managing steel price risk
DESCRIPTION
Business and EconomicsTRANSCRIPT
© 2010 CME Group. All rights reserved 2
Futures trading is not suitable for all investors, and involves the risk of loss. Futures are a
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Steel
Hot-Rolled Coil (US)
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(Turkey)
Iron Ore
62% FE, N. China (Platts)
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Expanding Globally
© 2010 CME Group. All rights reserved 9
What is an Exchange?
An exchange is a location, either physical or electronic, where people gather
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risk associated with holding on an asset that may fluctuate in price
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transaction
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• Price Discovery
Prices are determined:
• In a transparent, competitive market
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• Price risk can be shifted to parties with the opposite risk
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taking the other side of your trade.
CME Group
10
Who Trades Futures?
© 2010 CME Group. All rights reserved
Commercial Hedgers
Hedgers use the futures markets to reduce their exposure to adverse price
movements by transferring their risk to others. Their goal is long-term price
certainty
Examples of Hedgers include:
• Agricultural companies, oil companies, mining firms, and banks: They want to
protect themselves against falling prices for the products or financial assets that they
own or produce and need to sell.
• Manufacturers, food-processing companies, financial firms: These firms want to
protect themselves against rising prices for raw materials or financial assets they
need to buy.
12
© 2010 CME Group. All rights reserved
Investors
• Investors accept price risk in the hope they will profit from correctly
anticipating the market’s movement and direction.
• At any moment, based on their position, perspective and time frame, some
traders will be looking to buy while others will be looking to sell.
Examples of investors include:
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• Proprietary trading firms
• Individual traders
13
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16
Understanding Futures
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What is a Futures Contract?
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– Steel futures are a derivative of HRC steel and are traded on CME’s
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market (These trades can then be novated into the CME Clearinghouse
on a post execution basis)
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What is a Futures Contract?
Futures contracts are agreements to buy or sell a commodity at a date in
the future. Everything about a futures contract is standardized except it’s
price. The price for a futures contract is what’s determined in the trading pit
or on the electronic trading system of a futures exchange.
What is Standardized on a futures contract:
•Commodity
•Quantity
•Quality
•Delivery date
•Delivery point or cash settlement
•Note…All futures are traded on an organized exchanged
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In today’s business environment, effective risk management is a business imperative. It encourages investment and economic progress around the world.
It also depends on the tangible benefits that CME group delivers:
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Benefits
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Hedging
• Hedging is simply a way to manage the uncertainty of prices over
time (taking the unknowns and making them known).
• Hedging minimizes the risk of financial loss due to adverse price
changes over time:
• Improves visibility of returns
• Better manage your cash flow
• Hedging is a means of transferring unwanted risk to those
wanting to take on risk.
• Trying to reduce or eliminate risk by taking two positions that will
offset each other if prices change.
© 2010 CME Group. All rights reserved
Futures Market Terms
• Contango - price of steel for future delivery is higher than the spot
price. Traditionally due to interest rates, insurance and storage
costs.
• Backwardation - price for spot delivery of steel is higher than for
future delivery. Traditionally due to tight supply.
• Convergence - as a futures contract approaches its last day of
trading, there is little difference between it and the cash price.
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27
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Margins
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Margin: Initial Maintenance
Member/Hedge $800 $800
Spec. $880 $800
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• Any/All months accountability: 20,000
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CME HRC Steel Futures Contract
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Contract Specifications for the HRC Steel
Product Symbol HRC
Venue CME Globex, CME ClearPort
Contract Size 20 Short Tons
Hours
All times are NY/EST
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Unit Price Valued in U.S. Dollars and Cents per short ton
Minimum Price
Fluctuations$1.00 per short ton
Listed Contract Months Trading is conducted for 24 months
Floating PriceThe floating price for each contract month is equal to the average price calculated for all available price
assessments published for that given month by the CRU U.S. Midwest Domestic Hot-rolled Coil Steel Index.
Settlement Type Financial
Exchange Rules Contract specifications are in Chapter 920 of the NYMEX rulebook
34
© 2010 CME Group. All rights reserved
HRC Monthly Futures Settle On CRU’s Weekly Price AssessmentsContract is financially settled on the monthly average of price assessments
Underlying Physical Trade: • CRU collects transactions executed for prompt delivery periods
• Report cash deals collected during weekly sample periods
By Month
CRU Calculation Week 1
Price A
Data
Week 2
Price B
Data
Week 3
Price C
Data
Week 4
Price D
Data
Week
5th
Reporting Date Price A
1st
Wed
Price B
2nd
Wed
Price C
3nd
Wed.
