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08 March 2017

New Ring, Same Issues



I visited the LME in its new home in Finsbury Square for the first time last week. A splendid new building (cracks and  problems of last year all forgotten - and maybe forgiven - by now) and a new Ring to replace the old one on Leadenhall Street. It certainly looks sparkling clean and new, but the impression it gave to me was that it is much smaller than what it replaces. The LME executive assure me that the Ring itself is the same size, but the the way the boxes are now much closer to it creates the illusion that it is smaller. Well, I’m sure they know the facts, but the optical illusion is real. It’s also notable that the greater proximity of the boxes to the Ring has almost made the old hand signals redundant. I saw a few still using them (older boys for old times’ sake?), but the way the phone clerks can now stand just behind the Ring - no step any more - seems to mean that they can hear directly what is going on. Up in the gallery, no longer behind glass, the acoustic is such that it is far easier to follow what is happening, which must be good for visitors.

All Change?

But that’s just an introductory comment. For all the new Ring, new offices and all the rest, the future of the LME still seems to be wreathed in fog. It should have been so clear: HKEx bought it with the intention of integrating it with its existing business in China, while at the same time maintaining the LME’s predominant position in the world of the non-ferrous trade. Once the deal was done, that was it, and the new world could begin.

It hasn't been like that, though. The Members - oh-so-keen to take the impressive price (as who wouldn’t have been?) - have been in a state of revolt about fee hikes, only partially assuaged by the recent concessions, Martin Abbott continues to talk about alternative platforms, and CME volumes rise impressively, while LME ones first drift and then start to come off a tad disturbingly. So what should have been resolved for a generation (and where else have we heard that phrase used and abused recently?) doesn’t appear to be. 

Competition

So what’s happening? Abbott’s first shot - a study into a full-service alternative exchange - seems to have run into problems; while several broker members may well have been interested in exploring the option, it seems that when it came to putting their hands in their pockets to fund the preliminary investigatory work - rumoured to have been $50000 a time - they became less enthused. Actually, I can understand that; times are not great for the broker fraternity, and somehow gibbing at fees and then funding an investigation just seems unlikely. Anyway, that scheme seems for the moment to be on ice, replaced by the spectre of a fintech company called Autilla - who already have designs on the bullion market - creating a platform for trading base metal futures. At the same time, ICE are rumoured again to be looking at the possibility of adding base metals to their suite of products. Since the suggestion is that Abbott is involved with both these projects on an advisory basis, one could imagine they may come together. Although, having said that, one would assume that ICE have sufficient in-house knowledge of futures markets not to need the help of a new fintech outfit; but I could be wrong there.

And then there’s CME. They don’t have to build a new platform - they already have one. For them, the task of prising business away from the LME is more a marketing operation than anything else, a need to convince market users that they would be better served by the New York platform than the LME. Well, relative volume numbers would suggest that they are having some success with that.

In the background all the while, keeping out of the headlines, are the various proprietary trading platforms offered by banks to their customers - J P Morgan, for example. The effect of these is to siphon volume away from the LME, in the same way that equity dark pools have done to stock exchanges. 

Fragmentation

So far from the homogeneous picture of the past, what faces putative traders of non-ferrous metals these days is a fragmented marketplace, where volume is split and yet more potential splits lie in the future. (I have ignored Shanghai here because it is not completely open to all, but its influence is growing; it’s just that commercial considerations may not be all there is there.) Pretty much all of this fragmentation is built on technological change, and one thing we know is that technology makes things easier and cheaper. So it’s not a huge leap to suggest that this possibly confusing situation will continue. After all, the cheaper and easier it gets to offer a trading platform, the more people will do it. In the old days, the barriers to entry were high, and the LME successfully handled the shift from the era of clipper ships to that of the wireless, the transatlantic cable and the burgeoning computer age. If Rudolf Wolff had come back in the 1990s, my guess is he would have recognised what he saw. Now, not so much.

Not going to get easier

I think all this means that life is going to get tougher not easier for the LME. On their side, they have the crown jewel - the reference price, but that’s only valid as long as the bulk of the market respect it. As I suggested a couple of weeks ago, though, it is by no means a given that that will remain the case.  The Exchange has a battle on its hands, the outcome of which is far from clear. If it all goes wrong, and it has to retreat into the low-cost comfort of being purely electronic, then that smart new Ring we started off at may become no more than an empty, pointless space. As ever, I add the rider that that is not said as my wish, but has to be considered as a serious possibility.   


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