Midwest Premium Buyers Should Hedge While Prices Hover at 3-Year Lows, and Demand Appears To Be Stabilizing

CME MWP slumps in early 2024. 

The MWP has been trending lower since early February 2023. In January 2023, shortages of high-purity aluminum in Europe led to surging premiums as US importers competed for the same cargoes. As those supply issues subsided, the rally lost steam and started moving lower. Currently, the prompt month contract hovers near 17.5 cents, the lowest level since early 2021.

Red Sea crisis shouldn't affect the MWP.

Earlier this month, a highly respected research firm wrote a note stating that the MWP could rise if shipping rates continue to increase due to the Red Sea crisis. AEGIS would counter-argue that because of a road corridor between the UAE and Israel that restarted late last year, any shipments from the UAE can now easily bypass the Red Sea. According to a study by Israel’s Trucknet and the UAE's PureTrans, the shipping companies that will use this corridor, shipping costs will drop by approximately 80% compared to shipping around Africa. In some cases, the insurance costs for shipping through the Red Sea have soared by 20-fold, meaning that it could cost over $1 million to move certain ships through the Red Sea. Similarly, shipping around Africa dramatically increases shipping times and freight and fuel costs. The map below, courtesy of Israel’s Trucknet, shows the intended routes between the UAE and Israel.

As for aluminum, this corridor is important because the UAE is the largest aluminum producer in the Middle East and a key supplier to the US. Now with this corridor, none of what the US imports “needs” to go through that canal. The same is true for over 95% of the EU imports.

We also want to point out that Emirates Global Aluminum (EGA), the largest aluminum producer in the Middle East, has also downplayed the Red Crisis. This is mainly because EGA has alternative routes and a diverse group of customers. EGA made these comments in a recent interview, as reported by Bloomberg. (The map below is courtesy of Trucknet.)

US manufacturing slumps alongside the MWP. 

One key reason the MWP has fallen recently is that demand, specifically in the manufacturing sector, has been on a long downtrend. The chart below shows a key gauge of manufacturing activity called the Manufacturing PMI. A reading below 50 suggests the industry is contracting, while a reading above 50 indicates expansion. Based on this, the US manufacturing sector has been contracting since late 2022.

However, the rate of contraction in the manufacturing sector has slowed in recent months. Also, several midstream aluminum clients have told us that demand has stabilized relative to the slump seen in 2023. This is not only for manufacturing products but also housing and real estate-related demand.

What should aluminum consumers do? 

So what does this mean for the MWP, and should consumers hedge at these levels? The MWP futures forward curve has recently shifted in a rarely seen contango market, meaning that futures are higher than nearby prices. Although some consumers might be apprehensive about hedging into a contango market, we want to point out that even with this slight contango, most futures prices are still near the 3-year lows. Also, most of the contango is currently in the front two to three contracts, as the futures forward becomes largely flat in the summer of 2024 and beyond, with prices hovering near $0.20/lb.  

Some end-users might wish to wait until the forward curve changes back into its “normal” flat to slightly backwardated shape. We would warn against this, though, as historically, the curve usually becomes backwardated during or after a significant rally. We also want to point out that the futures forward curve is not a predictor of price, and end-users should make decisions based on their operations and budget and, therefore, not speculate on price.

A final note on the CME MWP market.

In conclusion, end-users should hedge while the market remains near 3-year lows. Since the CME MWP does not have an options market, end-users can simply buy swaps. This market is thinly traded, so contact AEGIS for advice on how to hedge this opaque market.

AEGIS can build your hedging program.

AEGIS can help aluminum buyers develop specific strategies that fit their operations. We are also happy to introduce new clients to more counterparties, therefore ensuring that you are receiving the best possible price. Please contact us for details.