Price D
4th
Wed
Settlement Type: Monthly Pricing “Future”
(Price A + B + C + D) / 4 = Settlement Price
Trading: • Contracts are listed by consecutive months out 18 months
• Last trading day is business day prior to last Wed. of each month
Other Issues: • Months with 5 Wednesdays will use all 5 prices for settlement of future contract
• Criteria for inclusion is date of price release, not if assessment falls into month, e.g. 1st
Wednesday of month covers the data for the last week of previous month.
35
(Add 5th week and divide by 5)
© 2010 CME Group. All rights reserved 36
0
2,000
4,000
6,000
8,000
10,000
12,000
14,000
Oct
-08
Dec
-08
Feb
-09
Ap
r-0
9
Jun
-09
Au
g-0
9
Oct
-09
Dec
-09
Feb
-10
Ap
r-1
0
Jun
-10
Au
g-1
0
Oct
-10
Dec
-10
Feb
-11
Ap
r-1
1
Vo
lum
eU.S. Midwest HRC Steel Monthly Volume
and Month-end Open InterestMonth-end OI Monthly Volume
© 2010 CME Group. All rights reserved 37
0.00
100.00
200.00
300.00
400.00
500.00
600.00
700.00
800.00
900.00
1000.00
Oct
-08
Dec
-08
Feb
-09
Ap
r-0
9
Jun
-09
Au
g-0
9
Oct
-09
Dec
-09
Feb
-10
Ap
r-1
0
Jun
-10
Au
g-1
0
Oct
-10
Dec
-10
Feb
-11
Ap
r-1
1
$ p
er
ton
U.S. Midwest HRC Steel Spot Settlement Price
Spot Settlement
$225 $300$160
$340
© 2010 CME Group. All rights reserved
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39
Introduction to the ETI platform 0
Derivatives – A users perspective
Steel Success Strategies
June 20th, 2011
CONFIDENTIAL. This document contains trade secret information. Disclosure, use or reproduction outside Cargill and inside Cargill, to or by those employees who do not have a need to know is prohibited except as authorized by Cargill In writing. (Copyright Cargill, Incorporated 2007. All rights reserved.)
Cargill Confidential
Agenda
• Cargill Overview
• Derivative overview
• Steel Consumer Example
• Service Center Example
1
Cargill Confidential
From our modest roots in the United State’s Midwest, Cargill has grown to be a global leader
2010 FORTUNE Global 500 ($US M)*
1. Wal-Mart Stores 408,214
2. Royal Dutch Shell 285,129
3. Exxon Mobil 284,650
4. BP 264,138
5. Toyota Motor 204,160
6. Japan Postal Holdings 202,196
7. Sinopec 187,518
20. Allianz 125,999
35. Verizon Communications 107,808
• Cargill founded in 1865
• Remains family owned and
headquartered in Minneapolis
• All transactions and relationship with
external stakeholders are bound with
strong ethics and corporate
responsibility.
• Employee numbers total 131,000
in 66 countries
• Financially stable organization with
A2 Long Term debt rating from
Moody’s and A from S&P
• In China we operate over 30 plants
and employ over 4000 people on the
mainland
*Source: FORTUNE magazine July 26 , 2010 2
Cargill 107,900
Cargill Confidential
3
Cargill is composed of 75 businesses organized around four major areas
Agricultural & Animal Nutrition
We buy, process and distribute grain, oilseeds and other commodities to
makers of food and animal nutrition products. We also provide crop and
livestock producers with products and services. We are one of the leading
companies in the meat market. Through Mosaic we are a major producer
of fertilizer.
Food
We provide food and beverage manufacturers, foodservice companies
and retailers with products, and health-promoting ingredients and
ingredient systems.
Financial
We provide our agricultural, food, financial
and industrial customers around the world
with risk management and financial
solutions. These include financing and
exposure to underlying commodity
investments.
Energy, Transportation & Industrial
We serve industrial producers and
consumers of energy and primary raw
materials in oil and gas and metals and
mining. Our freight business is a world
leader in the shipping of dry and wet
goods.
Connectivity across our operations enables us to seamlessly serve our customers
V
Cargill Confidential
Petroleum Power
Steel Raw
Materials
4
The Energy ,Transportation and Industrial (ETI) businesses use our
extensive knowledge of markets, logistics and supply chains to
create value for our customers
We are a global leader in the origination, supply, transportation and
risk management of commodities both for Cargill businesses and
for our external customers
Base Metals
Coal ETI
Platform Emissions
&
Renewable Risk
Management
Services Ocean
Transport
Steel
Products
Natural Gas
Introduction to the ETI platform 5
Steel Hedging – Why?
