AMU: To hedge or not to hedge

Hindsight is always 20/20. People say, “I should have hedged London Metal Exchange (LME) and Midwest premium in 2025.” Now, they are challenging themselves with the same question, but at significantly higher entry points.

We will examine the wisdom of hedging from the perspective of both the LME and Midwest premium, and whether you are approaching the market as a buyer or a seller.

Hedging the LME

At the time of writing, the LME continues to test a three-month price of $2,900 per metric ton ($/t) and repeatedly hits resistance. We believe these tests of new highs will continue, driven by structural changes in the physical market.

The LME has been caught in China’s gravitational force for the better part of 25 years. Over that period, the market has absorbed a relentless expansion of low-cost Chinese production, and the LME has priced accordingly.

It has effectively cleared prices for primary aluminum near China’s capital costs and expectations for future supply growth. However, China’s role in the primary market is changing.

China’s self-imposed 45-million-metric-ton primary aluminum production cap is now binding. We believe this cap is real, and the strongest confirmation is the growing wave of Chinese investment flowing into Indonesia.

Companies such as Weiqiao, Xinfa, and Nanshan are behind these investments—the same firms that built China’s domestic capacity. Their move into Indonesia suggests acceptance the domestic production cap is firm, and Indonesia has become the proxy for new production growth. However, Indonesian production will not be built at as low of capital cost.

Estimated costs in Indonesia may range from $2,000-$3,000, depending on labor, construction time, and the efficiency of the industrial clusters required to support a complex operation such as an aluminum smelter.

Those higher capital costs must be reflected in higher incentive prices on the LME. Prices must also reach levels sufficient to stimulate smelter investment beyond Indonesia.

That said, the LME is unlikely to justify prices that approach some of the highest capital costs being discussed for projects in North America or the Middle East. Instead, we expect the market to establish new threshold levels, higher than those seen during the 2000-2024 period, without fully pricing those extreme cost structures.

For this reason, we believe the LME has not yet tested its upper bounds and could push higher in 2026. Consumers considering LME hedging should factor this into their strategy.

Costless option collars—combining the purchase of a call option to cap upside risk with the sale of a put option to conceded downside participation—can be an effective structure for those not prepared to place outright long positions.

From producers’ perspective, 2026 appears likely to yield higher returns, and it may make sense to allow the market to run for a period. Producers with relatively low business costs (see CRU’s Asset Model experts for more detail) are well positioned to begin layering in sell-side hedges and locking in strong operating margins.

Producers higher on the cost curve, however, will need to remain opportunistic and look for further tests of new highs to secure the returns required on invested capital.

Hedging the Midwest premium

A private client recently asked how I felt about hedging the Midwest premium at current all-time record highs. My response was that it felt like trading “dynamite futures” —something that could blow up at any moment.

As a consumer of Midwest premiums, it is difficult to rationalize buying 2026 premiums at these levels.

The structure of the premium is almost entirely political and, until recently, had little to do with underlying fundamentals. While the premium is pricing in the full cost of Section 232 tariffs, I would be reluctant to be long at these levels.

We expect increased flows of Canadian and seaborn imports into the US. The market clearly needs additional supply, and it will likely take one to two months for that supply to arrive and meaningfully affect pricing. At that point, the premium should begin to ebb and flow more in line with the LME.

Keep in mind every $100/t move in the LME is worth roughly 2.25¢ per pound in the premium. At present, buyers are better served remaining in the spot market.

Alternatively, buyers should be feasting on cheap scrap and replacing as much primary metal as possible. If there is anything to hedge right now, it is the exceptionally attractive scrap-to-primary discounts.

From a trader’s perspective, if you have successfully ridden the Midwest premium higher, this is a moment to tip the cap to yourself. As the saying goes, “Bulls and bears make money; pigs get slaughtered.”

Taking profits at these levels makes sense, as supply will eventually flow back into the market, and no one knows what policy direction may emerge from the White House.

Non-US producers are now beginning to benefit from premiums that recover duty costs. It has been a difficult 2025, and many are likely to use the spot market to recapture some of the benefit from elevated premiums rather than locking in forward sales.

Why it matters

Hedging today requires separating the risks.

The LME is poised to test new highs in 2026, while the Midwest premium looks increasingly detached from fundamentals.

Buyers should explore option-based strategies where appropriate, while sellers—particularly low-cost producers—have the luxury of time and the ability to sell into strength.

Midwest is fraught with danger simply because it is so inflated by Section 232. Buyers are best served staying in the spot market and gritting their teeth, though scrap availability is at least easing some of the pain.