- 23% = No, it's a fundamentally sound system
- 27% = Yes, but it's evolving
- 50% = Yes, and no one's fixing it
Comments by Andrea Hotter, Special Correspondent for Metal Bulletin.
Warehouses – the LME’s leaky bucket
The debate over London Metal Exchange warehousing is starting to sound reminiscent of the old children’s song, “There’s a Hole in My Bucket”.
For those of you who don’t know the song, it is a discussion between Henry and Liza over how to fix a leaky bucket.
Every solution is met with another problem; the two end up going round in circles with Liza increasingly frustrated at the not-so-bright Henry’s inability to grasp what is wrong.
That seems to be how metals market participants feel today. In a recent poll by Luvata, one of the world’s biggest copper consumers, a whopping 77% of participants said the LME warehouse system is fundamentally broken.
Almost two-thirds of them said they expect it to stay broken, while the rest held out hope for things to change.
Only 23% of the total polled participants – made up mostly of Luvata customers with the rest being its suppliers, plus banks and trading firms – said the system is fundamentally sound.
If so many people feel the LME warehouse system has become a leaky bucket, how do we mend it?
What’s the problem?
Just as for Henry, identifying the problem seems to be one of the biggest issues. The debate started a few years ago when queues to get metal – largely aluminium – out of warehouses in Detroit stretched out beyond a year.
Queues with very long waiting times have since built up at other locations, including Vlissingen, in the Netherlands, and New Orleans, in the USA. At the same time, physical premiums have sharply risen, particularly for aluminium but also for other metals.
The situation is not entirely new: warehouse queues and financing deals have always existed, but they have been exacerbated of late as big banks recognised a good way to make a buck.
So is the issue the queues? Or, the bank- and trader-arranged financing deals that attract metal into storage amid low interest rates and a contango market?
Are the queues directly causing the high physical premiums? Is it the fault of the warehouses, accused of – but never yet proven to be – deliberately slowing up deliveries and creating queues?
Or should we blame the LME, for its rules and regulations, which nobody has been found to have broken?
Is the problem being caused by the producers, for continuing to churn out loss-making metal instead of cutting output?
Can we blame the government, for low interest rates? Or should we blame the banks and traders who developed the financing deals that lock the metal away?
What role is being played by the consumers, who could do more through official channels to complain, assuming they have something to complain about?
If the answer to all the above is no, is there a problem at all?
And if the answer to even some of the above is yes, as the majority of those polled by Luvata believe, then what should – or can – be done?
What’s the solution?
The LME – which does not own or operate the warehouses, but licenses firms to do so – had a go at fixing things when it upped the amount of metal required to be delivered out daily. The change did little to cut queues; in fact, they are longer in some locations than they were previously.
Chris Evans, head of LME business development, said last week that the exchange acknowledged and was sympathetic to the problem of the queues, but that “it is not the cause, and it cannot be the solution”, particularly since no rules had been broken.
Competition law puts the LME between a rock and a hard place: it cannot cap warehouse capacities or rents, nor can it restrict financing deals.
The new owner of the LME, Hong Kong Exchanges & Clearing (HKEx), does not think the system is broken. Its ceo Charles Li told Metal Bulletin in an interview last year that “there are no easy solutions or answers because there’s not even an easy consensus as to what the problem is”.
So if the LME can’t and won’t act further, the warehouses are keeping squeaky clean, or at least have not been found to be operating outside the rules, and free market forces mean financing deals are not about to vanish overnight, how is Henry ever going to fix his leaky bucket?
If the warehousing rules are not going to change, then someone needs to prove they are being broken.
Conversely, if the rules are proven to be inadequate, can new rules be brought in that will work in the current day and age?
As an exasperated Liza tells Henry at the end of the song, “Use your head then, dear Henry!”