CONFIDENTIAL. This document contains trade secret information. Disclosure, use or reproduction outside Cargill and inside Cargill, to or by those employees who do not have a need to know is prohibited except as authorized by Cargill In writing. (Copyright Cargill, Incorporated 2007. All rights reserved.)
Cargill Confidential
6
Is this how you feel sometimes when you get home?
How can companies manage price volatility and the risks associated with the
rapid rise and fall of commodity prices?
Cargill Confidential
• Derivatives are dangerous – Hedging and risk mitigation, when correctly done, is a valuable tool
and reduce the market risk, i.e. allows to lock in margin
– Derivatives are only dangerous for those without physical market knowledge and trading/risk management strategy
• Derivatives are only for speculators – No. Industry players (e.g. mills, warehouses and steel consumers)
can use derivatives to hedge risk
– Yes speculators can participate but they bring liquidity and take risk
• Indexes are inaccurate – Indexes are only as good as the data collected
– From our experience, the CRU HRC pricing reflect the physical spot market quite well
• Paper markets cause additional volatility – Steel, Iron ore and Scrap, which historically have had no paper
markets, have been some of the most volatile markets in the world
– Industries with paper can actually be less volatile
7
A Few Myths About Derivatives
It is important to understand the physical market fundamentals behind the
commodity, and then how to apply derivatives to manage the risk
Cargill Confidential
Steel Derivatives
8
Long Steel (producers)
• Steel Mills
• Trading companies
• Service Centers
Short Steel (consumers)
• OEM’s
• Service Centers
• Construction
Financial Companies
• Banks
• Brokers
Hedge Funds
• Private money
• Banks
• Hedge Funds
• Pension Funds
Role and Benefit
Role:
• Bring together buyers and
sellers
• Give market access to end
users
Benefit: Additional service
they can offer their clients.
Role and Benefit
Role: Provide Physical
delivery of product – HRC.
Benefit:
• Ability to hedge and lock in
margin on fixed price
contracts
• Sell forward
Role and Benefit
Role: Provide liquidity
Benefit: Additional market
outlet to invest capital for
investors to express their
view or hedge their risk
Role and Benefit
Role: Provide physical
liquidity of product – HRC
Benefit:
• Ability to hedge and lock in
fixed prices for extended
period of time. (ex. Buy fixed
price derivative contract and
take physical delivery on
floating price CRU.
Cargill
Cargill Confidential
Reduce Risk - Hedging
So your over all profit is fixed
Profit
Time
9
Hedging is removing exposure or risk by offsetting it with something of
the opposite risk
Introduction to the ETI platform 1
0
Steel Hedging – How?
CONFIDENTIAL. This document contains trade secret information. Disclosure, use or reproduction outside Cargill and inside Cargill, to or by those employees who do not have a need to know is prohibited except as authorized by Cargill In writing. (Copyright Cargill, Incorporated 2007. All rights reserved.)
Cargill Confidential •Example: End user (Pipe Maker, Metal Building, Barge Manufacture) CRU HRC price and NYMEX HRC Contract
After a very strong first quarter, the HRC market is now correcting with CRU down from $888 to $758 per ton.
The forward market curve is in backwardation (future price lower than spot) : Oct 2011 traded recently at 730 You trade and your future price is fixed at 730
11
$700
$710
$720
$730
$740
$750
$760
$770
Forward curve
$300
$400
$500
$600
$700
$800
$900
$1,000
4-M
ar
1-A
pr
29
-Ap
r
27
-May
24
-Ju
n
22
-Ju
l
19
-Au
g
16
-Se
p
14
-Oct
11
-No
v
9-D
ec
6-J
an
3-F
eb
3-M
ar
31
-Mar
28
-Ap
r
26
-May
23
-Ju
n
21
-Ju
l
18
-Au
g
15
-Se
p
13
-Oct
10
-No
v
8-D
ec
5-J
an
2-F
eb
2-M
ar
30
-Mar
27
-Ap
r
25
-May
$ p
er
sho
rt t
on
U.S. Midwest Domestic HRC Steel index futures
CRU
Cargill Confidential
Example: CRU HRC Index and NYMEX Contract
Case 1: From current 758 spot prices fall.
At maturity (Oct 2011) the CRU price is 700
Case 2: From current 758 prices rally.
