INSIGHT: LME plastics – unwanted and abandoned

20 October 2010 18:00  [Source: ICIS news]

LONDON (ICIS)--Few will lament the passing of the plastics futures contracts traded on the London Metal Exchange (LME).

The contracts  first global and then regional contracts for linear low density polyethylene (LLDPE) and polypropylene (PP)  were once heralded as the future for beleaguered producers and consumers of plastics. They would be accepted and widely used by all, the thinking went, to hedge against the vagaries of the business cycle. Some saw them as a new, flexible tool that would help companies more effectively manage working capital.

But from the launch, the LME ran up against the reluctance of key producers of plastics and of petrochemicals to participate in the forward-pricing mechanism.

Most plastics producers at first were reluctant to see their material lodged with the exchange  each lot of paper traded on the LME was backed against physical delivery. And as time wore on it became apparent that the industry collectively would be slow to embrace the new hedging and forward-pricing tools.

Producers simply did not want to see the business taken from their hands. They feared price volatility driven by speculation.

Some plastics processors had their fingers burned in costly ventures into exchange-driven plastics trading. Companies were reluctant to commit resources, financial and otherwise, to hedging plastics when they might participate in more active, and liquid, markets upstream in oil and in currency.

Unfortunately, the link with the (physical) market was never made. Poor liquidity did not help correlation with polled prices that are widely available from existing providers.

A strong cadre of LME trading institutions, including major banks, supported the contracts from the outset. But over time their enthusiasm waned, and one by one they dropped trading activity and advisers from plastics and put these employees to work elsewhere.

LME plastics futures activity remained stuck at a low level.

The chemical industry, it is claimed, has shown increasing interest in hedging its risks in private, over-the-counter deals brokered by a variety of financial institutions. Against this background, the LME open outcry, telephone and electronic trading mechanism became less attractive.

At the end of the day the LME had warrants outstanding on just 228 lots of plastics held in warehouses globally. That is just 5,000 tonnes of plastics, not much more than a drop in the ocean.

By stark contrast the LLDPE futures contract traded on China’s Dalian Commodity Exchange (DCE) has taken off. Trading soared in 2009 as speculators piled into plastics and the exchange’s plastics numbers became more widely noticed.

Few outside China quite understand how Dalian plastics futures work, but the activity on that exchange has been in stark contrast to the interest on plastics futures in London.

Many years in the making, the LME’s plastics contracts will have been traded for close to six years by the last day of trading on 29 April 2011.

The exchange said on Wednesday that it had decided to focus its efforts and resources elsewhere.

To discuss issues facing the chemical industry visit ICIS connect

By: Nigel Davis
+44 20 8652 3214

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