Fastmarkets’ low-carbon aluminium differentials to bring transparency to emerging trend

Market participants in the aluminium industry are calling for more transparency in low-carbon aluminium pricing, following recent global initiatives to lower carbon emissions that have created greater demand for such products.

One point of discussion has been whether low-carbon aluminium can fetch an additional premium for its ‘green’ status or whether there is zero difference at this moment in time.

Fastmarkets aims to bring transparency into the market with its new low-carbon aluminium differentials for primary aluminium (P1020) and value-added products (VAP). The differentials will track whether there is a premium, discount or zero difference for low-carbon units in Europe.

Pricing this market as a differential will protect liquidity on Fastmarkets’ current premiums suite, with the benchmark P1020 Rotterdam duty-paid and duty-unpaid premiums used in contracts on exchanges.

Young and green

The concept that low-carbon aluminium is traded at a difference to more carbon-intensive brands has been under discussion for more than a decade.

The idea started to gain significant traction in the market in the spring of 2020, when global governments began to look at economic recovery efforts through environmentally sustainable infrastructure projects to lead their countries out of Covid-19 lockdowns.

Since then, the number of market participants throughout the supply chain, including producers, traders, financiers and end consumers, has grown.

For instance, the Aluminium Stewardship Initiative, which sets standards for low-carbon aluminium, saw its membership climb rapidly throughout 2020 and into 2021. It has grown from 13 members when it was founded in 2015 to more than 150, with a bulk of new members joining in 2020.

“There is a lot of demand for transparency with low-carbon pricing. Even consumers would like the transparency to know if offers they receive are in line with the rest of the market, it is important to showcase to the market what levels are being transacting,” a producer said.

Throughout 2020, many market participants noted an increase in consumers asking for paperwork and certification highlighting carbon emissions from the production process.

Several participants told Fastmarkets they had signed their first contract to sell low-carbon aluminium with a slight upcharge on top of P1020 premiums in recent months. Such contracts are mostly on a longer-term basis so far.

European focus – for now

The traction for such a pricing mechanism is especially apparent in Europe, where the European Union announced the Green Deal Covid-19 economic recovery package that provides incentives for using low-carbon materials in industrial sectors with the goal of making the trade bloc carbon emissions net zero by 2050.

The EU’s initiatives in 2020 helped jumpstart demand for transparency in the low-carbon aluminium market there. But low-carbon aluminium price transparency could be needed in other regions eventually as well.

“Europe has been at the forefront of the low-carbon transitions and is the best suited to first launch the differential. Developments of the same kind will be copied across the world and eventually a differential will be needed across the globe too,” a market participant said.

Outside of Europe, countries such as China and Japan have also declared net zero emissions goals for the next 30 years, but market participants say demand for low-carbon aluminium in these regions has not taken off yet.

“The conversation is much more advanced in Europe right now,” an aluminium trader in Europe said. “In Asia, it is starting. [In the United States] with [president Joe] Biden, the environment is much more at the center of policy.”

In the US, although the Biden administration calls for net-zero emissions by 2050, there has been little legislation signed to incentivize market participants there to procure low-carbon aluminium for now.

The administration also calls for US electricity production to be carbon pollution free by 2035.

These regional policy developments elsewhere could also lead to the need for the transparency that low-carbon aluminium differentials provide in those locations at a later date and Fastmarkets would look to launch differentials in other regions when demand calls for it.

Developing specifications

During consultation with the market, the majority of feedback was supportive of launching a differential with a carbon limit of 4 tonnes of CO2 equivalent (4tCO2e) per tonne of aluminium produced under Scope 1 and 2 emissions. Scope 1 and 2 includes direct carbon emissions from the smelter itself and indirect emissions from the power source of the smelter.

“In my opinion with approximately 68% of ex-China aluminium under 8 tonnes of carbon and 90% of European aluminium already under 8 tonnes of carbon per tonne of aluminium… a differential of green aluminium produced with 4 tonnes of carbon or lower would give a more accurate representation of what level of green aluminium is in demand,” a market source said.

Some participants were also supportive of a 6-8tCO2e limit, while others said they believe below 4 tonnes, or a wider Scope 1-3 to include all processes including alumina refining, would be more representative.

Fastmarkets believes the specifications and scope for low-carbon aluminium will be constantly developing while this market matures and will continue to regularly review the specifications.

The specifications may need widening if 4tCO2e is too restrictive or narrowing if we see different trends developing.

Market feedback also included the possibility of two differentials divided into sub-labels 0-4.0 tonnes of CO2e and 4.1-8.0 tonnes of CO2e. This is also something Fastmarkets will continue to consider.

Any changes made to the specifications will be made following a market-wide consultation. These could also include changing the pricing frequency: market feedback has suggested the P1020 and VAP markets may move separately, and these may one day be priced on individual frequencies.

Quarterly and annual focus

Prompt spot liquidity remains sparse for a market that only started gaining momentum less than a year ago, but the market overall is liquid enough for participants to demand a price discovery mechanism in Europe with a robust methodology that is in line with market conditions.

Those who had signed contracts said the supply was mostly on an annual basis, with others saying some were negotiated on a quarterly basis.

“We’ve signed a low-carbon aluminium deal on an annual basis. It’s a bit premature to go [more] frequent [than monthly]. The only companies who are ready to try something more are those who do long-term deals to show to shareholders their lower carbon emissions,” an aluminium trader in Europe said.

Overall feedback from the market informed Fastmarkets’ decision to launch the low-carbon aluminium differential on a monthly basis.

“A monthly assessment is a good start, it depends on how intense the market becomes about this metal,” a second trader said. “If taxed carbons and sanctions come up, maybe it’s a good idea to go weekly, but right now monthly basis will give you enough data to show where the market is trading.”

Should volatility emerge, encouraging further spot trading, Fastmarkets’ methodology review process allows it to quickly increase the frequency.

For now, market participants said they expect liquidity to increase during periods of annual and quarterly negotiations.

The VAP basket

The differential for VAPs will be priced in a basket that includes aluminium billet, primary foundry alloy, slab and wire rod.

Feedback from market participants suggested that while the market develops the differentials across all value-added products would be similar, and can easily be represented in one range for now.

This allows for the differential to not only be used on top of Fastmarkets’ aluminium billet and primary foundry alloy premiums but also aluminium products that are not priced on a spot basis.

Market participants told Fastmarkets they would also like to use the differential in relation to products such as wire rod which are discussed annually or as a conversion and therefore not currently priced by Fastmarkets.

Fastmarkets will internally track the differential for each individual product and should there be strong divergence – Fastmarkets would look to launch individual aluminium product differentials.

Some market feedback suggested one differential for both P1020 and VAPs could work in a joint basket to protect liquidity. But Fastmarkets has already begun to see some disconnect between the discussions for low-carbon primary aluminium and VAPs.

It is also expected that these two markets will follow their own individual trends and should therefore be assessed separately.

Fastmarkets’ inaugural low-carbon aluminium differentials will launch on Friday, March 5, capturing various trends and providing pricing transparency in this evolving market.

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