Sole survivors: LME pit rules

Today’s decision to continue pit trading at the London Metal Exchange not only preserves the vanishing tradition of face-to-face bidding, it helps the exchange remain credible in the wake of scandals in the setting of other international benchmark prices -- currencies and the interest rate known as Libor.

When Hong Kong Exchanges & Clearing Ltd. bought the LME for $2.2 billion in 2012, it pledged to stick with open outcry trading until at least January 2015. For now and into the indefinite future, traders in suits, ties and dark shoes, seated on red leather sofas arranged in a six-meter (20-foot) diameter circle called the ring, will continue to determine prices on six main industrial metals that firm around the world use to settle their books every work day, according to today’s announcement.

The LME is investing £1 million ($1.7 million) this year in technology to help integrate the floor and electronic pricing. The ring will remain open beyond 2015 and the bourse will work with users to keep pace with market changes and generate more volume. The decision comes after a six-month review with more than 25 stakeholders including 11 ring trading members from JPMorgan Chase & Co. to Societe Generale SA.

“The ring will remain open as long as necessary and the market will decide when and if it will change,” Garry Jones, chief executive officer of the LME, said in a telephone interview today. “We continue to invest in everything about it.”
 

Meets Principles
 

The LME concluded through an internal audit this year that the ring meets principles for financial benchmarks set by the International Organization of Securities Commissions, the bourse said. It has introduced more than 20 new rules since 2010 to ensure the efficiency of the price-discovery process.

“The high concentration of liquidity in the ring makes it difficult to manipulate the ring-generated settlement,” said Christopher Gilbert, a professor at the University of Trento in Italy who has followed the LME for four decades.

To keep settlements difficult to manipulate, the LME records ring sessions with microphones and video cameras to capture traders barking at one another to buy and sell aluminum, copper and zinc, among other metals. The recordings capture the back and forth of traders who strive to get the better of one another during working hours and then raise a pint together at the bar Dion next door before commuting home.
 

‘Thick-Skinned’
 

“To be a good trader you have to be thick-skinned, able to make quick decisions under pressure,” said Andrew Patterson, head of EMEA metals trading at Paris-based Newedge Group SA, another ring trading member. “And if you want to be a ring trader, you have to be all those qualities as well as forthright, direct and loud. It’s a very tough environment. Once the bell goes, however, everyone is relaxed and will socialize.”

Metal traders have mostly avoided the scandals that have shadowed their trading colleagues in currencies and Libor. More than 30 foreign-exchange traders have been fired, suspended or put on leave as regulators and prosecutors on three continents investigate the setting of benchmark rates.

At least nine financial firms, including Deutsche Bank AG and Barclays Plc, have been fined a total of more than $6 billion for manipulating the London interbank offered rate, or Libor, which helps determine the interest paid on $300 trillion of assets around the world.
 

Experiments
 

“In this current environment of transparency the value of having the open outcry mechanism is not something they would ignore and it’s not something they would turn their back on very lightly,” said Michael Overlander, CEO of ring member Sucden Financial Ltd. The ring is a good place to experiment with the ways it can bring more value to the exchange, he said.

In an age of stocks selling in milliseconds, the LME is Europe’s only open-outcry trading venue, according to the exchange. The 137-year-old bourse, where $14.6 trillion worth of contracts changed hands last year, maintains the practice even as London bourses from the International Petroleum Exchange, taken over by IntercontinentalExchange Inc., and the London International Financial Futures and Options Exchange, acquired first by Euronext NV and then ICE, closed their trading pits in the past two decades.

“Other exchanges have moved away from open outcry with the idea of efficiency in mind,” said Caitlin Zaloom, professor of social and cultural analysis at New York University and author of “Out of the Pits: Traders and Technology From Chicago to London.” “The idea is that computer-based trading can be done more quickly with smaller spreads and fewer middle men -- the idea of course being that that will cost users of the market less money.”

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