HKEx's takeover of LME is 'risky bet' that could yet pay off

PUBLISHED : Monday, 21 July, 2014, 3:18am
UPDATED : Monday, 21 July, 2014, 3:18am

While the Hong Kong Exchanges and Clearing has been busy getting into bed with former rival Shanghai to develop cross-trading of stocks, some brokers wonder whether the local bourse was wise to cut a big cheque to buy the London Metal Exchange.

"It is hard for the HKEx to break even by paying such a high price to buy the LME. The takeover is a short cut for the HKEx to expand into commodity trading but the high price means it is a risky bet," said Joseph Tong Tang, executive director of Sun Hung Kai Financial.

HKEx spent £1.39 billion (HK$18.41 billion) in 2012 to buy the LME as the local bourse wanted to cut its reliance on initial public offerings and stock turnover, which have both been slipping over the past few years.

The price represents 180 times the post-tax profit of the LME in 2011.

The LME deal has also added costs for the Hong Kong exchange. In the first quarter, HKEx had to make provisions for £200,000 in legal costs due to the pending case between the LME and Russian aluminium giant Rusal over the exchange's plan to reform its warehouse policy.

Legal fees by HKEx rose 170 per cent last year to HK$146 million, partly because LME is facing 26 lawsuits in the US for alleged anti-competitive and monopolistic behaviour. LME denied the allegations.

Other metal industry participants said the purchase of LME made sense.

Haywood Cheung Tak-hay, president of Chinese Gold and Silver Exchange Society, told the Post that other derivative exchanges such as Singapore's SGX and the Tokyo Commodity Exchange (Tocom) in Tokyo considered an alliance with Hong Kong seriously only after the LME deal was done.

"The takeover allowed the HKEx to have full ownership and control of the LME which is much stronger than an alliance," Cheung said. "An alliance is just a gentleman's agreement for cooperation without obligation. The LME now serves many mainland Chinese investors and they are now indirectly the clients of HKEx."

LME chief executive Garry Jones told the Post in April that high-level talks were under way to form a potential alliance between the LME with the three mainland commodity exchanges in Shanghai, Dalian, and Zhengzhou.

The LME deal came at a time when exchanges were racing to buy out rivals, explaining the high price tag as HKEx fended off dozens of bidders over the 10-month long process.

Other exchanges who tried the merger route have failed.

In 2010, the Singapore exchange planned to merge with Australia's ASX. In 2011, Deutsche Boerse and NYSE Euronext held talks for a possible merger, while London Stock Exchange disclosed plans to merge with the Toronto Stock Exchange. Their plans were all scuppered by regulators or governments leery of decreasing competition.

HKEx earlier this month tied with SGX to link up their data centres in order to make it easier for brokers to cross-trade derivative products.

Last week, HKEx allowed Tocom to use its trading hall to promote its products while the Tokyo bourse will help the LME to promote it in Japan from September.

The Tocom also got a licence from the Securities and Futures Commission for Hong Kong brokers to directly access its market, although some dealers are wondering if investors in Hong Kong would hedge rubber futures in Japan, Asia's top rubber market. They also wonder what Tocom products would draw the attention of investors in Hong Kong.

A European commodity broker, who attended the Tocom meeting in Hong Kong, said his firm recently set up in Hong Kong due to the LME deal.

"The LME takeover has led us to believe Hong Kong could be a commodity centre," he said.

Cheung said concerns over costs were misplaced. "The price … may not look so expensive 10 or 20 years later when it delivers real profit," he said.