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Steel swaps explained

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    Steel swaps explained Steel swaps explained Presentation Transcript

    • Introduction to Steel Swaps +44 20 7090 1126 steel@freightinvestor.com http://bit.ly/steel-reports http://bit.ly/steel-reports 1
    • Agenda 1. Overview of the Steel Market 2. What is a Steel Swap? 3. How are Steel Swaps Used? 4. Worked Examples / Solutions 5. Available Contracts 6. Summary & Next Steps http://bit.ly/steel-reports 2
    • Overview of the Steel market Global Steel Production VS Chinese Steel production (1,000 Metric Tons) 1,600 1,400 1,200 1,000 800 600 400 200 0 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010e 2011e 2012e World China Global Steel Trade (1,000,000 Metric Tons) 500 400 300 200 100 0 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 http://bit.ly/steel-reports 3
    • Top Steel Importers & Exporters TOP 10 WORLD TOP STEEL EXPORTERS WORLD TOP STEEL IMPORTERS Million Tons Million Tons Position (2009) 2008 2009 % Change Position (2009) 2008 2009 % Change 1 Japan 37.1 33 -11% 1 China 15.4 22 43% 2 EU27 33.8 30.1 -11% 2 EU27 40.1 20.8 -48% 3 Russia 28.2 27.4 -3% 3 S Korea 28.1 19.9 -29% 4 Ukraine 28.4 23.8 -16% 4 USA 28.4 14.3 -50% 5 China 56.2 21.7 -61% 5 Turkey 13.1 10.1 -23% 6 S Korea 19.7 19.6 -1% 6 Vietnam 7.9 9.4 19% 7 Turkey 18.3 17.2 -6% 7 Thailand 11.5 8.9 -23% 8 Taiwan 9.8 9.8 0% 8 Iran 7.8 8.6 10% 9 USA 12.6 8.8 -30% 9 India 6.8 7.7 13% 10 Brazil 9.1 8.5 -7% 10 Taiwan 9.1 6.4 -30% http://bit.ly/steel-reports 4
    • Volatility in the Steel Markets • Steel prices are extremely volatile making it very difficult to predict future cash-flows. • A reliable ‘risk management’ tool to control exposure to volatility is clearly needed. • Such a mechanism allows for flexible forecasting of [ costs / revenues ] into the future. Hot Roll Coil - China [ USD / MT ] Hot Roll Coil - Northern Europe [ EUR / MT ] Cleatrade ( 01/2009 - 11/2010 ) TSI ( 05/2006 - 11/2010 ) Spot [08/11] 652 [ 1 ] MTD [NOV] 641.78 Spot [08/11] 511 [ -4 ] MTD [NOV] 513.00 QTD [Q4] 641.45 YTD [2010] 619.63 QTD [Q4] 531.50 YTD [2010] 527.16 http://bit.ly/steel-reports 5
    • Agenda 1. Overview of the Steel Market 2. What is a Steel Swap? 3. How are Steel Swaps Used? 4. Worked Examples / Solutions 5. Available Contracts 6. Summary & Next Steps http://bit.ly/steel-reports 6
    • What is a Steel Swap? A Steel Swap is a ‘Risk Management’ tool that takes the form of… …a ‘Cash-Settled’ agreement… …brokered between ‘Two Counterparties’… …to Settle the Difference in Price between… • a Price Agreed Today for – a particular steel product (e.g. HRC) – produced or delivered in a given area (i.e. Ex-Works North Europe) – at/over a specified period in the future (e.g. Q4 next year) • and the Actual Steel Price for the above as Measured by an Index – e.g. The Steel Index http://bit.ly/steel-reports 7
    • What is a Steel Swap? For Example 1. It is April and the average price of N. Europe Ex-Works HRC (according to ‘The Steel Index’) is €520 per metric ton. 2. I think the price of HRC is going up and will average higher than €525 in May. 3. My counterparty disagrees and thinks the price will be lower than €525 in May. 4. Since we are both confident in our views we agree that we will review the actual index average again at the end of May. 5. We agree a swap contract with a strike price of €525. • So, for every EUR that the index average for May is higher than €525 my counterparty agrees to pay me €1. Conversely, for every €1 it is less than €525 I agree to pay my counterparty €1. 6. On June 1st we average the weekly values of ‘The Steel Index’ and find that the actual average for the month of May was €526. 7. I collect €526 - €525 = €1 from my counterparty . http://bit.ly/steel-reports 8
    • What is a Steel Swap? In Reality • Counterparties are organisations (steel mills, service centres, end users, investment banks, hedge funds etc…) of various sizes. • Individual trades usually consist of many concurrent swaps novated simultaneously (i.e. 50,000 lots >> €1 change in price = €50,000 exchanged) • Trades are anonymous and novated through brokers (like FIS) • A clearing house and its members stand between the financial transactions of the two counterparties and act as insurance against counterparty default. • I.e. even if one counterparty goes bankrupt the second may still confidently retrieve its earnings from its clearing member or the clearing house. http://bit.ly/steel-reports 9
