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Tarnished LME initiates tight monitoring as frenzy grips low-liquidity nickel

By:
on Nov 18, 2022
Updated: Nov 21, 2022
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  • Nickel prices on the LME have been highly volatile in the past week.
  • Reversing of short bets drove the surge in demand.
  • Severe swings in price threaten EV battery manufacturing and downstream supply.

The London Metal Exchange’s nickel platform has been rocked by volatility this year, driven by a physical shortage of pure nickel, the sanction spree on Russia (which accounted for 17% of global production of high-grade output), a gigantic bet gone wrong, and pretty questionable corporate governance practices.

In March, prices were propelled to an all-time high of above $100,000, double the previous record in 2007.  

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Earlier this year, in Analysis: Elliott Management, Jane Street sue LME for nickel debacle, I reported on the LME’s sudden decision to not only suspend trades in light of a flash surge in nickel prices but to cancel previously executed orders worth billions of dollars.

Worse, the LME suspended the issuance of official prices.

Predictably, this sparked mass outrage among long-standing customers and accusations of cronyism became rampant. It also triggered lawsuits, notably by Elliot Management and Jane Street against the LME.

The HKEX-owned, London-based entity’s reputation suffered a body blow, with an exodus of traders draining liquidity from the oldest metal exchange in the world.

Announcements by management that new market stabilization measures would be introduced did little to assuage the seething institutions that had come to reject it.

Unfortunately, for the LME, the long shadow of controversy never seems too far.

A fresh flash of volatility

After a few months of relative calm, nickel prices have been besieged by bouts of heavy volatility, with the exchange being forced to announce an enhanced monitoring program on Wednesday, 16th November.

The tumult in the market is not a complete surprise with the liquidity shortage amplifying market movements in either direction. Bloomberg reported that LME 3-month volumes for nickel contracts are less than a third of what they were in the run-up to Russia’s sanctions following the Ukraine invasion.

Expectations that China, the world’s largest metal consumer, would ease its Covid lockdowns and given the weaker dollar, nickel prices surged nearly $8,000 or 30%+ in the week ending November 15.

During the run, prices touched $31,275, a 6-month high.

The slowdown in US inflation data and reports that the Chinese government was launching fresh measures to support the troubled property market seemed to also fuel the buying.

Source: LME

However, even more importantly, buying pressure was triggered by market participants who had bet against nickel prices earlier in the year and rushed to reverse their short positions as contracts reached expiry on Wednesday.

Telsa in the mix

Market conditions were led to further confusion on Tuesday as Prony Resources, owner of the Goro mine in New Caledonia, and a crucial supplier of Tesla’s electric battery manufacturing suffered a leak of effluents spilling by-products.   

Action by environmental authorities has forced the company to take measures swiftly and cut production forecast in Q4.

A spokesperson confirmed that minimum quantities to fulfil client orders will be delivered on time.

In what has already been a chaotic 10 days, on Monday, reports of an explosion at an Indonesian nickel producer also contributed to the surge in prices earlier in the week, although these claims were later refuted.

To manage the surge, that breached the exchange’s limits, the LME directed tighter monitoring on Wednesday, 16th November.

Since the expiry of the contract though, demand has pulled back sharply.

Prices plunged soon after to a close of $26,050 yesterday, falling 11.9% since the close on Tuesday, the 15th of November.

Uncertain outlook

Although there were some real factors at play, such as the possibility of slowing Fed hikes, weakness in the dollar and the prospect of China re-opening, the extreme buying was driven primarily by the reversal of positions in the paper market, demonstrating once more, its dominance over physical dynamics.

It is tricky to assess a direction going forward due to the scarce liquidity in contracts, especially on the LME.

Regarding the re-opening in China, markets have witnessed authorities reversing their stance on this before. A repeat would prove bearish for metal prices.

Later this quarter, the WTO is expected to rule on Indonesia’s nickel export ban which has been in place since 2020. If reversed, prices could be further tempered.

Lastly, a Discussion Paper published on November 11th on the LME’s website notes,

In summary, the LME has concluded, on the basis of feedback received, that the thesis which would underpin fears of a disorderly market (in particular, a sufficiently large proportion of global consumers refusing to accept Russian metal in 2023) is not supported by evidence at this time. Accordingly, the LME does not propose to prohibit the warranting of new Russian metal (Option C). Additionally, feedback clearly indicated that thresholds or similar limits would be too complex to be practicable (Option B). As such, the LME will proceed with the status quo in respect of Russian metal (Option A)

If there is no change to the status quo as suggested by this paper, prices will likely be drawn down by additional Russian inventories and slowing global growth.

Having said that, the damage done to the LME’s reputation will not be easily reversible, and liquidity at the London exchange is likely to continue to dwindle fueling bursts of severe volatility.