The LME is primarily a financial, rather than a physical market, where trading is used to manage risks rather than secure metal. Less than 1% of contracts traded on the LME result in physical delivery, so the chances of being stuck with metal you cannot use are very low.
In the unlikely event that a contract goes to physical settlement, lots can be swapped or sold at a premium or discount to the LME price. The cobalt industry is already used to this way of doing business, as it already trades metal at a premium or discount to the Metal Bulletin cobalt price.
The LME has been trusted to provide risk management services to the international base metals industry for over 135 years and it has an outstanding record of credibility in its contract specifications, price discovery and physical delivery mechanism.
In addition, its unique experience of managing the delivery mechanism of an international network of warehouses puts it in a strong position to deliver a physically delivered contract for cobalt and molybdenum, by-products of metals already traded on the exchange.
The option of physical delivery, while very rarely used, plays an important role in creating LME price convergence. In effect this means that if the LME price appears too high or too low, those in the market will see favourable pricing opportunity and make use of the delivery mechanism.
This presence, or threat, of delivery has the result of constantly ensuring that the LME price is in line with the physical market price. It also enables industry to sell material via the Exchange delivery system in times of over supply, and use the LME as a source of material in times of extreme shortage.
Cobalt and molybdenum contracts enable industry to hedge against volatility in prices.
Hedging is the process of managing the risk of a price change by offsetting it in the futures market. The ability to hedge gives producers, consumers and merchants in the industry the choice of how much price risk they are prepared to accept.
The process of hedging in the LME also creates a truly transparent and representative market price.
Futures contracts provide effective and reliable tools with which to manage volatility.
Cobalt and molybdenum are already volatile markets, but the LME contracts will help industry manage risk much better.
Futures markets introduce the potential of funds and speculators to invest in the industry; their involvement does not increase fundamental volatility and may dampen cycles by taking the opposite side to industrial clients.
Non-ferrous metals traded on the LME play an important role in the production of steel products and are used extensively by the global steel industry. These include metals such as:
Nickel used in the production of stainless steel for cookware, cutlery, hardware, surgical instruments, major appliances, industrial equipment and automotive, aerospace and construction
Zinc used for galvanising steel used for applications where rust resistance is important such as automotive, construction and amongst other things metal buckets
Tin for tinplate for packaging
Secondary aluminium used to remove oxygen during the steel melting process.
In addition, minor metals traded on the LME are also used in steel production. These include:
Molybdenum used as hardening agents in the production of stainless steel and other alloys of steel such as for structural use
Cobalt which also acts as a hardening agent is used in the manufacture of high speed steel e.g. for drill bits and similar cutting tools and special steel.
A number of major international steel producers already hedge their exposure to non-ferrous and minor metals using the LME. Where they do this the tendency is to hedge on a strategic basis looking at overall annual exposure. In some cases, particularly for nickel and tin, producers may choose to hedge 100% of their exposure to remove the impact of changes in price for these higher priced products on their final product.