    • The Mechanics of Steel Swaps Trading Swap Buyer 1 1 Swap Seller EXECUTION (Front Office) (Front Office) Broker (FIS) 2 3 3 Clearing Member Clearing House Clearing Member (Back Office) (LCH.Clearnet) (Back Office) CLEARING 4 4 Swap Buyer Swap Seller (Back Office) (Back Office) http://bit.ly/steel-reports 10
    • Agenda 1. Overview of the Steel Market 2. What are Steel Swaps? 3. How are Steel Swaps Used? 4. Worked Examples / Solutions 5. Available Contracts 6. Summary & Next Steps http://bit.ly/steel-reports 11
    • Combining Natural Exposure with Swaps 800 Taking a swaps position with the opposite [ profit / loss ] to your natural position in the physical market results in 600 the [ profits / losses ] from each position cancelling each other out. 400 So whether steel prices increase or decrease, the net [cost / revenue] you [pay / receive] is thus fixed relative to [ Profit | Loss ] 200 the spot market Price per MT The size of the position and overall effect 0 430 450 470 490 510 530 on your net market exposure is highly flexible. -200 The position can be held to maturity (for cash settlement) or flexibly reversed -400 (closed out) by taking a second swap position that is equal and opposite to Physical Position Swap Position your first swap position. http://bit.ly/steel-reports 12
    • Who Uses Steel Swaps? • Mills • Service Centres • Automobile Manufacturers • Construction Companies • White Goods Manufacturers • Pipe Manufacturers • Shipyards • Rail Infrastructure http://bit.ly/steel-reports 13
    • Why Use Steel Swaps?  Guarantees forward income for future steel Steel Mills may also be interested to know that production at today’s rates you can also trade cash-settled Iron Ore Swaps. By  Guarantees forward steel prices allowing combining steel and iron ore swaps it’s possible to for fixing of future procurement costs flexibly guarantee both their costs and revenues up to 23 months into the future. For more  Commercial control of physical operations information visit http://bit.ly/iron-ore-swaps unaffected –> no loss of market presence  The ‘forward curve’ provides insight into short and long term market conditions  Can increase short term market share without building/purchasing steel  Swaps are instantly (within seconds) tradable and thus offer rapid flexibility  Swaps are financially settled and not attached to the physical commodity http://bit.ly/steel-reports 14
    • Agenda 1. Overview of the Steel Market 2. What are Steel Swaps? 3. How are Steel Swaps Used? 4. Worked Examples / Solutions 5. Available Contracts 6. Summary & Next Steps http://bit.ly/steel-reports 15
    • Worked Example // The Problem Confused? No Problem! Call us on +44 20 7090 1126 or email us at steel@feightinvestor.com and we’ll walk you through it • It’s Q1 and a steel mill in North Europe has an exposure of 15,000mt (5,000 mt per month) of unsold HRC for Q4. • They are worried that prices are in decline and want to fix their revenues at today’s prices to protect their bottom-line. • The following strategies are available to manage this exposure: 1. Try to find and fix a steel price with a buyer today (but risk physical default) 2. Run the position spot (but risk losing money if the market softens) 3. Agree a contract (floating price) (but risk losing money if the market softens) 4. Use steel swaps to quickly hedge their net exposed position http://bit.ly/steel-reports 16
    • Worked Example // The Solution Confused? No Problem! Call us on +44 20 7090 1126 or email us at steel@feightinvestor.com and we’ll walk you through it • The Mill decides to use swaps to offset its exposure • The Mill contacts FIS and places a ‘sell’ order for 750 lots of LCH.Clearnet cleared swaps (20mt per lot x 750 lots = 15,000 mt) on the Q4 period. • A broker at FIS negotiates a firm strike price with a ‘buyer’ in the market at €580 per metric ton for settlement against TSI’s Northern European HRC index. • The trade is agreed and FIS and the Mill inform the clearing house of the trade. • The Mill has successfully hedged its net revenue for the exposed volume of unsold HRC at €580 per metric ton regardless of the actual price of the spot market in Q4. http://bit.ly/steel-reports 17
