The price of nickel sharply jumped on March 8, early in the morning, amid the ongoing escalation of the conflict between Ukraine and Russia. At this time, the London Metal Exchange is still closed. However, metal traders around the world were already closely monitoring the price changes in the electronic market, which opened at that time in Asia.
London Metal Exchange at the center of the nickel scandal: who benefits from the margin call of a Chinese billionaire?
Nickel prices usually change by several hundred dollars per ton per day. For most of the last decade, they have traded between ten and twenty thousand dollars. Nevertheless, on the eve of the market began to collapse, and prices rose instantly by 66% to $48,078. So on this day, the market watched with a mixture of horror and gloomy admiration as the price plumb broke through the ceiling. Having already reached a record high by 5:42 a.m., the chart shot up in dizzying leaps, soaring to $30,000 in a matter of minutes. Immediately after 6 a.m., the price of nickel exceeded 100 thousand dollars per ton. In general, for participants of traditional commodity exchanges, price increases are not necessarily good news, and a sharp increase is almost always the opposite. But mining companies, traders and producers often use the market to make short bets, that is, to make money when prices fall.
And when these rates move sharply in the opposite direction, they may face huge margin calls or requests to deposit more money to support their trades in providing liquidity. The rapid rise in nickel prices has already been compared to the short-term stock cuts like GameStop Corp., which captured retail investors for most of last year. The difference is that nickel is a commodity affecting the entire world economy. This metal is present in all our homes as a key component of stainless steel. It is also one of the most important raw materials needed for the production of batteries for electric vehicles.
"It was the most erratic movement in metal that I've seen in my career," says Mark Hansen, chief executive officer of a trading house associated with raw materials warehouses. — We had a frenzy based on speculation, which intensified on Monday and Tuesday. People have forgotten that this is not a video game store; it is an important physical commodity." The head of a London metals brokerage company shared his feelings this morning: he says he felt bad watching the movement, realizing what a price jump would mean for his company, the market and the global steel industry. "These 18 minutes will haunt me," says the manager, who wished to remain in the shadows. A 250 percent jump in nickel prices in just over 24 hours plunged not only trading, but also the mining industry into chaos, causing billions of dollars in losses for traders who made incorrect bets. As a result, the London Metal Exchange (LME) was forced to suspend trading - for the first time in three decades.
This was the first major market disruption since Russia's invasion of Ukraine rocked global markets, showing how the removal of one of the world's largest resource exporters from the financial system for several weeks has a ripple effect around the world. The surge was largely caused by a short squeeze centered around Chinese tycoon Xiang Guangda, who bet on a drop in nickel prices. The industrialist knows the market well thanks to his participation in Tsingshan Holding Group Co. On Monday, a week after the suspension of trading, Xiang used credit lines from JPMorgan Chase & Co. and other banks, which would allow him to maintain his short position. In a crisis, rising prices put traders betting on a fall in an even more difficult financial situation, forcing them or brokers and banks doing business on their behalf to buy an asset (a transaction known as short covering, which can lead to even more price increases). Other market participants may also push prices up in anticipation of covering short positions.
How was it
The seeds of an epic short squeeze were sown last year when nickel, like all commodities, grew from the low of the Covid era. Xiang did not believe that the trend would last long. As a result, he decided to increase his short position on the London Metal Exchange. Xiang is not just a financial trader making paper bets on price movements. He is engaged in a physical nickel business. He was born in 1958 and started making frames for car doors and windows in Wenzhou in eastern China. He pioneered new methods of nickel and stainless steel production that turned markets around and made his Tsingshan the world's largest producer of both. People who know him by the nickname "Big Shot" in Chinese commodity circles say that he is absolutely confident in his beliefs and does not hesitate to place big bets on his vision of the future.
Why bet against nickel if you have a nickel business? Xiang wanted to dramatically increase Tsingshan's production by producing so-called nickel matte for electric car batteries. The company planned to produce 850,000 tons of nickel in 2022, an increase of 40% over the year, according to a source briefed on them. Although few observers believed that Xiang would be able to achieve such a level of production, he was sure of it. But he believed that the obvious consequence of the appearance of such a large amount of nickel on the market would be a drop in its price. Not everyone shared his pessimism about prices.
Some hedge funds have been buying nickel contracts, betting on the electric car boom. Giant commodity trader Glencore Plc also had a position on the LME that would benefit from the price increase. By the beginning of this year, she had become the owner of more than half of the available nickel in LME warehouses. For a while, it was unclear which view of the market would take over. Most analysts sided with Xiang, at least in the medium term, believing that nickel production, led by Tsingshan and its competitors in Indonesia, would exceed demand. Everything changed when Russia invaded Ukraine. Russia is the third largest nickel producer in the world and the largest exporter of refined metallic nickel supplied to the LBM. Although Russian nickel exports were not sanctioned, buyers from the United States and Europe, nevertheless, were looking for alternatives to Russian sources. The price of nickel rose sharply in the week after the Russian invasion. For Xiang's big short position, it was painful. Remember, when prices rise, traders like Xiang, who have sold futures contracts, face a margin call: they have to invest more money to cover possible losses.