At maturity (Oct 2011) the CRU price is 850
730
850
700
For paper settlement, on end Oct 2011, the buyer gives the seller
the difference ie 730 - 700 = 30 usd/nt
Physical effective sales/buy price: 700
Paper transaction : 30
Total transaction price: 730
For paper settlement, on end Oct 2011, the buyer receives from the
seller the difference ie 850-730 = 120 usd/mt
Physical effective sales/buy price: 850
Paper transaction: -120
Total transaction price: 730
12
On June 20th 2011 the Oct 2011 HRC price has been “fixed” to 730, with the paper
transaction’s gains/losses offsetting any losses/gains on the physical market.
The price risk has been hedged
730
Cargill Confidential
Fixed price to end user • An end user needs to get a fixed price for 3,000 tons of HR sheets delivered to its plant; 1,000 tons
per month over Oct-Nov-Dec 2011. The end user asks a quote from the service center he is working with.
Different options:
• Option 1 – The service center can buy the 3,000 tons ex-mill on the spot market and storesit for 4 months incurring interest, using capital and storage space.
• Option 2 – The service center asks a mill for a fixed price for 3,000 tons delivered over Sept-Oct-Nov 2011. The mills are not willing to give a fixed price or provides a price with surcharge or higher price than current spot market price.
• Option 3 – The service center considers the future market (Nymex HRC) and sees that he can fix the price of its coils at $730, assuming it can buy coils on a floating index CRU.
Option 3: more details
1. The service center agrees with a mill to get 1,000 tons per month of coils produced in Sep-Oct-Nov and delivered to the service center. The coils will be priced out at the average of the CRU during Sept-Oct-Nov 2011.
2. The transportation and processing time will be less than four weeks so that the service center can deliver the sheets on time to the end user if they buy the prior months production.
3. The service center will fix the price of this floating contract by buying Sept-Oct-Nov on the Nymex HR. The service center can find a seller at $730.
With this mechanism in place, the service center is able to offer a fixed price to its customer at $730 + transportation cost + processing cost + margin.
Whatever the price of steel CRU is over this period, both the service center and the end user will have their margin fixed thanks to this contract
Cargill Confidential
1
4
NEED TO UPDATE
Sep-11 Oct-11 Nov-11
Scenario 1: price strong
A HR price (cru) $875 $850 $880
B FIXED PRICE 730 + cost + margin 730 + cost + margin 730 + cost + margin
C buy physical steel $875 $850 $880
(B-C) gain/loss on physical ($145) + cost + margin ($120) + cost + margin ($150) + cost + margin you sell your steel at $780 but buy it from the mill at $875
(A-$735) hedge gain/loss $145 $120 $150 you bought the contract at $730
pnl cost + margin cost + margin cost + margin
Scenario 2: price weak
A HR price (cru) $700 $650 $640
B FIXED PRICE 730 + cost + margin 730 + cost + margin 730 + cost + margin
C buy physical steel $700 $650 $640
(B-C) gain/loss on physical $30 + cost + margin $80 + cost + margin $90 + cost + margin you sell your steel at $780 but buy it from the mill at $700
(A-$735) hedge gain/loss -$30 -$80 -$90 you bought the contract at $730
pnl cost + margin cost + margin cost + margin
The scenarios can be applied to cold-rolled or galvanized as well
Cargill Confidential
Thank You
1
5
Steel price volatility and CRU’s steel
price assessments
Prepared for:
CME Steel Price Risk SeminarNew York, June 20th, 2011
Prepared by:
Robert EdwardsManaging Consultant - Steel
2
Presentation plan
1. Price volatility along the steel supply chain
How much has this really increased?
How have steel industry participants responded?
2. An overview of CRU’s steel price assessments
Which markets do we cover?
How do we arrive at our price assessments?
3. What is the likelihood that steel prices will remain as volatile in the future?
What factors have led to the recent increase in steel price volatility?
To what extent will these factors remain in place?
3
Price volatility along the steel
supply chain
4
Fact: since 2004 there’s been a dramatic increase in price
volatility along the whole steel supply chain
0
50
100
150
200
250
300
350
400
450
Jan-
97
Jan-
98
Jan-
99
Jan-
00
Jan-
01
Jan-
02
Jan-
03
Jan-
04
Jan-
05
Jan-
06
Jan-
07
Jan-
08
Jan-
09
Jan-
10
Jan-
11
CRUspi Iron ore Coking coal CRUmpi
“Steel” prices, January 2007 = 100
Data: CRU Analysis.
5
Focussing on finished steel prices, the standard deviation
in the CRUspi global index has increased almost four-fold
since 2004
0
5
10
15
20
25
30
35
40
45
50
1994
1995
1996
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
2010
CRU Steel Price Index (CRUspi), standard deviation
Data: CRU Analysis.
