LME to launch Taiwanese ferrous scrap futures

The London Metal Exchange (LME) will launch a futures contract for Taiwanese containerised ferrous scrap imports in this year's fourth quarter, the first such contract for a region pivoting towards greater use of scrap.

The Taiwanese contract will settle on a basis of Argus' HMS 1/2 (80:20) containerised cfr Taiwan index. It will be the first seaborne scrap index that references containerised rather than bulk scrap, helping to address significant differences between bulk and containerised ferrous scrap markets, as well as regional price differentials.

The LME launched its Turkish scrap futures contract in 2015 and has consistently remained the exchange's most liquid ferrous contract. Asia with 70pc of global steel production is gaining influence in markets, as seen by the LME's fob China hot-rolled coil (HRC) contract launched in 2019 coming closest to challenging the Turkish contract's top liquidity position in the exchange's ferrous suite.

Physical Asian market participants have remained wary about using the Turkish contract because of the basis risk between the Asian and Turkish markets, as well as between bulk and containerised markets. Turkey as the world's biggest scrap importer at 18.9mn t in 2019 sets much of the tone in seaborne markets. Taiwan, with 3.5mn t of scrap imports in 2019, can diverge from Turkey with different restocking cycles and fundamentals between Asia and Europe/CIS.

An indication of the difference between markets is the monthly R2 correlation at 72.8pc, as well as the daily correlation at only 57.2pc. The spread between the two markets has swung from a positive $38.24/t to a negative $2.85/t. On a daily basis it has moved from -$9.70/t to +$61/t. These correlations and spreads are for the past 12 months.

China's record steel production and aggressive stimulus have kept Asian ferrous markets firmer than the rest of the world. This includes the Argus Taiwanese scrap index down by 7.4pc to $250/t cfr this year, a narrower drop than the Turkish scrap index down by 15pc to $257/t over the same period.

Bulk markets price at a premium to containerised ones from the difficulty in delivering larger parcels of uniform quality scrap. But the differential between bulk and containerised prices has proven highly volatile. It is this, in particular, that Asian market actors who might like to hedge scrap exposures have cited as being a prime barrier to any uptake.

The difference is unsurprising, given that steel markets remain much more regional than other metal markets. Exchanges have launched HRC contracts in the US, Europe and Asia to account for the differences.

The Taiwan futures contract will have wider regional significance and influence, just like the Turkish scrap contract. Taiwan's import value has long been a key reference for scrap market participants. Traditionally it has the advantage of higher liquidity and has been viewed as a more sensitive indicator of scrap prices. The smaller parcel sizes of over 1,000t make trade more frequent than the Turkish market that trades on a handymax scale of approximately 40,000t for each trade.

The Taiwan assessment is watched in South Korea, Vietnam and Japan. It is also watched by Taiwanese construction companies that require rebar. The LME today also announced the launch of its European HRC steel futures using the basis of Argus' HRC ex-works Northwest Europe index.

By Terry Chuay and Chris Newman