Hong Kong Uses London Metal Exchange to Spearhead Expansion

The London Metal Exchange’s impending sale to Hong Kong Exchanges and Clearing, operator of the Hong Kong Stock Exchange, represents more than just another international buyout. The $2.2 billion purchase is a stark reminder of Asia’s dominant influence on the world’s major commodities markets. The Hong Kong exchange, the third largest in Asia behind Tokyo and Shanghai by market capitalization, has successfully positioned itself over the past decade as the leading gateway between international investors and China, becoming the destination of choice for offshore IPOs by Chinese corporations. The company hopes the addition of the LME will further boost its business with China, which also happens to be the largest buyer of metals in the world. Eyeing that opportunity and capitalizing on it are two different things, of course. China has its own metals market, on the Shanghai Futures Exchange, and it’s unclear whether Chinese authorities will welcome closer competition from the LME. The London exchange currently has only one Chinese member, BOC International Holdings, the Hong Kong–based investment banking arm of Bank of China. But executives at HKEx, as the Hong Kong exchange operator is known, are keen to deepen ties with mainland markets. In June the Hong Kong exchange struck a joint venture agreement with the Shanghai and Shenzhen stock exchanges to develop cross-border indexes and a related suite of derivatives products. The LME controls 80 percent of the world’s trade in nonferrous metals, many of which are so-called critical metals — those materials for which no alternatives exist. Molybdenum might not be as commonly used as, say, aluminum, tin and copper are, but it’s increasingly valuable in a high-tech economy. The London exchange had stumbled in attempts to broaden its product range, though. It introduced steel futures four years ago, but volumes have been disappointing because of delays in physical delivery and pricing discrepancies between the futures market and physical steel prices. Perhaps enhanced exposure to China, which manufactures and consumes more steel than any other country, could help the LME in this regard. The LME saw its pretax profit decline 8.7 percent in 2011, to £11.4 million ($18.15 million), but trading volume jumped 21.9 percent, to 146.6 million lots, while the value of those trades surged 32.8 percent, to $15.4 trillion. HKEx’s earnings were flat last year, at HK$5.1 billion ($656 million). The Hong Kong exchange, which beat out rival bids from Chicago’s CME Group and Atlanta-based IntercontinentalExchange, is paying handsomely for the privilege. The acquisition price amounts to a whopping 181 times the LME’s most recent earnings. Some shareholders have criticized that multiple, but the deal doesn’t require a vote by HKEx shareholders. LME shareholders are expected to approve the sale in a July 25 vote. “This proposed combination will secure the future of the LME for its next 135 years,” CEO Martin Abbott said when the deal was announced in June. “The LME’s global benchmarks plus HKEx’s preeminent market position in Asia . . . will cement the LME’s position as the world’s foremost base metals trading venue.”

That position will now be facing east.