Pre-2004 average: 4.4 points
Post 2004 average: 16.9 points
6
Meanwhile, the range between the lowest and highest
observations seen during any given year – another popular
measure of volatility – has shown a similar increase
0
20
40
60
80
100
120
140
160
1994
1995
1996
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
2010
CRU Steel Price Index (CRUspi), range
Data: CRU Analysis.
Pre-2004 average: 12.7 points
Post 2004 average: 51.7 points
7
This increased volatility has occurred against a back-drop of
very high prices and so it was initially buyers who tended to
be the most proactive in their response
50
75
100
125
150
175
200
225
250
1994
1995
1996
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
2010
CRU Steel Price Index (CRUspi), mean
Data: CRU Analysis.
Pre-2004 average: 93.3 points
Post 2004 average: 167.6 points
8
Steel industry participants have responded to this increase
in price volatility in some imaginative ways
Spot buyers have looked at ways to transfer their price risk:
they’ve entered into “variable cost contracts” with their customers.
they’ve introduced surcharges.
they’ve made use of the “Over The Counter” (OTC) and exchange traded derivative
products available.
Contract buyers, meanwhile, have moved away from long term, fixed price
contracts and have increasingly shown a preference for “index-based”
pricing programmes.
these programmes can be based on the actual assessment of the market price (index),
although tend to be based on the changes in this assessment.
Index-based pricing programmes: example 1
Using the absolute index value
Jan Feb Mar Q1 Apr May Jun Q2 Jul Aug Sep Q3
Index
price 655 625 615 632 558 540 500 533 450 425 510 462
Selling
price - - - - - - - 632 - - - 533
Hot-rolled coil, US$/s.ton
Example: The price received for Q3 shipments
(US$533/s.ton) is equal to the average index
value for the previous quarter (US$533/s.ton).
Index-based pricing programmes: example 2
Using the period-on-period change
Jan Feb Mar Q1 Apr May Jun Q2 Jul Aug Sep Q3
Starting price - - - 650 - - - - - - - -
Index price 655 625 615 632 558 540 500 533 450 425 510 462
Change in index - - - (27) - - - (99) - - - (71)
Change in price - - - - - - - (27) - - - (99)
Selling price - - - - - - - 623 - - - 524
Hot-rolled coil, US$/s.ton
Example: The price received for Q3 shipments (US$524/s.ton)
is equal to the previous quarter’s price (US$623/s.ton), plus the
index change for the previous quarter (minus US$99/s.ton).
Starting price is arrived at through negotiation and is used to
determine the actual price for the first quarter of the programme
only: thereafter the previous quarter’s price is used and the
quarter-on-quarter change in the index is applied to this.
From previous quarter.
11
An overview of CRU’s steel
price assessments
12
CRU’s steel price assessments - coverage
CRU makes assessments of over 200 steel market prices on a regular
basis.
CRU’s assessments cover the following commodities:
steelmaking raw materials, including iron ore, coking coal, coke, scrap, pig iron, DRI and
HBI, as well as bulk ferroalloys.
semi-finished and finished steel products, including billet and slab, wire rod, reinforcing
bar, merchant bar, structurals, hot-rolled coil, cold-rolled coil, galvanised coil and plate.
CRU’s assessments cover the following regions:
North America, Europe, India and East & South East Asia.
major import and export prices.
and assessments of local prices in South America and the CIS coming soon.
13
Each of our assessments adopts either “level 1.0”, “level
1.5” or “level 2.0” procedures, depending upon the demands
of the final market
Level 1.0 Level 1.5 Level 2.0
Frequency: Monthly Weekly Weekly
Data collection method: Telephone survey Electronic via CPCP Electronic via CPCP
Data requested: Price only Price only Price and volume
Audit clause: No No Yes
Calculation method: “Subjective” average Arithmetic average Weighted average
Analyst input: Yes Yes Yes
14
Level 2.0 assessments
Product definitions:
Refer to standardised trades and are strictly adhered to.
Example: US domestic price for hot-rolled coil.
spot purchases for forward delivery, which will vary.
fob mill East of the Rockies.
base price for commercial quality material, in coils of at least 40,000lbs.
within standard tolerances.
extras for gauge and width are excluded.
delivery charges and taxes are excluded.
raw materials surcharges (where applicable) are included.
15
Level 2.0 assessments
Data providers:
Collectively represent the whole supply chain.
Industry participants must satisfy our criteria for becoming a data provider.
they must be in a position to submit data relating to actual transactions.
