Winter Park, Florida 30/09/2014 - Three United States Senators have strongly urged the Commodity Futures Trading Commission (CFTC) to closely scrutinise the London Metal Exchange's application to become a foreign board of trade (FBOT).
In a letter to the CFTC, Senators Sherrod Brown (D-Ohio), Tammy Baldwin (D-Wisconsin), and Elizabeth Warren (D-Massachusetts) voiced their concerns that LME aluminium storage and delivery provisions are “vulnerable to manipulation and have resulted in an inefficient physical delivery settlement process which raises costs for consumers and erodes confidence in the LME.”
“We urge you to immediately use the CFTC’s existing oversight tools to thoroughly examine aluminium markets used by US participants and to allow sufficient time for Congress to make any necessary legislative fixes through the reauthorization of the Commodity Exchange Act (CEA) before authorizing foreign boards of trade (FBOT) through the CFTC’s FBOT registration process,” the Senators said.
Over the past several years, US aluminium consumers, such as brewer MillerCoors, have claimed that bank holding companies via their ownership of metal warehouses have taken effective control of the LME, leading to a supply bottleneck and massive unwarranted expenses for consumers in the form of record high physical premiums.
“American manufacturers and end users should not be gouged every time they make a can of soda or fill up their gas tank,” Brown said. “The CFTC must start protecting businesses and consumers by using their authority to conduct a thorough review of the ongoing issues destabilizing the aluminium market and ensure that the LME is operating above board before finalizing the LME’s authority as a foreign board of trade.”
The Senators asserted that several current LME rules could be seen as “problematic”.
First, they claim that insufficient warehouse load-out rules have resulted in multi-year aluminium queues in Detroit, despite high levels of production and large amounts of aluminium waiting in storage for delivery.
However, in the LME's defence, the exchange has attempted to address this very issue. The exchange had hoped to to implement changes to its warehouse linked load-in/load-out rates on April 1.
Under the proposed rule change, all metal loaded into a warehouse over a three-month period is measured. If there is a queue of more than 50 calendar days, the affected warehouse would be expected to deliver out additional metal based on a formula.
But those plans were delayed after a successful legal challenge by Russian aluminium producer UC Rusal, which claimed that the rule changes were "unlawful" and "unfair" because the exchange failed to address other options.
The LME's subsequent appeal in the case was heard on July 29 and 30 in London but a ruling has not yet been made.
Once a decision has been rendered, the LME will look to implement its linked load-in/load-out rule, according to a September 11 LME statement.
Second, the Senators alleged that the LME has “inadequate rules requiring the institution of 'Chinese walls' between their warehouse companies and trading operations to prevent conflicts of interest between their commercial investments and other financial activities - such measures may be useful in theory, but ineffective in practice.”
Over the past several years, big-name banks and traders have bought warehousing companies. Mergers include Louis Dreyfus/GKE Metal, Glencore/Pacorini, Trafigura/Impala and Goldman Sachs/Metro International just to name a few.
The LME does have strict rules in place that limit the interaction that warehouse operators can have with their bank's trading desk. Nevertheless, many politicians, consumers and media outlets have questioned the effectiveness of these rules and arraignments.
Thirdly, the Senators said they do not agree with the LME rule that allows the parent company of a warehouse owner to store metals in a warehouse owned by one of its subsidiaries.
CONGRESS IS WILLING TO INTERVENE
The preferred action, the Senators said, would be for the CFTC to work with the UK's Financial Conduct Authority (FCA), other regulatory authorities, and the LME to ensure that the LME meets the standards the CFTC set forth in the FBOT application.
But should the CFTC be unable to fully addresses the delivery issues facing end users, Congress may be forced to legislate, they warned.
“In that event, we request that the CFTC refrain from approving LME’s application for registration as an FBOT until Congress has had the opportunity to address distortions in aluminium futures trading and delivery by taking appropriate legislative action through the CEA reauthorization process,” the letter said.
“It would also be useful for CFTC to suggest any legislative changes to the CEA that might improve the CFTC’s authority and oversight concerning the LME and other FBOTs,” the Senators concluded.