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The war in Ukraine has engulfed the 145-year-old London Metal Exchange (LME), which sits at the epicenter of the global trade in industrial metals.

What Russia terms its “special operation” has broken the LME nickel contract and forced the exchange to impose emergency measures across the rest of its core base metal contracts.

This is a tale of two crises.

The first is the threat to supply from Russia, a major producer of aluminum, copper and, of course, nickel.

Even absent explicit sanctions, Russian metal exports must now navigate tightening financial, logistical and trading restrictions as ever more companies drop their Russian ties.

Industrial metals were already in bull mode. War in Ukraine has poured oil on simmering markets, particularly nickel, where the price explosion blew apart the huge short positions held by China’s Tsingshan Group.

Which then triggered the second crisis.

Nickel rose by 61% to $48,078 per ton on Monday, March 7, generating massive calls on cash to meet margin calls and threatening what the LME termed “a systemic risk to the market” with potential “multiple defaults” among LME brokers.

Nickel was suspended the following Tuesday and remains so at the time of writing.

Every other LME-traded metal has been caught up in the storm, the ripple effect determined by each market’s exposure to both Russian supply and LME margin shocks.

MARGIN PAIN

Metals trading last week was all about “margin and pain,” LME broker Marex Spectron said in a note to clients.

The LME’s core contracts are not cash-settled futures but forwards with positions financed by credit lines secured against collateral. Nickel’s blow-out required huge increases in margin collateral not just from Tsingshan but from every other short position holder.

This set off a domino effect as positions in other markets were liquidated to raise urgently needed funds.

As nickel went supernova on Tuesday before the LME pulled the plug at 0815 London time, so did both zinc and lead.

Zinc shot up to a record high of $4,896 per ton and lead to a 10-year high of $2,700 per tonne in the early hours of trading.

By the end of the day both were pretty much back where they started, suggesting the spike was down to a sudden forced exit of short positions.

Aluminum moved in the opposite direction, three-month metal dropping from Monday’s high of $4,073.50 per ton to $3,498.00 at Tuesday’s close.

Tin was similarly hit on Wednesday, the long-running bull trend rudely interrupted as the soldering metal slumped from $49,500 to a low of $39,080 per ton.

Copper was least affected, quite possibly because its recent range-bound trading pattern has left it bereft of speculative positioning, either bullish or bearish.

The price behavior of the others suggests that profitable positions were liquidated to bail out nickel losses - short positions in the zinc and lead contracts, long positions in the aluminum and tin markets.

RUSSIAN SUPPLY LINES

The LME has imposed backwardation limits on its core contracts and looks set to introduce price bands as well.

All six are physically deliverable and to varying degrees vulnerable to a potential suspension of Russian exports amid escalating power prices in Europe.

It was fear about disruption to Russian nickel supply that first started the price moving up towards and ultimately through the big short.

Norilsk Nickel hasn’t been sanctioned but is a significant supplier of refined nickel to the European market, accounting for around an estimated 63% of consumption in 2020, according to analysts at Natixis.

The company is also a strategically significant global supplier of palladium, which is why the palladium price turned wild last week, hitting an all-time high of $3,441 per ounce.

Russian copper is less important for Western markets, accounting for just 4.4% of European consumption, according to Natixis. Which helps explain the relative calm in copper pricing over the past couple of weeks.

Aluminum has its own supply concerns in the form of UC Rusal’s four million tons of annual production.

The company and its owner Oleg Deripaska were briefly sanctioned in 2018. Deripaska has been sanctioned anew, although his reduced role in Rusal - a condition for the original measures being lifted - may provide some protection for the company.

Self-sanctioning, however, is already kicking in, with Rio Tinto, a partner with Rusal at the bauxite and alumina stage of the supply chain, promising to sever all ties.

It remains to be seen what this means for potentially sanctions-stranded assets such as the Aughinish alumina refinery in Ireland, owned by Rusal but supplied by Rio Tinto.

The LME aluminum price is currently trading around $3,380, which suggests a relatively sanguine view about an imminent global shortage.

U.S. and European physical premiums, however, are punching out fresh all-time highs on a regular basis, indicating acute supply concerns in both regions.

ENERGY CRUNCH

Any interruption to Russian metal exports couldn’t come at a worse time for many metals users, particularly those in Europe.

Aluminum and zinc production in the region was already being reduced in response to high power prices, which have surged even further on the back of the Ukraine crisis.

For now, metals are in the grip of a supply crunch as unexpected as was Russia’s “special operation” in Ukraine.

That may well turn into a demand crunch, if the continuing hostilities translate into recession.

That is for the future, however.

The more immediate concern for all metals traders is whether the LME can fix its broken nickel contract.

Until it does, metals price risk remains subordinate to systemic market risk.

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