    • Worked Example // Best Case Result Confused? No Problem! Call us on +44 20 7090 1126 or email us at steel@feightinvestor.com and we’ll walk you through it At the end of Q4 the settlement price on Northern Europe TSI HRC is calculated at €560 per metric ton • The profit from the Mill’s swaps position is sufficient to + €20 Swap offset the fall in North European HRC prices since the date of P&L novation. €580 • 9 months in advance of delivery, the Mill has successfully Profit & Loss sold its exposure to the spot market and hedged against Average €/MT €560 NEUR TSI HRC Q4 falling steel prices. Physical Position 5,000 tons x €560 x 3 months = €8,400,000 Swap Position ( €580 - €560 ) x 5,000 x 3 = €300,000 Net Revenue €8,400,000 + €300,000 = €8,700,000 8,700,000 / 15,000 = €580 per metric ton http://bit.ly/steel-reports 18
    • Worked Example // Worst Case Result Confused? No Problem! Call us on +44 20 7090 1126 or email us at steel@feightinvestor.com and we’ll walk you through it At the end of Q4 the settlement price on Northern Europe TSI HRC is calculated at €585 per metric ton • 9 months in advance of delivery, the Mill has successfully sold its exposure to the spot market Swap • Had the market softened, the Mill would have continued to P&L €580 €585 enjoy net revenues of €580 per metric ton on the 15,000 Profit & Loss tons of exposed steel. Average €/MT NEUR TSI HRC Q4 • In this case, however, by fixing its net revenue at €580 the - €5 Steel Mill has lost out on €5 per mt of potential revenue (i.e. it has taken a €5 per mt opportunity cost) • IMPORTANT! At any point during the trade the Mill can re- expose itself to the spot market by optionally buying back its Physical Position 5,000 tons x €585 x 3 months = €8,775,000 swaps at the going market price before settlement. Swap Position ( €580 - €585 ) x 5,000 x 3 = - €75,000 • This example illustrates both the benefits and the potential Net Revenue €8,850,000 - €75,000 = €8,700,000 risks of swaps trading. 8,700,000 / 15,000 = €580 per metric ton http://bit.ly/steel-reports 19
    • Agenda 1. Overview of the Steel Market 2. What are Steel Swaps? 3. How are Steel Swaps Used? 4. Worked Examples / Solutions 5. Available Contracts 6. Summary & Next Steps http://bit.ly/steel-reports 20
    • China Rebar / Cleartrade Steel / LCH.Clearnet product index clearing house Interested in this swap? Require more information? Get our free reports at http://bit.ly/steel-reports or call us on +44 20 7090 1126 product China – Rebar swap specifications clearing house LCH.Clearnet lot size 20 metric tons price quotation USD trading months Up to 24 Months Ahead ( Mths, Qrtrs & Yrs ) settlement Cash settled index specifications index Cleartrade Steel Index ( Provided by Umetal ) grade In the category of Q235 quantity Standard spot-market order size of 100 mt and above diameter 16 – 25mm material surcharges (e.g. scrap surcharge) Excluded extras (e.g. non-standard dimensions) Excluded price point Prices sourced from 25 major cities across China http://bit.ly/steel-reports 21
    • China HRC / Cleartrade Steel / LCH.Clearnet product index clearing house Interested in this swap? Require more information? Get our free reports at http://bit.ly/steel-reports or call us on +44 20 7090 1126 product China – Hot Rolled Coil swap specifications clearing house LCH.Clearnet lot size 20 Metric Tons price quotation USD / metric ton (converted from CNY index) trading months Up to 24 Months Ahead ( Mths, Qrtrs & Yrs ) settlement Cash settled index specifications index Cleartrade Steel Index ( Provided by Umetal ) grade In the category of Q235 quantity Standard spot-market order size of 100 mt and above gauge / width 4.75 mm / 1500 mm x C material surcharges (e.g. scrap surcharge) excluded extras (e.g. non-standard dimensions) excluded price point prices sourced from 25 major cities across china http://bit.ly/steel-reports 22
