At a time when the London Metal Exchange is the closest it has ever been to entering China, the rival Shanghai Futures Exchange is looking for a bigger share of the $20.6 trillion global market in metals futures.
While the LME already handled $14.5 trillion of trade last year, backed by a network of more than 700 warehouses in 36 locations that ensure physical delivery, Chinese regulations from 2008 mean it has no depot in the biggest metal-consuming nation. That may change because the bourse was bought by Hong Kong Exchanges & Clearing Ltd. in December and Chief Executive Officer Charles Li said he wants to be in the world’s second- largest economy.
The LME board picked HKEx, with no existing commodities business, over bids from IntercontinentalExchange Inc., CME Group Inc. and NYSE Euronext, in part because it judged Li, the former chairman of JPMorgan Chase & Co. in China, the most likely to win over Chinese regulators. The Gansu, China-raised CEO is facing competition from the Shanghai bourse, which said in May it plans to give overseas institutions access to warehouses in China and add its first depots overseas.
“The danger for the LME is that if they don’t get into China, Shanghai will attract an increasingly large amount of business once China opens up,” said Christopher Gilbert, a professor at Trento University in Italy who has studied commodities for four decades. “Under Hong Kong Exchanges, it’s certainly increased the chances of getting into China. They really need to have warehouses on the mainland.”
Li is expanding a strategy that began before last year’s acquisition. The LME opened a Singapore office in 2010, its first in the region, and introduced Asian benchmark prices for copper, aluminum and zinc in 2011. Transactions in Asian hours accounted for 16 percent of electronic trading in three-month futures in 2012, according to the LME.
A Bank of China Ltd. unit was approved as the LME’s first Chinese company member last year and the bourse said June 17 it listed Taiwan as a storage point. Warehouses in China are important because they would make it easier for Chinese traders using the LME to get metal delivered locally. The LME “ideally” would eventually be able to license warehouses in mainland China, Li said in his blog on June 17.
HKEx’s Li, who became CEO in 2010, wrote on his blog last month that he is seeking “partnerships” with Chinese exchanges as a way of getting into the mainland, without giving details. The bourse will also sign a memorandum of understanding with Bank of China today in Hong Kong on clearing of yuan-denominated commodity products.
Guo Shuqing, then chairman of the China Securities Regulatory Commission, visited HKEx in January and met with Li, about a month after the $2.2 billion LME acquisition was completed. It is the CSRC’s rules that bar foreign exchanges from registering warehouses for commodity deliveries on the mainland. The two discussed “issues of mutual interest,” the Hong Kong bourse said in a statement, without giving details.
“I have to assume that the Chinese regulators gave their tacit approval to the purchase,” said Peter Barrowcliff, the London-based global head of metals at Newedge Group, a member of the LME. “That portrays the willingness to internationalize their market. While the rules haven’t changed so far, that perhaps could set a scene for the rules to be relaxed.”
A measure of Li’s success so far can be seen in the number of people going to the LME Week Asia conferences and parties that start in Hong Kong today. About 900 delegates are expected at the bourse’s $250-a-head dinner tomorrow, compared with about 200 in Singapore last year.
Listing sheds in China is part of Li’s strategy to create an “East Wing” for the LME by easing restrictions for traders in China and amending contracts and clearing to attract Asian clients. Li said in an interview in February that he wants to “use the LME as a catalyst to achieve a breakthrough in the barrier between China and the rest of the world.”
The 52-year-old former journalist plans to introduce yuan- denominated commodities contracts, competing in a market that the China Futures Exchange Association valued at 95.3 trillion yuan ($15.5 trillion) in 2012. All of it went through three Chinese exchanges that restrict access to foreigners.
That included the Shanghai Futures Exchange, which handled almost $7.1 trillion of commodity contracts last year, according to data compiled by the World Federation of Exchanges. The bourse lists gold, silver, steel, rubber and fuel oil in addition to industrial metals.
“The competition between Shanghai and the LME will certainly increase as the SHFE looks to expand and become much bigger, more global, more international,” said Wan Ling, the Beijing-based manager for China nonferrous metals analysis at CRU, a research company.
The Shanghai exchange plans to open some of its existing products to foreign investors, starting with industrial metals and rubber and then gold and silver, Chairman Yang Maijun told a conference May 28, without giving a timeframe. The bourse will also give overseas institutions access to delivery to warehouses inside China, subject to the approval of regulators, he said. Yang oversaw the futures industry unit of the CSRC until 2006.
The Shanghai bourse has 15 copper warehouses and 22 for aluminum and more will be added in southern and western China, the chairman said. Yang didn’t say where overseas depots would be located.
“Singapore would be a good location,” said Wu Jianguo, an analyst at Maike Futures Brokerage Co. in Shanghai. “Setting up overseas depots is another approach to raising China’s pricing power but many things in China, such as establishing warehouses, require approvals from different levels of government and consume a lot of time.”
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Copper futures volume gained 17 percent on the Shanghai exchange last year as transactions through the 136-year-old LME expanded 4 percent. The London bourse says it handled futures contracts representing 3.6 billion metric tons of industrial metals last year, or more than 80 percent of the global market.
The LME’s turnover of $14.5 trillion compares with $4 trillion for industrial metals at the Shanghai bourse. Volumes through Comex in New York and the Multi Commodity Exchange of India take the total to at least $20.6 trillion, according to data compiled by Bloomberg based on the 10 biggest commodities bourses ranked by the World Federation of Exchanges.
HKEx’s purchase of the LME was the most expensive exchange acquisition over $1 billion since at least 2000, according to data compiled by Bloomberg. It’s “going to be a great bargain if you look at it a few years from now,” Li told a conference in Hong Kong in March. Shares of HKEx fell 9.6 percent this year, compared with a 11 percent retreat in the Hang Seng Index.
Li has the advantage of having been brought up in mainland China and also worked for Western companies. He grew up in a rural territory bordering Mongolia and got a degree in English literature. He started his career at the state-owned China Daily and subsequently worked with Manhattan law firm Brown & Wood, representing China on its first international bond sale in 1994, valued at $1 billion.
“It will be a better opportunity being driven by a Chinese business leader out of Hong Kong than by say Westerners from the other side of the world,” said Jeremy Goldwyn, a director at London-based Sucden Financial Ltd., which trades on the LME. “But that also wouldn’t mean a rapid green light either.”