Data providers are required to sign a “data providers’ agreement”.
this covers their responsibilities and confidentiality issues.
Data providers are required to provide both price and volume data.
volume data is equal to the volume of orders to which the contributor’s price submission
refers.
all submitted data should relate to orders that have been placed in the previous week.
16
Level 2.0 assessments
Data providers: what do they get out of it?
The opportunity for their transactions to be taken into account…
…and the following package of benefits:
access to CRU’s historical price assessments for the market(s) that they contribute data.
CRU’s weekly price assessments for the market(s) that they contribute data.
access to CRU’s steel industry analysts via monthly calls.
an annual “white paper” relating to the market(s) that they contribute data.
the opportunity for a CRU steel analyst to present CRU’s outlook at their offices.
introductory offers for CRU’s analysis reports, conferences and license agreements.
17
Level 2.0 assessments
Raw data collection and storage:
Data is collected electronically via the “CRU Price Collection Platform”
(CPCP).
data providers are provided with a username/password which gives access to the CPCP.
price and volume data is submitted via the CPCP.
Data collection is looked after by “CRU Indices”.
this is a company in itself and is separate from other aspects of CRU’s business.
Data storage.
incoming data is stored on a database for verification if required.
18
Level 2.0 assessments
Error detection procedures – raw data:
Specific statistical checks are in place to detect errors in data submissions.
each price submitted must fall within the “acceptable price range” set by CRU’s steel
analysts.
each data providers’ price submission is compared with its previous price submissions.
each data provider’s volume submission is compared with the average volume of its
previous submissions.
Those submissions which fail these checks, and which are deemed
implausible, are not included in the calculation of the final assessments.
Beyond these specific checks, the “data providers’ agreement” gives CRU
the right to verify the data submitted.
19
Level 2.0 assessments
Calculation procedures for final price assessments:
CRU’s assessments are a weighted average of the submissions received.
Weightings are determined by the volume data submitted.
The maximum volume weighting given to an individual price submission is 30%.
Calculation of the final price assessments is system generated, under the
control of “CRU Indices”.
20
Level 2.0 assessments
Error detection/resolution – final price assessments:
Final assessments are subject to an “observation period” before release.
CRU steel analysts “pass” the final price assessments.
those that appear reasonable are released for publication.
if an assessment is flagged-up as suspect:
the index team audits the data collection/assessment calculation procedures.
if this fails to identify an error, a “cleansed version” of the raw data (which will include
the price and volume information of each participant, but NOT their identity) is sent to
CRU’s steel analysts.
any suspect contributions are removed from the price assessment calculations.
No adjustments are made after the assessments have been published.
21
Level 2.0 assessments
Dissemination of the final price assessments:
CRU’s assessments of steelmaking raw materials prices.
available via CRU’s Steelmaking Raw Materials Monitor and license agreements.
CRU’s assessments of steel metallics prices.
available via CRU’s Steel Metallics Monitor and license agreements.
CRU’s assessments of steel long products prices.
available via CRU’s Steel Long Products Monitor and license agreements.
CRU’s assessments of steel sheet products prices.
available via CRU’s Steel Sheet Products Monitor and license agreements.
CRU’s assessments of steel plate products prices.
available via CRU’s Steel Monitor and license agreements.
22
What is the likelihood that steel prices
will remain as volatile in the future?
23
The recent increase in price volatility along the steel supply
chain has been driven primarily by a renewed period of
strong growth in steel demand, driven by emerging markets
0
200
400
600
800
1,000
1,200
1,400
1,600
1,800
2,000
1900
1905
1910
1915
1920
1925
1930
1935
1940
1945
1950
1955
1960
1965
1970
1975
1980
1985
1990
1995
2000
2005
2010
World demand for steel, crude steel equivalent, m tonnes
Data: World Steel Association, CRU Analysis.
Post-industrial revolution Post-war reconstruction Developed economies’
stagnation
BRIC
growth
6%1%7%CAGR: 3%
24
In fact, the apparent consumption of finished steel in BRIC
countries increased at a CAGR of 15% between 2001 and
2010, compared with around 1% for the rest of the world
0
50
100
150
200
250
300
350
400
450
2001 2002 2003 2004 2005 2006 2007 2008 2009 2010
World BRIC Other world
Apparent consumption of finished steel, m tonnes per quarter
Data: CRU Analysis.
25
But let’s face facts: we say it’s been BRIC countries that
have driven the growth in steel demand – it’s really just
been China
0
25
50
75
100
125
150
175
200
225
2001 2002 2003 2004 2005 2006 2007 2008 2009 2010
China India Russia Brazil
Apparent consumption of finished steel, m tonnes per quarter
Data: CRU Analysis.