    • Turkey Scrap / The Steel Index / LCH.Clearnet product index clearing house Interested in this swap? Require more information? Get our free reports at http://bit.ly/steel-reports or call us on +44 20 7090 1126 product Turkey – Heavy Metal Scrap swap specifications clearing house LCH.Clearnet lot size 20 metric tons price quotation USD / metric ton trading months Up to 24 Months Ahead ( Mths, Qrtrs & Yrs ) settlement Cash settled index specifications index The Steel Index grade Heavy metal scrap 1 & 2 blended in an 80:20 mix delivery Within 30 days payment Cash / LOC price point CFR Turkish Port http://bit.ly/steel-reports 23
    • N Europe HRC / The Steel Index / LCH.Clearnet product index clearing house Interested in this swap? Require more information? Get our free reports at http://bit.ly/steel-reports or call us on +44 20 7090 1126 product North Europe – Hot Rolled Coil swap specifications clearing house LCH.Clearnet lot size 20 Metric Tons price quotation EUR / metric ton trading months Up to 24 Months Ahead ( Mths, Qrtrs & Yrs ) settlement Cash settled index specifications index The Steel Index grade Prime mild carbon steel EN10111 DD11 (or equivalent) gauge / width 2.0 mm + / 1250 – 1600 mm coil weight 10 – 25 metric tonnes material surcharges (e.g. scrap surcharge) Included extras (e.g. non-standard dimensions) Excluded price point Net effective base price, ex-mill / N Eur Base Point http://bit.ly/steel-reports 24
    • S Europe HRC / The Steel Index / LCH.Clearnet product index clearing house Interested in this swap? Require more information? Get our free reports at http://bit.ly/steel-reports or call us on +44 20 7090 1126 product South Europe – Hot Rolled Coil swap specifications clearing house LCH.Clearnet lot size 20 Metric Tons price quotation EUR / metric ton trading months Up to 24 Months Ahead ( Mths, Qrtrs & Yrs ) settlement Cash settled index specifications index The Steel Index grade Prime mild carbon steel EN10111 DD11 (or equivalent) gauge / width 2.0 – 4.0 mm / 1250 – 1600 mm coil weight 14 – 25 metric tonnes material surcharges (e.g. scrap surcharge) Included extras (e.g. non-standard dimensions) Excluded price point Net effective base price, ex-mill / S Eur Base Point http://bit.ly/steel-reports 25
    • USA HRC / CRU / CME Clearport product index clearing house Interested in this swap? Require more information? Get our free reports at http://bit.ly/steel-reports or call us on +44 20 7090 1126 product US Midwest – Hot Rolled Coil swap specifications clearing house CME Clearport lot size 20 short tons price quotation USD trading months 24 consecutive months settlement Cash settled index specifications index CRU grade For commercial quality gauge / width Extras excluded coil weight > 40,000lbs material surcharges (e.g. scrap surcharge) Included extras (e.g. non-standard dimensions) Excluded price point Net effective base price, ex-mill http://bit.ly/steel-reports 26
    • Agenda 1. Overview of the Steel Market 2. What are Steel Swaps? 3. How are Steel Swaps Used? 4. Worked Examples / Solutions 5. Available Contracts 6. Summary & Next Steps http://bit.ly/steel-reports 27
    • In Summary  Indices – Third party price assessments that provide industry transparency  Swaps – A risk management tool that provides a flexible, cost-effective and reliable alternative to physical risk management  Clearing – A safety net to protect against counterparty default  Freight Investor Services – The world leading broker of steel and iron ore swaps and pioneer of cash settled swaps contracts  FIS Reports – A quick and free way to keep up with current (index) and forward (swaps) pricing for a wide range of steel products • Get them free at http://bit.ly/steel-reports http://bit.ly/steel-reports 28
    • Next Steps Get our free steel market reports + forward price curves 1st by email | steel@freightinvestor.com online | http://bit.ly/steel-reports Contact London for a telephone or personal consultation in person | 80 Cannon Street, London, EC4N 6HL 2nd by telephone | +44 (0) 207 090 1126 online | http://bit.ly/steel-swaps Thank you for your time. FIS – Brokers of Steel Swaps We look forward to hearing from you soon. Leading the way in commodity derivatives. http://bit.ly/steel-reports 29