INSIGHT: LME faces testing time with new contracts

20 June 2007 17:55  [Source: ICIS news]

By Nigel Davis

LONDON (ICIS news)--The London Metal Exchange (LME) has not picked the most opportune time to launch its new regional plastics contracts and introduce next day trading.

Polypropylene (PP) and linear low density polyethylene (LLDPE) producers are all but sold out.

Current volumes of both plastics lodged in LME approved warehouses are low and held mainly in the US.

Not all of this is critical but the factors work against the rapid uptake of the new contracts – six in all to cover both products in Asia, Europe and the US – due to be launched on 25 June.

There have always been pockets of enthusiasm for plastics futures. Interest in the new LME contracts has been piqued by recent roadshows, largely in Asia, but also in North America and Europe.

But if there are buyers for the contracts they have to be matched by sell side liquidity. LME contracts are matched against physical product for delivery so at some stage plastics futures trading has to attract more distributor and producer interest.

The problem now is that there just isn’t the producer liquidity to support the LME’s move.

The situation is acute in Europe where, for instance, in PP the outage of production at Feluy in Belgium has exacerbated tightness in a market already coping with supply outages due to scheduled maintenance.

The new LME contracts are expected to offer better futures price correlation with the regional physical markets. Indeed correlation is the real issue for the LME.

The global contracts have not succeeded as they might simply because the two polymer markets are not as global as some had believed.

Opening up liquidity in the nearby trading months also means that every day will become a trading day in LME plastics out to three months. Beyond that, prompt dates are weekly to six months and monthly thereafter.

The changes are expected to take time to become established: there will be no official "cash" prices for the plastics contracts until the third Wednesday in July, for instance.

And the LME does not really expect anything other than a “slow burn” for the new introductions.

There is a firm belief, nevertheless, that volumes and open interest will build as the plastics trading community becomes more widespread.

LME broker member companies are keen to take up the opportunities offered by the regional contracts and the new trading arrangements. They talk of greater customer interest. The LME can also add further enhancements such as more delivery locations to make its plastics offerings more attractive.

In the summer slough, however, the contracts cannot be expected to sparkle. Plastics converters will want to capture material in a tight market – and before prices move higher which they look as though they might.  There is also little incentive currently to hedge in the forward market and run the risk of price divergence.

Against this background, the new regional contracts, the greater nearby liquidity and even the longer established global contracts have to prove their worth. LLDPE and PP futures on the exchange face a testing time.

By: Nigel Davis
+44 20 8652 3214

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