This blog post originally appeared on TabbFORUM.
The London Metals Exchange (LME) achieved record transactions in April, which may suggest the Hong Kong Exchange and Clearing (HKEx) was smart to acquire it in December. Still, the situation is complex. Although the HKEx has significantly boosted turnover in the wake of the acquisition, it anticipates contributions from the acquisition will be limited in the next two years as costs offset gains in trading fees. The acquisition came amidst fierce competition among Asian exchanges and represented Asia’s first completed international exchange acquisition.
Other exchanges have already shown interest in a shift of metals trading into the Asia-Pacific region. For example, in 2011, the Singapore Exchange (SGX) launched LME mini-contracts (20% of the standard contract size) on aluminum, copper and zinc. These proved successful on launch, yet the volumes plummeted from June 2011. During February 2013, trading volumes were zero on copper and aluminum contracts, and there was little movement on zinc. The future of the LME mini-contracts traded on the SGX now seems uncertain.
The HKEx has stolen a march on its rivals through acquiring the LME – which conducts more than 80% of the global non-ferrous metals on-exchange business. Indeed, the LME trading volumes often exceed world metal production by a factor of 40.
Although volumes are impressive and there is immense demand for metals in Asia, the HKEx’s strategic reasons for buying the LME were not based on metals alone.
As the exchange investigated the acquisition around late 2011/early 2012, the HKEx published a document revealing the less obvious “pot of gold.” While recent years had seen equities trading volumes going down and even trending lower, derivatives trading volumes broke records. The HKEx devised a strategy centering on expansion into commodities – which could help safeguard against peaks and troughs in other traditional asset classes.
Its LME acquisition seems to mark a key milestone in realizing this strategy, with the HKEx seeking to position itself as the international exchange of choice for China, and the area’s exchange of choice for international participants.
The acquisition will give Chinese traders increased access to the LME, which HKEx chairman Chow Chung Kong anticipates will boost trading volumes and share. The impact of the China market could be substantial, given that China currently consumes 42% and produces 32% of the world’s base metals.
The acquisition is also expected to lead to an upturn in China’s domestic market, especially through the Shanghai Metal Exchange. Overall, the new opportunities for Chinese brokers to trade new markets should spur growth of the metals business in Asia.
This growth should lower barriers for Asian and Chinese investors to access the LME. According to HKEx, the benefits will include: facilitating easier cross-border access, developing Asia time zone trading and clearing, offering RMB clearing services, and extending the LME’s warehouse network into the Mainland.
There is also a plan to build a London-based clearing house to achieve self-clearing for base metals. This will support Asian time zones, Asian products clearing (including RMB), and OTC clearing and trade repository services for commodity derivatives. Plus, HKEx intends to introduce a LME warehouse network in China.
In addition to representing a major step in the shift of commodities towards the Asia-Pacific region, the acquisition of the LME should help enable the HKEx to diversify its assets and maintain its growth, and perhaps help power Hong Kong towards becoming Asia’s top financial market hub.
Certainly the boost from recording Asia’s first international exchange acquisition and its optimal location at the doorway of China is giving the HKEx a major new advantage. However the story doesn’t end here. With the continued growth in demand for commodities in the Asia-Pacific region, we can expect the regional commodities exchanges to become increasingly competitive both in terms of volume and of market participants. Perhaps other exchanges in the region will have the Midas touch as well.