Market Analysis

China is taking decisive steps to influence the pricing of the substantial amounts of industrial metals it both produces and consumes, aiming to attract foreign firms to engage in trading on Shanghai's futures exchange. This initiative could potentially disrupt the existing global markets.

After investing in mining assets worldwide over the past 20 years to secure essential metals for its industrialization and to support its carbon emissions targets, China now seeks a greater role in determining the prices of these metals.

However, the country has experienced a decline in its market share in metals futures trading and must convince international investors to participate in the Shanghai Futures Exchange (ShFE). This information comes from interviews with over ten brokers, traders, analysts, risk managers, and consultants who are well-acquainted with ShFE’s plans.

If successful, this initiative would position Shanghai's contracts as benchmark standards, challenging the established reference pricing system for industrial metals that has been in place since 1877, when the London Metal Exchange (LME) was founded.

ShFE's benchmarks would eliminate the necessity for Chinese firms to tie their physical contracts to LME prices, while creating an incentive for foreign entities to trade on ShFE, thereby shifting market influence from Western markets to China.

In recent discussions, the exchange emphasized that this initiative is a top priority, although specific timelines were not disclosed. ShFE has not responded to requests for comments regarding deadlines, investment amounts, challenges, or success metrics.

Nonetheless, state media reported in June that Wang Fenghai, the general manager of ShFE, stated, "Only through opening up can we draw in foreign investors to participate in the process of ShFE’s price establishment and enhance price influence."

Wang also highlighted that enhancing cross-border delivery capabilities would be crucial for attracting global participation.

One significant development involves the exchange's plans to secure warehouses outside China for storing metal delivered under copper contracts launched on its International Energy Exchange (INE) for international traders in 2020.

ShFE has communicated to industry stakeholders its intention to expand into international metals storage, as it seeks to compete with the LME’s extensive network of over 450 registered warehouses that hold vast quantities of metals, including aluminum and copper.

"They (ShFE) have a plan, and they are moving forward; they will list warehouses outside China... the government is pushing for this to happen," remarked one insider familiar with the exchange’s strategies.

Although the metals industry has been aware since last year of ShFE’s plans to establish offshore warehouses, starting in Singapore, recent communications suggest the exchange is on the verge of implementation.

"A legitimate price that people want to use requires global warehouse stocks," noted a source from a consultancy familiar with ShFE’s plans.

Once ShFE decides to provide metal storage outside China, the registration of warehouses could occur within days or weeks, as many facilities are already situated at ports with significant metal flows.

Regulatory approvals will not be necessary for warehouses capable of storing metal deliverable against ShFE contracts, provided they are located in free trade zones. This arrangement allows for tax-free storage of metals until they are delivered to clients.

Singapore is a logical starting point, given its existing LME warehouses, which means the regulatory framework is already established.

All individuals who spoke to Reuters requested anonymity due to the confidential nature of their discussions with ShFE.

RIVALS GAIN MARKET SHARE

Despite China's consumption of more than half of the world’s supplies of copper, aluminum, and zinc, the Shanghai exchange faces significant challenges in competing with the LME.

"Any exchange pursuing internationalization will encounter obstacles... ShFE will face numerous challenges and constraints if it aims to become a global pricing center," said Luo Xufeng, chairman of Nanhua Futures.

Ultimately, ShFE intends to list aluminum, zinc, nickel, lead, and tin on the INE—metals that are already traded on the LME, the oldest and largest metals forum globally, owned by Hong Kong Exchanges and Clearing (HKEx).

On the LME, trading volumes for copper, crucial in construction, power systems, and electrical goods, have stabilized at around 60% of global copper futures.

However, ShFE has been losing market share to the U.S.-based COMEX, part of the CME Group, since 2015. Last year, ShFE accounted for roughly 15% of global copper futures, while COMEX's share was 22%. In the first nine months of 2024, trading volumes on ShFE's INE copper futures have fallen by nearly 43% compared to the same period last year.

China's currency exchange controls, which restrict the amount of money companies can transfer out of the country, are intended to manage currency volatility and may deter foreign investors.

Concerns about Chinese governmental policies aimed at steering commodity markets and intervening in market activities—such as adjusting margin requirements—also contribute to apprehension among potential investors.

"They don't tolerate volatility. They could easily double or triple transaction fees and margins overnight if they chose to. This unpredictability makes people anxious," a source familiar with the situation at a resource-focused fund commented.

Paraphrasing text from "Reuters" all rights reserved by the original author.