The Hong Kong Mercantile Exchange (HKMEx) has renewed calls for an end to government protections against competition with the Hong Kong Stock Exchange (HKEx), following the HKEx’s takeover bid for the London Metal Exchange (LME).
According to Hong Kong’s Securities and Futures Ordinance no other bourses or alternative venues may compete with Hong Kong’s main public exchange without government approval.
The HKEx’s £1.39 billion bid for the 135-year old LME is still subject to LME shareholder approval. But if permitted, the merger would give HKEx instant entry into commodities trading, with control of around 80 percent of global trade in industrial-metal futures.
The HKMEx’s chief operating officer William Barkshire told IFLR the HKEx should not expect to maintain a statutory monopoly in the trading, clearing and settlement of securities in Hong Kong now that it was competing in commodities.
“The HKEx effectively derives monopoly rents from the market, for example via requirements to report transactions and use it as a clearing and settlement venue,” said Barkshire, who was previously director of strategy at the London Stock Exchange.
“It’s about time more competition is introduced,” he said. “It would benefit turnover in the market, drive cost and encourage innovation.
“The HKEx’s role as a listing authority also now seems unsustainable given that the exchange is also now competing in other asset classes as part of wider growth plans,” said Barkshire.
Securities and Futures Commission (SFC) merger and takeovers panel member, David Webb, said he had said many times that the monopoly should be repealed. He believed that the HKEx would not be doing the deal at all if its entire board had been elected by shareholders, rather than just 6 out of 13 as at present.
“There is no strategic logic to this deal and no commercial synergies,” he said. “The HKEx are simply doing this for the sake of diversification from their mature, cash-cow monopoly business.”
There’s concern too that the deal could damage HKEx’s standing in China, with some domestic market participants branding it a competitive move against Mainland exchanges. One Beijing-based capital markets partner at an international law firm said the acquisition changed the dynamic of how the Shanghai Future Exchange and the Mainland market in general view Hong Kong.
FenXun Partner's Xusheng Yang said it was a two-edged sword. "On the one hand, it's good for China if you believe that ultimately the HKEx wants to work in the interest of China," he said. "It will give Chinese end-users and Chinese financial intermediaries access to global prices in metal and reduce the spread that exists between onshore and global metals prices."
There was hope too, he said, that the HKEx would exert its influence to ensure that Chinese end users and financial intermediaries were not exploited when using the LME (or HKEx). But that hope could be undermined if the terms of the merger favour LME in terms of ongoing control of the combined entity.
"Chinese market participants need clarity on the terms of the merger," he said.
Exposure to China
Freshfield’s Sundeep Kapila, who led a team advising LME Holdings, said the attraction and rationale of the deal was that it opened up the Far East and the china market for the LME.
The LME chief executive said this week that Asia was the next great growth story and also the biggest threat. “When asked what was keeping me awake at night the answer was always the threat to us in Asia; that's where our business was tilted,” he told a panel discussion at IDX International Derivatives Expo in London.
Kapila said the fact that the deal involved a party such as the HKEx that is recognized and established in the China market presented significant opportunities.
“But it is not as though Asia is LME’s sole focus,” he said. “In terms of providing a platform for anybody who wants to be active in commodities exchange market, the takeover of LME would represent a fantastic opportunity for whomever acquired it.”
Webb nonetheless rubbished the exchange’s claims that it could convince the Chinese government to make big concessions such as approving LME warehouses in China and allowing more Chinese companies to trade on the bourse.
“There’s no reason to think that it will,” he said. ‘The HKEx has been claiming that the mainland government is not behind the deal. I believe that claim, but it is hard to also claim that HKEx has some special relationship with the mainland government.”
The ability to establish warehousing facilities in China is a very complex issue and one which requires a very broad range of considerations. Indeed, the HKMEx, run by the politically well-connected Barry Cheung, was unable to get permission to establish onshore fuel-oil storage for delivery of its proposed oil futures contracts in 2008. They were forced to refocus on gold futures instead, with the gold stored at Hong Kong Airport.
“The PRC government will open its markets when it thinks it is ready and HKEx really has no say in the matter,” Webb said.
The HKMEx was largely unthreatened by the move, Barkshire said.
“The key in futures markets is to get innovative products out first,” he said. “We have plans under way which are not subject to shareholder approvals as with the LME merger which needs to be finalized.”
The HKMEx began trading gold futures last May and silver contracts in July, both denominated in US dollars. Those are the only contracts available. It said in March that it’s planning to offer gold, silver and copper futures contracts denominated in China’s renminbi.
“We also see tremendous opportunities, and clients agree, to arbitrage LME products against ours,” said Barkshire.
When contacted, the HKEx declined to comment.
The LME is the last exchange operating open-outcry trading in the ‘Ring’ and world’s leading exchange for the trading of base metal futures and options contracts.
HKEx is the leading operator of exchanges and clearing houses in Asia and a key player globally, with a market capitalisation of GBP 9.8 bn. On Thursday it announced it had formed a joint venture with China's two main stock exchanges – the Shanghai and Shenzhen bourses – in its latest foray to integrate even more with its bigger neighbour's burgeoning markets.