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Market mixed on LME regional contract plan

Apr 08, 2014 | 05:01 PM | Michael Cowden

Tags  London Metal Exchange, LME, regional premiums, North America, CME Group, Midwest premium, aluminum prices, aluminum nonferrous

CHICAGO — The London Metal Exchange’s plan to launch regional aluminum premium hedging contracts has been met with muted enthusiasm and harsh criticism in North America.

Traders, producers and consumers questioned why more information hadn’t been immediately released by the exchange despite it saying that a full contract specification had been defined, and why an LME premium contract might gain traction in a market that has seen a competing offering from Chicago-based CME Group Inc. struggle (, Oct. 4, 2012).

The LME’s contracts, including one for North America (, April 7), should launch in late 2014 or in the first quarter of 2015, one producer source said. His company is following the development, but questions whether consumers—who could benefit from premium hedging—will respond, he added.

"There will be players like us. But there will also have to be some consumers who are willing to try these products," the producer source said. "If there is no liquidity, there will be no interest in using it."

That’s been a problem with the CME’s Midwest premium contract, which is marginally useful as an indicator because its spreads indicate where consumers and producers might be positioned, the producer said. "But the liquidity is just not there."

That liquidity problem could challenge any premium contract, as they are geared more toward physical consumers, who are exposed to premium volatility, than to the speculators and financial players who provide liquidity to the market, one trader said.

"It’s not like fund managers are going to say, ‘I really think premiums are going higher, and I’m going to start trading it,’ " he said. "So it’s always going to be a less than overwhelming response to these kinds of products."

That doesn’t mean there hasn’t been any interest in CME’s contract or that an LME product might not see some activity, the trader said. "But you are never going to see volume trading, bids and offers that are tight, and hundreds of lots trading. It’s going to be more static."

Regional LME premium contracts make sense, a second trader said, but it’s too early to judge whether the LME might beat CME.

The LME might have an advantage due to potentially less stringent regulatory requirements, he said.

That’s because the Dodd-Frank Wall Street Reform and Consumer Protection Act has led to onerous reporting requirements in the United States, the second trader said. "You have to report every day, every trade, every little thing. ... It’s just easier with the LME in terms of pure regulation and compliance issues."

The LME’s long-established position in aluminum futures also gives the exchange a potential leg up, the second trader said. "The market is already there (for the LME’s existing aluminum contract), and so the liquidity (for a premium contract) could be too."

But other sources stressed that reporting requirements are growing tighter in almost all jurisdictions, and alone likely won’t determine the success of any one contract.

Still others said there wasn’t enough information to make an informed decision.

"I’ve heard about it. But I’m not sure how it’s going to work ... and I just don’t have the time to look at it," one consumer said, echoing the sentiment of other sources.

A third trader blasted the exchange for providing only a "generic" description of its regional premium contracts, and questioned how they might be materially different from existing over-the-counter products. "There is just not enough information out there yet," he said.

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