Ferrous futures markets maturing: CME Group

Ferrous market participants are increasingly trading CME Group’s ferrous futures contracts on an electronic basis, signifying that the markets are maturing and building liquidity, the exchange’s metals team recently told American Metal Market.

The trading volumes of CME Group’s ferrous contracts have more than doubled this year due in particular to activity on the US Midwest busheling scrap contract and the US Midwest hot-rolled coil (HRC) steel futures contract, global head of metals Young-Jin Chang told American Metal Market at the group’s Precious Metals Dinner this month in New York.

Daily volumes averaged 78 contracts for busheling futures in the year-to-date through August, and 497 contracts for HRC futures in the same period, a CME spokesperson confirmed via e-mail.

“We’re seeing more of that market brought on screen,” Chang said.

Indeed, electronic trades – as opposed to trades made via CME ClearPort – accounted for approximately 35% of HRC futures contract liquidity in the first eight months of this year, up from 6% at the same point last year, manager of metals products Sean Kessler told American Metal Market via email on September 18. A growing portion of trades on the busheling scrap futures contract also is migrating toward the screen, he said.

“On-screen liquidity is a very important aspect of maturing the ferrous market, particularly as it pertains to price discovery or obtaining the ‘fairest’ price and meeting customers’ liquidity,” Kessler said. “This is typically a good sign that the market is maturing, and it usually helps overall liquidity to grow.”

Other signs of growth include trades being made far ahead into the futures curve and competitive bid-ask spreads, he noted.

To further support maturing ferrous markets, the CME recently launched an inter-commodity spread between the HRC and busheling futures contracts, according to Kessler.

“This product will make it easier for a trader to trade the price differential between both products or perhaps transfer positions from one product to the other if for some reason they need to,” he said.

CME recently added a feature for electronic trading that allows users to trade quarterly strips – such as trading the average of January, February and March, for example – in HRC futures, according to Kessler.

“We are working to make [quarterly strips] available electronically for the busheling contract hopefully in the next couple of months,” he said.

Kessler noted that the ability to trade quarterly is an important add-on because the ferrous market tends to trade in quarterly increments anyway.

“This is a major reason why we see such a large portion of trades being negotiated privately and cleared through ClearPort versus being done on the screen,” he said.

Both of these new features – the spread mechanism between HRC and busheling futures, and the quarterly strips ability – are critical tools for building momentum in ferrous futures, according to Kessler. “Any growth we see in hot-rolled coil is likely to translate to busheling, as there are customers who use both products,” he said.

Volatility continues to fuel need for futures
Volatile trade policies, namely the Section 232 tariffs on imported steel, have continued to support the need for the busheling and HRC futures contracts, according to Chang.

“The tariffs have driven a lot of uncertainties for our commercial clients, and these contracts have really helped them mitigate their risk,” she said. “We’re also starting to see some interest picking up from the investor community as well because of the uncertainties that we’ve seen in the marketplace.”

Building awareness and educating are the biggest hurdles for ferrous futures, Chang said.

“Unlike the precious and base metals markets, the ferrous market in general is not as familiar with risk management tools and ideas,” she said.

In terms of options contracts, ferrous activity remains subdued, but hopefully that will change in the future, according to CME director of metals products Albert Ng.

“In order for our options contracts to grow in those segments, it will be important for underlying futures to continue to grow the way it has been,” Ng said. “Options will be a great tool once it’s been more developed by market participants in the ferrous industry. It’s really an insurance policy for a lot of these commercial participants, as steel prices have been very volatile in past years.”

Indeed, HRC prices in the United States retreated to a six-month low of $41.54 per hundredweight ($830.80 per ton) in mid-September, down 9.4% from a nearly 10-year peak of $45.84 per cwt in early July.

Still, the robust levels of trading activity on the CME’s precious metals and base futures and options contracts took decades to develop, according to Chang.

“Liquidity builds liquidity in the business that we’re in,” she said. “It takes time. We have a longer vision when it comes to product development.”

Trading Tools. This recent snapshot of CME Group’s front-end trading platform, CME Direct, shows healthy demand for the exchange’s hot-rolled coil and busheling futures contracts, according to CME manager of metals products Sean Kessler. It supports traders who want to see these indicative prices in real time and allows them to execute directly on screen. A new feature showing the inter-commodity spread between the two contracts (shown at the bottom of the snapshot) enables traders to price the differential between the two contracts and transfer positions from one product to another.