Tsingshan Holding, the large Chinese nickel firm, is at the center of the LME nickel market failure through its large short positions in nickel futures. We don’t have all the information on the size of its short portions, but it has been reported to be at least 100,000 tonnes going into Tuesday’s market. Some say Tsingshan’s loses last week may be close to $8 billion dollars.
Tsingshan shows revenue of over $42 billion and profits of $1.1 billion for its last fiscal year ending 8/2/21. It has assets of $13 billion and total stockholders’ equity of $4.5 billion and is the largest Chinese private steelmakers.
The loses, if true, could wipe out the firm and will exceed the LME clearinghouse emergency capital funds. It is no wonder trades were canceled by the LME and trading has not resumed. The Shanghai Futures Exchange has also halted nickel trading on Thursday.
We cannot say that it was a hedging position against cash nickel holding or a speculative bet on falling prices. We do know that sanctions on Russia which produces about 17% of high-purity nickel production is a disruptive shock that led to a large price increase like the increases in many other commodities. This has placed pressure on all short hedgers in nickel.
A large short futures position requires increases in margin to be posted at the clearinghouse as part of the usual market to market process. Under the normal clearing arrangement, the clearing brokers are required to post the margin and then get the money from their customers. The hedger is on the hook to the clearing brokers who are on the hook to the clearinghouse. The clearinghouse operates under a “loser pays/no credit” model. Margin is required, no exceptions, and no credit from the clearinghouse. Required funds are adjusted every day.
Brokers and banks may extend financing to the customer who may be short cash and long collateral, in this case nickel. However, if the margin exceeds the bank lines already in place, the hedger must either cover their short positions or find more cash from other sources.
Tsingshan is in a classic short squeeze position. With rising prices and inability to cover margin or enough nickel to make delivery, it must buy in a rising market when all the other players know you are in a difficult situation. There is a non-linear increase in price which only makes the margin problem worse. Tsingshan specializes in nickel pig iron as low-grade alternative which is not deliverable to LME warehouses.
Is this short squeeze a true oddity in the marketplace? The answer is no. The hedging problem is also well-known. All we have to do is go back to the collapse in 1993 of Metallgesellschaft from hedging loses from using short futures to offset longer-dated positions as the poster child of this type of problem. Again, the dust still has to settle, but hedging with futures that require daily mark to market with cash against physical cash positions that cannot be immediately turned into liquid cash is a dangerous position if there is a large price shock.
The position is all the riskier if the short-dated futures are decoupled from long-dated nickel prices. The value of the collateral will not rise enough to offset the short position risk. This positioning becomes more difficult if bank lending requires a large haircut on cash physical positions. Generally, the futures clearinghouse model of immediacy is at odds with bank credit lines which may require some time for execution.
The cancelling of trades and closing the LME market is a means of giving the market to stabilize and allow Tsinghan to find the bank financing necessary to meet even abridged margin. It is reported that JP Morgan along with a set of other banks will provide the margin financing. Of course, if the market price falls, Tsinghan’s short positions will increase in value and allow for further relief.
No comments:
Post a Comment