26
Such growth has put large parts of the steel supply chain
under enormous pressures, and at times supply has simply
been unable to keep pace with the growth in demand
0
2,000
4,000
6,000
8,000
10,000
12,000
14,000
16,000
18,000
Jan-
99
Jan-
00
Jan-
01
Jan-
02
Jan-
03
Jan-
04
Jan-
05
Jan-
06
Jan-
07
Jan-
08
Jan-
09
Jan-
10
Jan-
11
Baltic Capesize Index
Baltic Capesize Index
Data: Baltic Exchange, CRU Analysis.
27
The upshot is that raw materials and finished steel markets
have often ended up in shortage, and it’s the dipping in and
out of shortage that has driven the increase in price volatility
0
50
100
150
200
250
300
350
400
450
Jan-
97
Jan-
98
Jan-
99
Jan-
00
Jan-
01
Jan-
02
Jan-
03
Jan-
04
Jan-
05
Jan-
06
Jan-
07
Jan-
08
Jan-
09
Jan-
10
Jan-
11
CRUspi Iron ore Coking coal CRUmpi
“Steel” prices, January 2007 = 100
Data: CRU Analysis.
28
A further factor that has contributed to price volatility,
particularly for finished products, relates to the physical
speculation that many buyers engage in
2
3
4
5
6
7
8
9
Jan-
99
Jan-
00
Jan-
01
Jan-
02
Jan-
03
Jan-
04
Jan-
05
Jan-
06
Jan-
07
Jan-
08
Jan-
09
Jan-
10
Jan-
11
End-month inventories
US service centre inventories of carbon flat-rolled products, m s.tons
Data: MSCI, CRU Analysis.
29
Looking ahead, steel demand is forecast to grow at a similar
pace to that seen during the last ten years, although the
contributions of BRICs vs developed countries will be closer
0
200
400
600
800
1,000
1,200
1,400
1,600
1,800
2,000
1900
1905
1910
1915
1920
1925
1930
1935
1940
1945
1950
1955
1960
1965
1970
1975
1980
1985
1990
1995
2000
2005
2010
2015
World demand for steel, crude steel equivalent, m tonnes
Data: World Steel Association, CRU Analysis.
6%
1%
7%
CAGR: 3%
6%
30
And while we do not expect any prolonged periods of
physical shortages, the supply chain will at times struggle to
keep pace with the growth in demand…
…leading to short periods of physical shortages…
…leading to continued price volatility
31
Thanks for your attention!
32
Please address questions or comments relating to this
presentation to:
Robert Edwards
Managing Consultant - Steel
CRU Group
31 Mount Pleasant
London
WC1X 0AD
Tel.: +44 20 7903 2119
Fax.: +44 20 7833 5634
Email: [email protected]
CME Group – CMA NAVigateTM
OTC Derivatives Valuations
Transparency
Independence
Operational efficiencies
20th June 2011
Agenda
A brief break away from your metals world
An Introduction to CMA and our Core Skill Sets
CMA NAVigate - Independent valuations services
Data, pricing, challenge/ resolution Process
The importance of independent valuations
Brief thoughts on price discovery:
Auctions for price discovery – Elysian Liquid Platform
Appendices
2
A Break from Your Metals World
An introduction to CMA
What we do in the Credit Markets
Can it be applied to the Steel Market?
3
About CMA (a CME Group Company)
CMA Corporate Overview:
CMA is a leading global financial information and technology services company
with offices in London and New York
We provide independent data, valuations, and OTC pre-trade pricing technology
solutions in order to bring clarity to the OTC markets, reduce risk and improve
operational efficiency
Our client base includes the most significant institutional participants in the
financial markets such as Investment Banks, Hedge Funds, Asset Managers, and
Fund Administrators
CMA has been owned by the CME Group, the world’s largest derivatives
exchange, since 2008
Recently CMA has taken charge of LIQUIDTM - an adaptable screen based
system for communicating market prices and holding auctions
4
A Brief Break Away From Metals
Firstly, I am not a metals man!
My product specializes in providing independent valuations for OTC
derivative contracts for:
Credit Default Swaps
Interest Rate Swaps
FX Options
Our core skills include:
Unstructured data collection, cleaning, modeling
Transparency of valuations process
Easy to use tools for managing the valuations process
I ask whether these techniques and services may be applied to
the new steel markets… and I could become a metals man.