While investors who sell stocks short want the price to fall, in commodity markets many manufacturers, traders and users take short positions as insurance against losses on physical goods that they hold in stocks. Theoretically, any price changes in the futures market should compensate for price changes in the value of stocks — as long as traders can meet their margin requirements. It is unclear to what extent Xiang viewed his position simply as a hedge or as a speculative bet. The annals of commodity markets are full of stories about manufacturers and traders, from Metallgesellschaft to Sumitomo, who blurred the boundaries between hedging and speculation and ended up losing billions of dollars. In late February and early March, Tsingshan, which had sales of 352 billion yuan ($56 billion) last year, paid its margin requirements on time. Then, on March 7, the nickel price began its parabolic rise, rising from $30,000 per ton to more than $50,000.
LME brokers and their clients were subjected to margin call after margin call. During the day, several large brokers received margin claims worth about $1 billion each. Tsingshan had even more, about $3 billion, which, even after Xiang closed part of the bid in the previous weeks, was more than 150,000 tons. It looks like the company paid at least some of its margin claims early on Monday morning. But his obligations overshadowed the available cash and bank credit. According to the people, when the price rose in London the day after the closing of offices in Asia, Tsingshan began to struggle with payments. This has put Tsingshan's banks and brokers, including JPMorgan Chase, BNP Paribas and Standard Chartered, in a difficult position. They compensated for their trades with Tsingshan by placing their own short positions on the LME. Now they had to pay large margin requirements on the exchange without receiving margin from their client. Some began to rush to buy out nickel contracts, as a result of which the price of nickel soared even higher. It was a classic short squeeze as the pain for Tsingshan, its brokers and other shorts created a self-reinforcing cycle.
Events of the London Metal Exchange
The history of the LME dates back to the early 19th century, when metal dealers drew a circle on sawdust on the floor of a Jerusalem coffee shop in the City of London. Today, in addition to its electronic marketplace, it is one of the last exchanges where brokers still gather in person to shout orders to each other for part of the day. Its participants are industrial metals companies that use the market to offset their price risks, and hedge funds that use it for speculation. Nevertheless, LBM contracts are secured with physical metal in a network of warehouses around the world. By morning, the entire nickel industry was in crisis. The LME has convened its "special committee", a small group of experts on metallurgy and law, authorized to issue emergency rules for the market. They held a hasty meeting on Monday evening, but decided to let the nickel market continue trading. At one o'clock on Tuesday morning, the market opened. Matthew Chamberlain, the LME's chief executive, stayed up to watch. At first, everything seemed calm: prices fluctuated around $50,000 per ton, and he went to bed. He was woken up by a phone call at 5:30 a.m. The nickel market was far from calm. Worse, the chaos spread to other markets: zinc prices jumped 15% in a few minutes to a record high, but collapsed again.
The LME Special Committee held another meeting around 6 a.m. Now they have admitted that they have to suspend trading. At 8:15, the screens stopped flashing, a few hours before the trading session was supposed to start. The price was frozen, below the all-time high, but still at $80,000 per ton. Soon Chamberlain and other exchange executives began receiving frantic phone calls from LME brokers. To date, Tsingshan was not the only nickel company experiencing difficulties, but the largest. Many nickel producers, traders and consumers with short positions on the LBM faced a margin requirement many times larger than they were prepared for. "When it was approaching $100,000, you could feel the damage, and you knew that companies were struggling for their existence," says John Browning, founding partner of the brokerage company Bands Financial Ltd. and a former member of the LME board. They informed the LME that at the current nickel price, the brokers themselves would not be able to pay their margin requirements.
