Understanding LME stocks and Cancelled warrants

A warehouse stock is the barometer to determine the price of particular commodity, there is an inverse relationship between stocks and prices as movement in stocks determine the price direction, a sharp decline in stocks indicates the demand is improving with less supply, however this relationship works better for long term perspective.

Taking example of base metals, on every working day London Metal Exchange warehouse releases stocks data of every base metal at 1.30pm/2.30pm IST which represents the total amount of stocks laid at LME warehouse. If stocks of copper are up by 2500 tonnes it means, that amount of stocks added to the existing stock of 380,525 tonnes. So there could be momentum selling but it is not necessary that surplus of stocks pressurize prices on intraday basis but it works better for long term perspective.

Cancelled warrants information is also important as it represents the change in stockpiles of metal which may no longer be available at warehouses and is booked for removal or onward shipment. This information is a valuable indicator of consumption trends which in turn can provide a valuable indication of possible future price action.

A sudden rise in LME cancelled warrants-the number of warrants on materials cancelled for delivery but not necessarily taken out of the exchange warehouses-indicates more stocks are expected to be taken out of warehouses. For e.g. if the cancelled warrants ratio for copper is up by 1 percent, then it means the outflow has reduced.

Opening stock

The opening stock is the closing stock from the previous day’s report.

Delivered in

The delivered in column shows the quantity of metal, for which LME warrants have been issued during the reporting period. Delivered in consists of metal that has arrived at the warehouse sometime previously, but that has not previously been on warrant.

Delivered out

The delivered out column is the amount of metal that has physically been removed from the warehouse company environment/location during the reporting period. A movement of metal corresponding to 50% of any warrant is considered a full delivery for reporting purposes.

Closing stock

The closing stock is simply the opening stock, plus the delivered in, minus the delivered out. In turn, today’s closing stock becomes the following days opening stock.

Open tonnage & cancelled tonnage

These two columns represent a sub division of the closing stock. The open tonnage represents warrants in free circulation, i.e tradeable, not cancelled.

The cancelled tonnage represents tonnage waiting for the owner’s instructions to the warehouse company for removal from the warehouse, or possibly re-issue of warrants. These warrants are no longer freely available for trading.

The metal referred to in open and cancelled tonnage remains within the warehouse environment. When a warrant is cancelled the open tonnage is reduced and the cancelled tonnage is increased. There is however no overall effect on the closing stock.

Where metal, the subject of a cancelled warrant, is returned to the market (see delivery in above) by creation of a new warrant, the only affect is on the make up of the closing stock. The impact of such an event is to reduce cancelled tonnage column and increase the open tonnage. There is no effect on the closing stock.

Combining the above two information we could relate that rise in warehouse inventory and fall in cancelled warrants ratio suggests negative trend for prices, while fall in inventory and rise in cancelled warrants ratio is supplementing for price rise. The other possible combinations left untouched could not be identified as any trend.

The above chart shows LME inventory of copper on monthly basis vis-à-vis prices. When inventories were at record near 549,000 tonnes in Feb 2010, prices were under pressure, but later on when inventory levels were getting down, prices started to increase. In the last year copper stocks on LME noted nearly 30% decline from 541000 tonnes to 376000 with prices gained by nearly 40% from $6700 to $9500 in the last year.