The UK markets watchdog opened an investigation into the London Metal Exchange focusing on potential misconduct during last year’s massive nickel short squeeze, escalating pressure on the embattled exchange and raising the prospect of financial penalties.
(Bloomberg) — The UK markets watchdog opened an investigation into the London Metal Exchange focusing on potential misconduct during last year’s massive nickel short squeeze, escalating pressure on the embattled exchange and raising the prospect of financial penalties.
The probe by the Financial Conduct Authority’s enforcement division is the first public action of its kind targeting a UK exchange, and will focus on the LME’s actions, systems and controls in the run-up to the suspension of the nickel market a year ago. The Bank of England, which regulates the LME’s clearinghouse, said separately that its governance and risk management must be improved, and that it plans to appoint an independent monitor.
Nickel prices spiked 250% in a little more than 24 hours last March in a short squeeze centered on top producer Tsingshan Holding Group Co., prompting the LME to halt the market for a week and, most controversially, cancel billions of dollars of trades at the highest prices.
The FCA said on Friday that its new enforcement investigation will cover the period between Jan. 1 and the suspension of trading on March 8, suggesting the subsequent decision to tear up the trades may fall out of the scope of the probe. The regulator said it will not comment on the matter further, but it states on its website that it begins enforcement investigations “where we have reason to believe serious misconduct may have taken place.”
The crisis has thrust the LME into the global spotlight: the International Monetary Fund criticized its governance, while Citadel Securities’ Ken Griffin described the events as “one of the worst days in my professional career in terms of watching the behavior of an exchange.” The LME is being sued by hedge fund Elliott Investment Management and trading firm Jane Street over its decisions during the crisis, and its nickel market — the global benchmark — is still dogged by illiquid and erratic trading. The FCA and Bank of England announced initial reviews into the matter in April.
“Since the suspension the FCA has made clear its expectation that the LME should consider carefully how the events of March 2022 should shape its future approach on market structure, including the role of transparency in facilitating effective risk management,” the FCA said in its statement.
While the FCA and BOE have not provided details of the findings of their respective reviews, the LME in January published the results of an independent report it commissioned into the crisis, which laid bare a litany of failings by the exchange in the run-up to March 8 — including the fact that the LME had failed to identify and police large positions in the nickel market. Most of the large short position held by Tsingshan was in the over-the-counter market, which the exchange doesn’t control and oversee.
The LME has said it was not aware of the size of Tsingshan’s position when prices began to surge in early March following Russia’s invasion of Ukraine. The exchange has defended its decisions as necessary to prevent a $20 billion margin call that would have sent the market into a “death spiral.”
Nearly a year on from the squeeze, the LME nickel market remains plagued by low levels of liquidity that are contributing to erratic price swings and undermining confidence in its role as a global benchmark. The bourse is planning to finally reopen the market during Asian trading hours later this month, which it hopes will provide a significant boost to liquidity.
The BOE intends to appoint an independent monitor to assess and report back on the clearinghouse’s progress in implementing changes, which are needed “to enhance the resilience of LME Clear’s clearing services and maintain public confidence in the stability of the UK financial system, it said in a statement.”
LME Clear will need to strengthen its governance arrangements, increase independence in management and governance, and improve on its wider risk management, after several shortcomings were identified in the recent reviews, the BOE said.
The LME said it will cooperate with the FCA’s investigation, and LME Clear will incorporate the BOE feedback into a set of reforms that the exchange is planning to publish by the end of the quarter.
–With assistance from Jack Farchy.
(Updates with details throughout.)
More stories like this are available on bloomberg.com
©2023 Bloomberg L.P.