THE FUTURE OF COBALT PRICING: The concerns about LME-based contracts
Market participants have various concerns about using the LME as a pricing reference for cobalt.
Market participants have various concerns about using the LME as a pricing reference for cobalt.The cobalt market is divided, and for once it’s not over price direction.
The debate over whether to base cobalt contract prices on the LME or the Metal Bulletin price has been reignited.
For many years, Metal Bulletin has played a key role in providing a reference price for low-grade, 99.3% min cobalt and high-grade, 99.8% min cobalt metal.
MB publishes a log of the deals, bids, offers and assessments that are reported to it, as well as detailed specifications for its cobalt prices.
Prices have been published twice a week and have been used by sellers and buyers as a basis for the pricing of long-term contracts between producers, traders and consumers.
In 2010, the LME introduced a 99.3% min cobalt metal contract.
The growth of the LME contract, combined with concerns about assessed prices largely due to the reduced size of the spot market, have led some producers to consider pricing basis the LME.
(Click here to read what the advocates of LME-based pricing have to say.)
But market participants do have concerns about using the LME as a pricing reference.
When the LME contract was launched, many critics argued that the cobalt metal business was too small to justify an effective terminal exchange contract and that such small markets are best left to industry participants to monitor and determine viable pricing.
While trading volumes and stocks have since grown, cobalt buyers are still largely resistant to exchange-basis pricing.
The concern for many is that liquidity is still low, meaning prices are volatile and spreads can be wide.
Although they are growing, sources also point to low LME stock levels, which some fear could lead to a small number of players having a worryingly large impact on the whole cobalt complex.
On January 2, for instance, LME positioning data showed that just one party held a warrant and cash position equivalent to 50-80% of all live warrants.
A similar size position in the copper market in recent months has forced copper premiums higher, and in December pulled the copper forward curve into backwardation until December 2017.
While dominant warrant and cash positions must be sold back to the market in line with rates set out in the LME’s lending guidance, there are concerns that, because of the comparatively small trading volumes on the LME cobalt contract, market participants could also build large futures positions that could push the forward curve into a steep backwardation beyond the nearby dates.
On January 2, for example, one long position holder and one short position holder each held up to 40% of cobalt open market futures positions in monthly prompt dates up to three months forward.
The heavy influence of a limited number of market participants is something which some argue can affect assessed prices too.
However, supporters of assessed prices argue that the “human” assessment involved, particularly in an illiquid market such as cobalt, allows for more than just the final published trade, or indeed a bid/offer spread, to be considered.
LME prices have, nonetheless, moved more or less in line with Metal Bulletin prices since the contract’s launch. Some believe that LME prices track published prices. Some say vice versa.
But if, as some claim, the Metal Bulletin price does drive LME prices, what would happen, some ask, if the Metal Bulletin price were taken out of the equation?
Given the lack of liquidity, would the exchange-traded market accurately reflect supply and demand in the absence of the traditional industry benchmark?
A further obstacle, and one that some see as easily surpassable, is that almost an entire supply chain is reliant on the Metal Bulletin price.
Buying basis one price and selling basis another presents a price risk.
The concern of even the most reluctant market sources often stems from whether their own customers would be willing to move away from a tried and tested pricing mechanism to an exchange which, arguably like the traditional spot market, still lacks liquidity.
Another key problem, sources say, is the vast range of metals that are listed on the LME.
While producers are calling for more products to be listed on the exchange in order to increase liquidity, some consumers express concerns about this.
From the US aerospace buyer seeking the purest cut cathode, to the Chinese chemical maker looking for easily dissolvable briquettes, every consumer has his own brand preferences.
But, unlike when purchasing directly from a seller, the structure of the LME primary market does not allow buyers to specify cobalt brand, impurity limits or location of the material.
Although the over-the-counter warrant does allow such requirements to be met, this issue does cause concern to metal consumers accustomed to spot purchasing of physical metal, who brush aside the suggestion that though they may price off the LME, their traditional suppliers will continue to provide them with material specific to their production.
It is for this reason that cobalt consumers hoping for physical delivery argue that they have limited flexibility when purchasing.
In a divided market, Metal Bulletin invites all participants to have their say on cobalt pricing mechanisms.
Click on the links to find out more about Metal Bulletin’s new premium system, and to have your say on the proposed changes to the current Metal Bulletin cobalt metal pricing system.