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One of the more interesting things to come out of this year’s LME Week was the fact that CME Group are actively anticipating taking a bite out of the LME’s cake.
Now I’ve suggested in these columns a couple of times that I felt that opportunity was there; I got the idea right, but the metal hopelessly wrong.
My thoughts were that, given the number of European copper consumers who feel unloved by the new merged entity with its avowedly eastern focus, the chance was there to push the existing Nymex copper contract as a viable alternative pricing mechanism.
Well, CME are proposing something a lot bolder than that with the idea of launching a new aluminium contract. It wouldn’t be the first time, of course, that a US exchange has tried; the last shot fizzled out a few years ago despite heavyweight support (at least verbally) from certain parts of Detroit. So are the portents any better this time around?
It’s all about timing… We all know – mostly from salutary experience – that timing is probably the most critical aspect of a trade, and in that sense, CME may be right on the money.
Aluminium has been a millstone round the neck of the new LME ownership, virtually since the deal was sealed. Arguments rage about the effect of warehouse queues on availability, prices and premiums; on the one hand are the conspiracy theorists who see the whole game as a rigging of the market and have launched lawsuits to prove it. On the other, there are those who maintain it’s simply the effect of particular global economic circumstances and will disappear as those conditions change.
Whichever side of the argument we take, I guess we would probably all agree that it’s not a pretty picture being painted in the world’s press of what is, after all, the LME’s biggest contract.
So the timing couldn’t be better; when your opponent has a problem, that’s the time to strike.
But it isn’t only timing; you need a product as well, and so far we don’t have too much detail.
What we do know is that the new contract will – like the LME – be for 25 tonnes and there will be the possibility of physical settlement. Unlike the LME, though, it will trade a monthly rather than a daily prompt.
Now I don’t think these days that’s much of an issue, although perhaps it used to be; the halfway house of the primacy of third Wednesdays has already pushed the market part way down that road. The specification has not yet been revealed, but it would be surprising if it were not very similar to the LME’s 99.7% (A7E et al) in a similar range of shapes; that seems to be where the pool of physical liquidity is, if we look at current LME stocks.
Almost buried in Harriet Hunnable’s comments was a small reference to the origins of the problems: she said that the CME felt it would be able to control the ownership of its warehouses.
There’s a growing recognition that one thing the LME has probably got wrong is precisely not controlling the ownership of warehouses. This goes back a long way and is not a reflection on the current or previous management, but the truth is that to try and undo the present mess it is necessary to establish some much clearer parameters of who can own warehouses, and what else they can own simultaneously. The fact that CME have clearly recognised that will garner them some support.
It won’t be easy… So that’s what we know so far – some bits and not others, but at least a basic framework. The real question is, will it succeed?
First off I think one has to accept that it will be extremely difficult. It means knocking the incumbent off its perch, and that’s a tough thing to do.
The LME holds the ace of the global reference price, and to weaken its dominance means usurping that reference price with an alternative. It will require an enormous amount of work to overcome the inevitable inertia. Persuading people to switch pricing mechanism is very, very difficult, because however much they may be frustrated by it, there is a huge comfort blanket of not stepping out of line with the peers against whom their performance is ranked.
But CME know this, and presumably would not have discussed a new product if they didn’t think they could gain traction for it. It may be that old timing point again; the LME system has been heavily rubbished in the press, with US consumers being pretty vocal.
So could politics help the case? If the regulators gave some succour to the concept of US market participants using a US futures exchange, that could tip the balance somewhat and I suspect that it’s something that has already had some high-level consideration.
Lord Copper editorial@metalbulletin.com