The future of ferrous scrap futures

The major financial exchanges and futures markets periodically introduce trading tools they hope will convince buyers, sellers and traders of ferrous scrap to engage in hedging and other forms of exchange-related trading.

Such trading tools are widely used by people and companies in the nonferrous scrap sector, but historically they have been repeatedly met with underwhelming responses from the ferrous scrap and electric arc furnace steelmaking industries.

In the interview below, Recycling Today asks veteran scrap trader Nathan Fruchter how and whether some of the latest trading products introduced by exchanges can make a bigger impact on the ferrous market.

Q. How did we arrive at the current pricing system?

A. Ferrous scrap has always been a physically traded commodity. The last price of the day concluded was THE market price. If demand was good and supply tight, sellers would look for a higher price, say $5 up, settling for $1-$3 up. If demand was weak and inventories high, buyers would look for a lower price, $5 down, settling for $1-$3 down. And that's how prices moved up or down, which is what we mean when we say it’s a seller’s market or a buyer’s market. But this is THE market at the end of the day. It’s made by guys like us, the physical buyer or seller.

Q. As a ferrous scrap trader, what are some of the differences you see between LME nonferrous metals and LME ferrous scrap?

A. LOL . . . that’s like comparing apples and oranges. It’s two different worlds. Let’s start with the traditional, always been there, nonferrous sector:

• the chart usually moves up and down many times throughout the day; even when it takes on a clear direction going up or down, it still moves up and down on that path;
• all physical sales contracts are linked to the LME (London Metal Exchange) price and depend on it;
• producers, end users and traders have always had the option to protect themselves from moving markets, or just from having taken a bad position; and
• futures traders have had a chance to make money or lose money by watching the price move all day and trading strictly paper positions (and thus run it as a profit center).

For ferrous, it’s a totally different environment:

• the chart moves in one direction for a few weeks (two to three weeks or even five to six weeks);
• no physical sale is dependent on any LME price; quite to the contrary, it is the LME price that is dependent on the physical price;
• processors, steel mills and traders have never had any option to protect themselves from sudden moving markets, or from just from having taken a bad position. I cannot tell you how many times in my career I have said to myself when I took a wrong position, “Oh damn, I wish I had an LME that allowed me to take a position to counteract my bad trade.” And frankly, the metal recycler who is sitting on inventory that he cannot sell as fast as he wishes in a falling market can have the same regret, and so can a steel mill, sitting on unsold rebar; and
• the concept of futures trading is just not in our DNA.

Q. Do you see this changing any time soon?

A. I think so. The LME finally gave us the tools we need to protect ourselves. And while there’s room to fix a few things and improve on the mechanics of ferrous scrap futures trades, I give the LME a lot of credit for having gone this far (although there’s still a lot of room for improvement). It’s now up to us recyclers, producers and traders to use these tools smartly by actually trading on the LME or another exchange.

Q. People seem reluctant to join the bandwagon. Why do you think that is?

A. For nonferrous metals, the LME was always a fixture in every trader, producer and consumer’s daily life. It’s in their DNA. But for the ferrous guys, it simply was never a thing. People in the physical trade are also very set and comfortable in their old-fashioned ways and don’t take so quickly to changes. That I believe is the main reason why it’s not gaining the traction it needs, to become a permanent fixture in our industry.

While I give the LME a lot of credit, I do have a few gentle words of criticism for them, as I feel they are going about it the wrong way. The LME realizes people are very slow, many even reluctant in joining the bandwagon, so they are using careful words like “it’s not for trading a paper book,” “no playing casino,” or “it’s to protect yourself,” and similar lines I have heard from them in recent months. These are all designed to put a careful conservative spin on it, thinking the safe environment they preach will encourage people to jump on board. But the smart marketing consultants who misguided them did not realize that by saying this, they are not encouraging paper traders who want to buy and sell all day to get involved. But it’s exactly those traders who will breathe life into this market and give it the wings it needs to soar, like with nonferrous metals. You need those paper traders. Draw them in, don’t push ‘em away.

Q. So what can the LME do to change that?

A. While the LME tries to figure out how to make some mechanical changes to its process, and I see several areas in need of change, I really think the next step lies with the financial institutions and clearing houses, to sign up as many steel mills, metal recyclers and traders as they can.