Four or five brokerage houses belonging to the LME would go bankrupt, and this would shake up the global steel industry. The March 8 price movement "created a systemic risk for the market," the LME said two days later. The exchange had "serious concerns about the ability of market participants to meet their margin requirements, which increased the significant risk of multiple defaults." Despite this, Chamberlain said in an interview on March 9 that the solvency of the LME itself has never been in doubt. After that, the LME made an almost unprecedented decision. It was decided to cancel all transactions that took place on Tuesday morning — approximately $3.9 billion. Exchanges, of course, sometimes cancel transactions when technological failures cause one-time errors. But it is extremely unusual for the exchange to cancel entire trading sessions after the fact. It is important to note that this decision meant that traders would not have to pay margin requirements based on the nickel price of 80 thousand dollars. In fact, this brought the market back to the moment when prices closed at $48,078 on Monday. But even at this level, clients of LME brokers were unable to pay margin claims of about $500 million in respect of their short positions on the exchange. And Tsingshan accounts for about half of this amount. And this is only part of the short position that he held directly on the stock exchange - about 30,000 tons. The company had another 120,000 tons or more in short positions off the exchange, in bilateral deals with banks such as JPMorgan Chase & Co. and Standard Chartered Plc. Imagine what happened to those investors who played against Xiang's position.
These traders, who booked trades during a chaotic session early on Tuesday morning, were furious. Among them were some of the biggest names on Wall Street. Goldman Sachs Group Inc. executives later expressed dissatisfaction with the decision to have a telephone conversation with Chamberlain. The executives of Tower Research Capital, one of the oldest electronic market makers on Wall Street, have restricted their trading activities on the LME and revised their membership on the exchange. Others swore on social media: "It is inexcusable for the LME to cancel nickel trading between interested buyers and sellers," Mark Thompson, a former Trafigura and Apollo trader, tweeted. Cliff Asness, founder of AQR Capital Management, a permanent member of the exchange, accused the LME that in 2012 it was sold to the Chinese - Hong Kong Exchanges & Clearing, as well as in "stealing money from conscientiously trading market participants and providing them to Chinese nickel producers and their banks." Chamberlain of the LME continued to defend the cancellation of the auction. "Our primary responsibility is market stability," he told Bloomberg TV. "The prices that were observed during that Asian session, I believe, have lost touch with physical reality." Xiang's short position has now generated losses of billions of dollars. However, the tycoon is not particularly worried.
He has already informed the banks that he wants to maintain his position and asked them to continue financing him despite the losses. It is not yet known whether he will achieve the desired funding. One solution to the situation may be the conclusion by Glencore and Xiang of a deal to use Glencore's long positions to cancel part of Xiang's short positions. However, neither side seems to be very interested in this idea. There is also another option - political. Beijing supports him, Xiang said recently. One thing is for sure: if Xiang can weather the storm, Tsingshan's nickel assets will benefit from higher prices, offsetting losses from short positions. But for the LME, the future is unclear. As of the evening of March 13, the LME has not yet announced a date for the resumption of nickel trading. People familiar with the discussions said the exchange would ideally prefer to wait until Xiang reaches a decision with its banks and brokers. At the same time, the nickel market is in a frozen state, traders cannot close their positions, and many billions of dollars are tied to margin calls. Some believe that this may mean the end of the exchange itself. "Right now, the LME is likely to die a slow death due to the loss of trust in it and its products," Thompson predicted in a tweet. Nevertheless, in its 145-year history, the LME has experienced many scandals, starting with the 1985 crisis in the tin market. Many brokers also stopped their activities due to an incident when a Sumitomo trader hid losses worth more than $2 billion.
These scandals forced the exchange to carry out reforms. A possible solution is to introduce measures such as limiting positions and increasing transparency. Most market participants expect nickel prices to decline again after the crisis around Xiang's position is resolved. And yet, the chaos in the nickel market is likely to be felt in a different way. Some affected traders are already preparing to sue the exchange. There are also traders planning to abandon the nickel contract for the LME - a move that will reduce market liquidity, and most importantly, make it difficult for everyone from mining companies to automotive companies to manage their dependence on prices and access to financing. Hansen of Concord Resources argues that financial investors trading nickel last week should have been prepared for the intervention of the LME. "LBM is, after all, a physical metals market—" he says. "Anyone who uses LME should understand this. It's not just a casino." Well, in difficult times, markets begin to face the effects caused by speculation. However, there is one significant but in this matter: if the speculation market sooner or later separates from the physical asset market, it will become absolutely uninteresting for traders, returning us to the 90s of the XX century. And the point here is not the desire of manufacturers to protect their risks from stock market games. Such prime brokers as GP Morgan, which provide global liquidity, and do not want to lose the whole market because of such "trifles" as large speculations of billionaires, have much more weight here. Therefore, most likely, the LME will lose the last crumbs of trust... and trading will simply go online.
And with caution, the question should now be asked: was it not a cunning intervention of the Hong Kong Stock Exchange (with the support of official China, of course) in order to destroy the reputation of the London Metal Exchange completely? Probably, the US and European governments have something to think about in the light of the question "who will control the trade in physical raw materials if it all takes place at the Asian session?" As a result, it seems that stock games have ceased to attract a lot of financiers this year, moving into the category of political interests. And we can only observe and speculate.
