Industrial metals can offer some compelling trading opportunities, especially as at times they tend to be subject to very sharp changes in price. Investors can position themselves to take advantage of such movement through trading in futures, options, Contracts for Differences (CFDs) or ETFs on the underlying metals as well as by taking positions on the shares of mining and metals companies.
Supply & Demand
Industrial metals are used in a range of ways, predominantly in the construction and manufacturing sectors. The most widely used industrial metals are steel, aluminium, copper, lead, tin, nickel and zinc. However, with the rise of the electric car industry and increased demand for rechargeable batteries metals such as cobalt are becoming more sought after as well. Industrial metals prices are mainly influenced by supply and demand, with prices tending to rise when economic activity increases and fall when it contracts. By the same token, current prices of industrial metals are also heavily influenced by future expectations surrounding supply and demand.
Supply Can Lag
Higher demand drives prices up, but supply is also critical as a favourable impact from rising demand could theoretically be totally offset by increased supply. In practice though, there can be a considerable lag before increased supply comes on stream to cater for higher demand. When the global economy slumps, smaller miners and producers can find the lower prices that result uneconomic, resulting in numerous shut downs. It means that when the global economy finally improves and prices begin to rise once more, there might be considerably less available supply. Higher demand combined with more constrained supply can make prices jump sharply. Eventually, once more supply comes on stream, prices can become especially sensitive to any fresh economic downturn. More abundant supply combined with a fall in demand may bring abrupt falls in prices. The cycle tends to repeat itself.
The London Metal Exchange (LME) has long been the leader in industrial metals trading. Theoretically, exchange traded metals, with the benefit of electronic and floor trading, are characterised by lower volatility and more accurate metals pricing compared with metals traded outside formal exchanges. The LME is an oft-cited source for both spot prices and forward prices. While the LME was originally set up for the trading of non-ferrous metals (those not containing iron), these days it also offers contracts in the ferrous category. Today, along with the base metals, namely copper, nickel, zinc and lead, LME also facilitates trading in aluminium, steel and in minor metals such as molybdenum and cobalt. Of the various categories of metals within the industrial complex, most research and data are focused on the large base metal markets (copper, nickel, zinc and lead).
The base metals market is the most developed, distinguished by huge trading volumes, electronic trading and widespread derivatives contracts that serve to boost market efficiency. As a result, the difference between bid and offer prices for base metals tends to be considerably smaller than for other industrial metals. Evolving needs of industry however, including the rise of smartphones and more latterly electric cars, means there is growing activity around some of the less well-known metals. For instance, cobalt and molybdenum metal contracts were added to the LME as recently as 2008.
The LME also began offering contracts in steel during the same year, a move that was closely followed by some other competing exchanges around the world. Steel has traditionally been viewed as less tradeable by investors compared with many other metals, being less standardised due to the wide range of different grades available. Changes in the physical metals inventories of the LME are an important gauge of the global market.
Industrial metals traded on the LME are priced per tonne and in US dollars. Options and futures contracts are available on LME metals, potentially enabling investors to profit from rises and falls in the underlying prices, as well as facilitating more efficient price discovery and liquidity in the metals market. Investors use the contracts available through the exchange to either take speculative positions on future price changes or to hedge their existing exposures in metals. As well as facilitating the trading of metals derivatives as an exchange and providing price data, the LME is also a physical market for the consumers and producers of the metals. Changes in the physical metals inventories of the LME are an important gauge of the state of the global metals market. Falling inventories may indicate rising demand for a given metal as participants buy up supplies in reaction to emerging shortages in the market. Rising inventories could be indicative of the reverse scenario, and potentially a sign of oversupply.
While LME faces competition from the COMEX division of the New York Mercantile exchange, the industrial metals traded on this latter are limited to aluminium, copper, zinc and lead. In contrast to the LME, where prices are quoted in tonnes, COMEX prices are quoted in pounds. Just like LME, COMEX offers a variety of derivatives contracts. Increasingly, the Shanghai Metal Exchange (SHME) is also viewed as an important competitor to the LME. In some ways, SHME complements the LME however; by operating on a different time zone, it enables investors to carry on trading in certain metals when the LME is closed. SHME offers contracts on copper, steel, aluminium, zinc, lead, tin and nickel. While the globalisation and broadening of the contracts available for investors to trade across the various exchanges results in more opportunities, it also means there is more information on the market for investors to process. For instance, inventory data in China is becoming an important gauge of the market, just as the LME inventory data has always been.
Previous engagements working in metals trading:
- Developing a set of trading strategies for a global copper producer and speculator, trading $30 Mill. a day on the SHME.