5
CMA NAVigate
Independent valuations service for
OTC Markets
Independent, transparent valuation services
are key to healthy market function
6
Challenges in Providing Valuations in OTC Derivative Markets
Firms trading OTC derivative products face a challenging mark-to-
market environment:
Market structure issues
Fragmented OTC pricing (difficult to collect, liquid v’s illiquid)
Human discretion vs. automation
Operationally burdensome
Tedious manual tasks
Data and Model Risk
Investor & regulatory scrutiny
Demand for automation, transparency
Increased expectation of independence and arms-length valuation
7
CMA and NAVigate: Core Skills
How exactly do CMA & Navigate help in the valuations process?
“All OTC Valuations are the product of: Initial data, Modeling assumptions,
Price Creation, Price feedback… Leading to more initial data (Appendix I)”
CMA captures & cleans market data (millions of OTC prices a week)(Appendix II)”
NAVigate extrapolates data sets using market standard techniques
NAVigate prices derivative contracts using in house pricing engines
NAVigate presents the results, inputs and methods used
The result: independently generated, transparent, accurate valuations
8
CMA NAVigate Overview
9
Web-based, multi-asset class valuation platform
Applications
• Independent , transparent Valuations with Challenge function
• Reporting, Outsource difficult to manage model risk and data risk.
• Third parties: simplify valuation-based interaction between hedge funds,
administrators, custodians and other third parties such as auditors.
Work
Flow
Bespoke report creation
Transparent data inputs
Generate reports on the fly
Tiered user access for
collaboration on valuation details
Centralize access across
departments and third parties
Immediately resolve trade
upload issues
Flexible mapping for trade id’s
Add/delete trade on the fly
Complete transparency right
down to cashflows of each trade
Create and manage sub-
portfolios
Integrated Support
Integrated IM, email & phone support
Screen sharing allows for quick problem
resolution
Wiki based knowledge base online
The NAVigate Front End
10
•Data inputs
•Modeled data
•Calibrated models
• Detailed outputs
•Web delivered
•Intuitive
•Interactive Challenge Service
•Clean timely valuation reports
CMA NAVigate Valuation Service application to Steel Markets?
In general a complete valuations service in any market
needs some or all of NAVigate’s features
Correctly executed, third party pricing, with the ability to
challenge and give feedback provides a healthy
environment for market functions.
Could CMA NAVigate help aspects of the Steel market?:
Market data collection
Market standard pricing techniques
Providing a level of third party independence
This should lead to healthy market innovation.
11
LIQUIDTM– Overview
Independent valuations service for
OTC Markets
Independent, transparent valuations
are key to healthy market function
12
Key Features of LIQUIDTM Use in Auctions
INFORMATION TO FOLLOW
13
Appendices
Appendix I:
General Valuations process for OTC
Derivative products
Appendix II:
Unstructured data flow in CDS markets
Appendix III
Key websites to find out more
Appendix I: General Valuation Process for Derivative Product
Nothing can be priced in a vacuum. Pricing in any market is an
iterative process based on feedback:
15
Collect observable market price data
Extrapolate observable data
Price derivative structures using extrapolated
data set and calibrated models
Receive Feedback from the
Market on your price in the form
of more prices
Collect this new observable
market data!
Adjust assumptions and models.
Refine pricing
Price derivative structures again
Receive Feedback from the
Market on your price in the form
of more prices
Collect this new observable
market data!
7/6/201116
Appendix II: Flow of information in Credit Default Swap Markets
Banks (The sellside)
-Provide the liquidity. They
are on one side of every
deal
HF and Asset managers
– (The Buyside)
Inter dealer brokers
Traders at Banks provide 2 way
markets over Bloomberg messages,
Bloomberg IM to the Buyside
Banks use Interdealer brokers to
enable anonymous trade amongst
themselves.
They send Bloombergs as well as IM
chat and voice to communicate the
markets.
The IDB’s use bloomberg and chat to
communicate markets.
Markets are 1 way
Bloomberg mail , attachments and Voice
- information is highly unstructured
Hedge funds receive thousands of
messages every day containing many
more thousands of quotes
Bloomberg mail , attachments and Voice
- information is highly unstructured
Appendix III – References for more information
Find out more about CMA:
http://www.cmavision.com
Find out more about NAVigate:
http://www.cmavision.com/products-solutions/independent-otc-valuations/
Find out more about LIQUIDTM
http://www.elysiansystems.co.uk/products.html
Find out more about CME Metals:
http://www.cmegroup.com/trading/metals/
17
For more information on managing steel price risk, please contact:
Patricia Cauley, Director of Metals [email protected]