Q. How do you suggest they do that?

A. The experienced physical trader can reel in the recycler and steel mill. For it is that person who has the close personal relationship with the recycler and steel mill that they have worked with closely for many years. There’s a long trust that’s been established there over the years. His word is his bond, or he would not have developed those close personal relationships with these people in the first instance. I have said this before, “The ferrous scrap business is a people business.” The guys in the financial institutions are smart and very good at what they do, but they do not have that close personal relationship that physical traders have built for three or four decades with steel mills and recyclers. It may be time for Wall Street or Canary Wharf to consider adding some physical trader experts to their teams. It is an asset that may serve them well going forward as they try to build up this part of our industry.

Q. Some say that Asian participation is not happening because the price quoted is C&F (cost and freight) Turkey. Is that accurate?

A. That is a misconception by some. You could quote a C&F Timbuktu price, it does not change the mechanics of what the LME offers us. For example, take an Asian steel mill that does an LME trade in order to offset a loss on one of its cargoes that is still on the water. Once the mill closes out that position, the profit it makes on this trade compliments the loss from its original loss-making cargo. The same result would be achieved if a C&F Taiwan price would have been used.

Personally, I think we need an HMS (heavy melting steel) 80/20 price Kaohsiung, Taiwan, for containers. This and the Turkish HMS 80/20 price for bulk, form the backbone of our export business pricing. (Readers can see Fruchter’s prior RTGE contribution for background on how this MPI [market price indicator] has evolved over the years.)

Q. Speaking of a C&F Taiwan price, isn’t there much to be said about using that price instead of the Turkish price?

A. Everyone in the scrap business follows the Turkish price carefully—most practically have their ears pinned to the ground in Turkey. Thus, we know very well that the Turkish buyers go through these extended dry periods where they don’t buy any cargoes for a two-to-three-week period, hoping sellers will become desperate and drop their prices. Last year, they were audacious enough to stay out of the market for six weeks. That’s where the LME ran into a little problem quoting a price. Because no cargoes were sold, the LME still showed the last price concluded as the market price, when in reality buyers and traders knew very well that the market was already $30-to-$40-per-ton lower. Therefore, the Turkish price may not necessarily be the correct market indicator.

The LME should be listening to people like Bill Schmiedel of Sims Metal Management, who in my opinion is one of the very few old timers left in this industry and the best opinion out there today. Bill has suggested that the LME use a CFR CY Taiwan container price, which is a more transparent market and does not go through these lengthy dry periods like the Turkish market. Or use Taiwan as a base price and draw some correlation to the Turkish price and calculate a price differential. If the Turkish buyers go quiet for a week, you still have a market reflective price you can quote on your exchange by applying that differential.

Also, there are some lessons to be learned here from the past. Just look at aluminum, and you can see what needs to happen in steel. The LME went through the same gyrations back in the 1980s trying to get aluminum alloy trading off the ground but could not. That is until Alcoa bought in. At that point, they started to buy their material based on a percentage of the LME close. I think ferrous scrap could gain traction the same way. Until you get the consumers to start to use the LME as a price discovery dynamic, this project risks struggling to get off the ground. This is where the physical traders, who have the relationships with the steel mills, can assist the futures traders.

Q. Your name has come up a lot recently in connection to the LME. You spoke about it briefly in your presentations at Platts steel conference in Chicago and at the BIR Conference in Hong Kong. Are we seeing you transitioning from physical to futures trader?

A. In life and in business, you need to be open-minded and willing to make changes. You cannot remain set in your ways. I have spent 34 years trading physical scrap all over the world, gone where other physical traders dared not go, seen the good, the bad and the ugly. You name it, I’ve done it. I now see an opportunity in LME trading. Like I said earlier in this interview, the futures trading of ferrous scrap depends a lot on the physical trade. I have a lot of experience and knowledge in physical trading and plan to put it to good use.

Nathan Fruchter is the founder of Idoru Trading Corp., an independent ferrous scrap metal trading company that has expanded to include other recycled products. He started his career at Marc Rich & Co. in New York in 1984, He was later sent to London to build Glencore’s European ferrous scrap operations, developing trans-shipment terminals for the group in Rotterdam and Amsterdam in the Netherlands, Antwerp, Belgium, and Gdansk, Poland. He also is the principal of Global Recycling Consult. a New York-based consulting firm assisting companies seeking help and services in the ferrous scrap and related sectors. Fruchter can be contacted at nfruchter@me.com.