to market.  The difficulty here is knowing whats actually available to consumers given warehouses are not acting as a destination of last resort for supply.

Some of the gains are likely to be due to supply chain difficulties with supply given a strike at Chilean ports.  But it does appear that consumer demand must be getting better if cancelled warrants are rising so quickly.  Some of the gains in places like New Orleans maybe pre-emptive given it will take forever for the metal to be delivered.  But in Asian LME warehouses the metal should be able to move relatively quickly and a sign that China is beginning to draw metal.

It's not totally clear that China will be absorbing enough to be 100% bullish for prices at this stage, but for me the balance of risks seems to be for copper prices to rise rather than fall, barring any macro shocks elsewhere.  When including that risk into the investment profile, perhaps at this stage there are better bets elsewhere.