HKEx to use LME deal as springboard for China growth

The proposed £1.4 billion takeover of the London Metal Exchange by Hong Kong Exchanges & Clearing is about diversification beyond cash and equity derivatives and forms a core part of HKEx's RMB strategy, according to the Asian bourse.

The proposed £1.4 billion takeover of the London Metal Exchange (LME) by Hong Kong Exchanges & Clearing (HKEx) is about diversification beyond cash and equity derivatives and forms a core part of HKEx’s RMB strategy, according to the Asian bourse.

While some in London have expressed concern about Beijing’s influence via the Hong Kong government’s appointment of some of HKEx directors, others have suggested a lack of pull in the Mainland may hamper its expansion into the lucrative Chinese commodities market.

Following last Friday’s official announcement of the bid, approval must now come from 75% of shares cast at an extraordinary meeting next month. The shareholders, including J.P. Morgan and Goldman Sachs, of one of the world’s last major member-owned exchanges, are expected to vote in favour of the takeover, which will land them a considerable windfall as the deal values LME at more than 120 times annual operating profit.

HKEx has also agreed not to alter the business model of the London commodities exchange until 2015, virtually guaranteeing profits for the current members, who are also traders on LME. After that, HKEx is expected to raise what are regarded as the low fees currently charged to traders.

“The agreement fits extremely well with HKEx’s strategy to diversify and expand outside its core cash equity and equity derivatives markets into fixed income, currency and commodity products. The expansion into commodities trading is part of HKEx’s ‘chapter three’ strategy that has been well signalled to the market,” an HKEx spokesperson told “The growth of offshore RMB in Hong Kong and the continued establishment of a presence in Hong Kong by Mainland Chinese financial firms and corporates are significant drivers of this strategy. China’s continuing growth and internationalisation present HKEx with significant opportunities.”

HKEx is looking to cash in on the strong growth in metals trading volumes, which rose 22% in 2011 and are up 18% so far this year, as well as providing, “a level of counter-cyclicality vis-a-vis the core cash equities business.”

Access to the Chinese market, including opportunities for data distribution, Mainland market participants, RMB products and warehousing possibilities, are also priorities, according to HKEx, which is also looking at the possibility of “using the LME platform to grow into other commodities classes”.

Going vertical

HKEx said it intends to, “strengthen and enhance the LME’s existing operations through implementing self-clearing to create a vertically integrated exchange and by leveraging HKEx’s considerable IT expertise, infrastructure and resources to enhance the LME’s current IT platform.”

Following more than a year of market analysis beginning in early 2011, the bourse determined that it would be challenging for HKEx to develop a commodities business organically.

“The LME’s decision to put itself up for auction late last year presented a once-in-a-lifetime opportunity to acquire a leading commodities franchise,” added HKEx.

As for concern about Beijing’s influence, the bourse maintains, “China does not own HKEx or have management control. HKEx has embarked on this transaction for its own sound commercial reasons and in the interests of all of its shareholders. HKEx is a publicly listed company with a wide base of institutional and retail shareholders which is run with scrupulously high levels of corporate governance.”

The bourse pointed out that there are also various legal and institutional safeguards such as Hong Kong’s Basic Law, which is based on the principle of one country, two systems, i.e. one country: China; two systems: Hong Kong and the Mainland and that Hong Kong has its own independent legal and regulatory system based on English Common Law.

Whether HKEx is overpaying for LME, and whether it can successfully leverage access to the crucial Chinese commodities market, appears to be concerning investors. Its share price fell from a Friday close of HK$112.4 to a low of HK$106.30 on Tuesday, before recovering to HK$109.40 on Wednesday.