June 17, 2011
About a month ago we reported on an inquiry launched into JPM’s “anti-competitive” and “monopolistic” practices on the LME which have resulted in artificially high prices for a series of commodities which had been hoarded by the Too Big To Fail bank. Today, the WSJ continues this investigation into a practice that is not insular to JPM but also includes Goldman Sachs and “other owners of large metals warehouses” which can simplistically be characterized as a De Beers-like attempt to artificially keep prices high for commodities such as aluminum, courtesy of warehousing massive excess supply, artificially low market distribution of the final product, while collecting exorbitant rents in the process. Specifically, “Goldman, through its Metro International Trade Services unit, owns the biggest warehouse complex in the LME system, a series of 19 buildings in Detroit that house about a quarter of the aluminum stored in LME facilities. Coca-Cola and other consumers say that Metro in particular is allowing the minimum amount of aluminum allowed by the LME—1,500 metric tons a day—to leave its facilities, and that Metro could remove much more, erasing supply bottlenecks and lowering premiums for physical delivery in the process. Coca-Cola, which has complained to the LME, says it can take months to get the metal the company needs, even though warehouses are allowing aluminum to come in much more quickly. Warehouses, meantime, collect rent and other fees.” It is not only Goldman’s Metro operations, but includes JP Morgan’s Henry Bath division, and naturally commodities behemoth Glencore, all of which are taking advantage of the LME’s guidelines and rules which make the imposition of a pseudo-monopoly an easy task. The primary driver of this anti-competitive behavior is the fact that GS, JPM and Glencore now control virtually the entire inventory bottlenecking pathways: “In recent years, major investment banks like Goldman and J.P. Morgan and commodities houses like Glencore have been snapping up warehouses around the world, turning the industry from a disperse grouping of independent operators into another arm of Wall Street. The LME has licensed about 600 warehouses around the world. The transformation has raised questions about whether the investment banks, which also have big commodity-trading arms, are able to use their position as owners of warehouses to manipulate prices to their advantage.“And since the outcome of this anti-competitive delayed tolling collusion ends up having quite an inflationary impact on end prices, the respective administrations are more than happy to turn a blind eye to this market dominant behavior which buffers the impact of deflation on input costs. We may have seen the end of the OPEC cartel. Alas, it has been replaced with a far more vicious one – this one having Goldman Sachs and JP Morgan as its two key members.
WSJ explains further:
The warehousing issue alarmed one trader enough to seek government intervention. Anthony Lipmann, managing director of metals trader Lipmann Walton & Co. Ltd., gave evidence to the U.K. House of Commons Select Committee in May 2011, raising concern about large banks and trading houses owning facilities that store other people’s metal.
The U.K.’s Office of Fair Trading dismissed concerns that ownership of warehouses gives certain market players an unfair advantage, saying on Tuesday that there were no “obvious competition issues that would merit further investigation at this stage.”
Goldman’s Detroit warehouse holds about 1.15 million tons out of a total 4.62 million tons in LME-approved warehouses.
Since Goldman bought Metro early last year, the wait time for aluminum delivery in Detroit has increased to about seven months.
Metro charges its customers 42 cents a day for storing one metric ton of aluminum in Detroit, which is about the industry average. At 900,000 tons in the warehouses, Goldman is earning $378,000 a day on rental costs, or about $79 million in seven months.
“Warehouses are making a lot more money,” said Jorge Vazquez, managing director of aluminum at Harbor Commodity Research. Goldman is “really the winner clearly, because if you want to take metal away from the location, you have to wait up to 10 months to get your metal out, and in the meantime you’re paying rent.”
While the obvious purpose of “warehousing” is nothing short of artificially bottlenecking primary supply, these same warehouses have no problem with acquiring all the product created by primary producers in real time, and not releasing it into general circulation: once again, a tactic used by De Beers for decades to keep the price of diamonds artificially high. But unlike De Beers, Goldman also gets to charge rental fees once demand delivery instructions are sent out. The rent ends up being substantial due to the firm’s unwillingness to release handily available product to the market in due course:
Metro, meantime, is taking in metal. Metro also offers cash incentives to producers like Rio Tinto Alcan to store their metal in Metro’s sheds for contracted periods, sometimes as much as $150 a ton, according to traders.
Once the metal is in the warehouse, the producers sell ownership to this metal on the open market. The new owner can’t collect his metal for seven months because of the bottleneck. For that period, the new owner is stuck paying rent to Metro.
“The system is set up like a funnel, so you can dump large amounts of metal in the front end and only get a little out at the back end,” said David Wilson, director of metals research at Société Générale SA. “It enables a situation where the rules of the warehousing system are taken advantage of.”
Another beneficiary of this monopoly behavior of course are the actual metal producers, which benefit from this illegal and conflicted “middleman” intervention:
Aside from warehouses, producers of the metal are benefiting, because they are able to charge more for their metal. Klaus Kleinfeld, chief executive of Alcoa Inc., said in an interview that supply-and-demand factors are leading prices higher.
Yet it is not even Goldman or JPM’s fault: after all they are merely following the guidelines set up by the LME:
“You can’t blame the warehouses,” Mr. Kleinfeld said.
U.S. aluminum sheet maker Novelis sent a letter to the LME in May “expressing concerns” about the warehousing situation, a company spokesman said.
The complaints led the LME to commission an independent study into the issue last July. That study recommended a sliding scale be adopted, rather than the fixed minimum of 1,500 tons a day. That would result in larger warehouse complexes being required to release more metal.
It effectively doubles the minimum amount required to be relinquished by Metro each day. The ruling would go into effect in April. The LME board on Thursday, however, failed to reach a consensus on the recommendations.
While warehousing used to be a last resort market at inception, it has now become, courtesy of the economies of scale of the middlemen, the “go-to” market, which makes any normal market clearing impossible.
Because should true market clearing be allowed, the prices for everything from aluminum to copper would plunge immediately:
The situation is made more aggravating for metal consumers because supply has far outweighed demand for most of the last decade, and there is more than 4.5 million metric tons of surplus metal stored in LME’s warehouse system.
Alas as pointed out previously, with the exchanges ultimately merely conforming to the bidding of their host ponzi scheme governments, which will happily allow even further consolidation of warehousing facilities by the trio in order to artificially boost inflation ever higher, the final product is a vicious loop in which everyone benefits…Everyone but the end consumer of course, who is faced with an anti-competitive system controlled by a handful of Fed-funded players.
And with China unlikely to open up sales of its own warehouses (especially since Chinese vendors are now well-known to use physical copper in storage to write letters of credit against for speculative purposes) to the market, the system will persevere until such time as global inflationary powers are finally destroyed and there is a scramble to dump inventories. Like what happened in the fall of 2008. At that point just as the status quo drives prices higher, so the unwind will result in a massive undershoot of prices from fair values. Which in turn will allow those insatiable importers of commoditized product such as China to feel like your typical mortgage-free living American at a K-mart blue light special. But of course we don’t have to worry about that, because the central planners will never allow the system to implode like it did in 2008. After all that would defeat the whole purpose of central planning…
In the meantime, good luck to anyone who wishes to break the cartel’s monopoly in the aluminum, copper or any other commodity.
This article was posted: Friday, June 17, 2011 at 5:12 am