1 November 2019
The London Metal Exchange (LME) will proceed with its proposed package of measures aimed at optimising its warehousing network for the benefit of the global metals industry.
Taking consultation feedback into account, the LME believes that the measures, which combine three areas of focus – logistical optimisation; transparency and compliance; and rebalanced rules and a pathway to simplification – offer the optimum combination of enhancements to encourage more stocks in to LME warehouses, provide greater transparency as to global levels of inventory, and bring market-wide positive effects.
The LME recognises the broad spectrum of views on certain of the items, and is today also setting out the measures it will take to monitor the phased implementation of these items, and deliver an evidence-based assessment of their impact on the market.
Matthew Chamberlain, LME CEO, commented: “We are pleased to have received a largely supportive set of responses to our proposals, and a general appreciation for the balanced approach we have taken, using a combination of both logistical and financial drivers to bring greater vibrancy to the LME market. That said, there are areas where we received more significant and varied responses, and have therefore elaborated our reasoning and proposed follow-up monitoring in order to appropriately address concerns.”
Queue-Based Rent Capping
The proposed phased parameter changes to Queue-Based Rent Capping (QBRC) – from 50 days to 80 days over a nine-month period – which are designed to allow warehouse companies to compete more effectively for metal, was one area that attracted substantial feedback. Some were concerned that this may increase both operational and structural queues, as well as allow warehouse incentives to “outbid” physical market premiums.
In respect of queues, the LME rules now guard against the structural queue model, and operational queues are not expected to become more frequent since warehouse companies would prefer to retain metal than build up an operational queue which will cause destocking. While the proposed QBRC model is also designed not to cause incentives to rise above physical market premiums, the LME’s incentives reporting regime will monitor this risk further.
In any case, the new QBRC parameters have been designed to phase in gradually in order to allow the LME to monitor the market and stop implementation should any disruption occur. The Exchange has today provided further detail on the market indicators which it will observe during and following the implementation period.
Other respondents also stated a preference to opt for a logistical rather than a rules-based method of attracting metal onto warrant, through significant reductions to rents and FOT rates. However, the LME notes the risk involved in following this route given it may still not be able to compete with private storage rates, and some metal owners will always choose non-visible storage regardless of other factors. Nevertheless, the LME does intend to freeze rent and FOT rates until 2027-28 to ensure no further widening occurs between LME and non-LME storage costs.
Off-warrant stock reporting
Another key feedback area was in respect of off-warrant stock reporting, designed to increase transparency and enabling the market to trade on the basis of a more holistic view of metal availability, even if core warrant stock is limited. The proposal sets out measures to compel the reporting of metal stored under an agreement requiring the use of LME-registered sheds, or under an agreement where the owner has a right to warrant metal on the LME in the future.
The LME believes that it has a duty to address concerns around stock transparency and has the right to compel market participants to report stock levels where the corresponding commercial agreement invokes the LME, regardless of the private relationship between the parties to the agreement. To facilitate the data collection, the LME will provide a template to be completed by warehouse companies, with data sets defined fully in the LME Warehouse Agreement to ensure consistency, and existing powers of enquiry and audit used as appropriate. The identity of metal owners will not need to be disclosed to the LME.
The LME acknowledges that some stock may not be reportable simply by virtue of its storage agreement. The LME will therefore work with the market to incentivise the voluntary reporting of off-warrant stocks. Initial engagement will focus on the benefits to the industry of voluntary reporting; however, the LME will also consider future measures as appropriate, which may include placing a greater warranting fee on metal not voluntarily reported at the earliest opportunity.
The LME will monitor the quality and representativeness of reported data, and will not publish the aggregated off-warrant stocks data to the market unless and until it is satisfied that transparency and orderliness will be enhanced.
Evergreen rent deals
Finally, the proposed restriction of “evergreen rent deals” (arrangements whereby metal owners retain an interest in warehouse rent on warrants which they have previously sold) also received significant feedback. The LME intends to only allow warehouse companies to enter into such an agreement with the party placing metal onto LME warrant (and not with metal owners who have purchased metal that is already warranted). The LME believes it has struck the right balance in restricting the overuse of this type of deal – thereby protecting the system from incidences where parties purchase warrants purely to extract a post-sale financial incentive – while still enabling warehouse owners to negotiate such deals with warrant holders when metal is first loaded in, which allows warehouse owners to incentivise metal owners bringing fresh stock into the network.
While some respondents would like to see the LME go further in the first instance and require deals to cease upon warrant cancellation or upon request from the subsequent metal owner, the LME is committed to taking measured action, and in reserving the right to introduce such rules via notice, it can monitor the effectiveness of the first set of restrictions and if no behavioural changes occur it can then look to implement further limitations.
All the new rules and obligations will come into effect on 1 February 2020, except for the LME’s new Complaints Procedure, which will take effect from 15 November 2019.
Notes to editors
• All materials related to the consultation and discussion paper on LME warehouse reforms are available here.