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The listing of zinc-aluminum options provides a grasp for the refinement of risk management of enterprises.
Jul 20,2020 11:05CST
translation
Source:China Nonferrous Network
The content below was translated by Tencent automatically for reference.

SMM News: the increasing demand lays the foundation for the futures market.

Give rise to on-the-floor options

Aluminum and zinc are widely used metals in the world, which are closely related to the terminal consumption industries such as construction, electric power, home appliances, transportation, machinery and equipment, packaging and so on. The production and consumption of aluminum and zinc in China have ranked first in the world for many years. Due to the characteristics of great changes in market supply and demand, sharp price fluctuations and large transaction volume in the non-ferrous metals industry, the industry is facing greater risks.

From the perspective of industry distribution, China's non-ferrous metals industry belongs to the "pyramid" industrial structure. The upstream mines are relatively concentrated, multi-oligopoly, and non-ferrous metal ores are highly dependent on imports; in the middle reaches, smelting enterprises are relatively concentrated, and the concentration of intermediate material enterprises has declined, both of which are faced with various risks such as rising raw material prices, falling sales prices and inventory write-downs; the end consumers are widely distributed and the enterprises are scattered, so they are the recipients of the market price. In addition, the industry also faces new pain points, such as the amplification of market volatility, the entry of low capital cost participants leading to the narrowing of the industry average arbitrage space and the shortening of arbitrage time window and so on.

Financial derivatives are an effective channel to solve the risks of these industries. Aluminum and zinc futures were listed in 1992 and 2007 respectively. At present, they are very mature varieties, providing an effective hedging model for risk hedging and speculative trading in the non-ferrous metals industry. At the same time, it also improves the internal and external linkage of prices and the professional level of participants, and provides a good soil for the development of financial derivatives. On August 10, 2020, aluminum and zinc futures options will be listed on the Shanghai Futures Exchange, which will provide enterprises with nonlinear and more refined risk management tools, effectively supplement the limitations of futures and solve the pain points of the industry; it will also provide price anchors for the over-the-counter options market, which will have far-reaching significance in promoting the development and improvement of the aluminum and zinc derivatives market.

Options combined with futures

Solve the pain points in the operation of non-ferrous enterprises

Mid-stream smelting enterprises buy virtual put options to increase the selling hedging price and retain the spot rising profit space.

Around the Spring Festival in 2020, affected by the epidemic at home and abroad, with the exception of special industries such as medical supplies and online services, the demand of almost all industries shrank sharply, resulting in the phenomenon of accumulation in enterprises.

Due to the epidemic, aluminum futures fell off a cliff in March. A mid-stream smelter holds aluminum spot inventory and urgently needs to hedge against the risk of falling aluminum prices. After the falling market, the price is at its lowest level over the years. At this time, the hedging risk of selling futures is greater, and the futures side is likely to engulf the rising profits of the spot, so we can buy options for hedging, pay a certain cost to obtain the hedging effect, and retain the rising income of the spot at the same time.

On April 23rd, the enterprise bought the AL2008 put option for hedging. In order to reduce the option cost, it bought the put option with an imaginary value of 400yuan / ton, the entry price was 12200 yuan / ton, the exercise price was 11800 yuan / ton, the term was 2 months, and the option fee was 200yuan / ton.

From the point of view of the comprehensive profit and loss of put options and spot, if the price falls below 11800 yuan / ton at maturity, the option can produce fall protection and make up for the loss of spot inventory, and the maximum loss that the enterprise has to bear is 600 yuan / ton. If the price does not fall at maturity, the enterprise can retain all the rising income of the spot, and the cost is only 200 yuan / ton option fee.

In practical application, AL2008 soared to 13075 yuan / ton on May 29th, and even exceeded the previous low of 13510 yuan / ton on June 10. Enterprises can liquidate options and short futures in batches, raise the price of selling hedging in this way, and retain profit space for favorable price changes. According to the futures closing price of 13655 yuan / ton on June 23, the comprehensive hedging income of options and futures is 960 yuan / ton, which retains most of the spot earnings.

The listing of aluminum and zinc options will have a far-reaching impact on the development of the industry.

Aluminum and zinc options are listed, and new members are added to the floor options.

Since the launch of 50ETF options in 2015, new types of floor options have been introduced. The exchange launched copper options in September 2018, rubber options in January 2019, and gold options in December 2019. On August 10, floor options will be listed with aluminum and zinc options, adding new ones to the floor options. Since the listing of copper options, the transaction has been relatively stable and the position has increased in an orderly manner. The average daily turnover in 2018 was 18367, and the average daily position was 21917. In 2019, the average daily position increased significantly to 34254, an increase of 56.29%. Up to now, the average daily position in 2020 has increased steadily, with an increase of 7.11%. The successful practice of copper options provides valuable experience for the listing of aluminum and zinc options and is of great significance for reference.

Provide multiple risk management tools for enterprises

The listing of aluminum and zinc options makes up for the blank of futures hedging strategy and realizes the diversification of risk management tools. Due to the different location of the industrial chain, management objectives and capital characteristics of different enterprises, risk management needs are also diversified, and on-the-floor options will meet the needs of enterprises to a large extent. First of all, futures can achieve trend risk management, while the nonlinear characteristics of options can achieve hedging in a specific range, and the unnecessary hedging cost can be reduced by constructing option portfolios. It provides a tool for refined risk management for enterprises. Secondly, hedging through buying options and paying fixed royalties can effectively avoid the risk of additional margin in futures, take a stable hedge position, and retain the favorable variable income of the spot side at the same time.

It is of far-reaching significance to the development of derivatives market.

In addition to standardized over-the-counter options, the more personalized needs of enterprises can be met by over-the-counter options. For example, exotic options such as barrier options, spread options and Asian options need to be quoted by the over-the-counter options market. Take Guotai Junan risk Management Co., Ltd. as an example, it has long provided over-the-counter option prices and personalized option product design for the non-ferrous industry chain. The original pricing model depends more on the volatility surface predicted by the over-the-counter model.

The listing of exchange-traded options will attract more types of investors to participate, effectively improve market liquidity and promote the formation of continuous implied volatility. 50ETF option is the earliest option listed in China, which has formed a more continuous implied volatility, and the implied volatility of copper option is also gradually taking shape. Over-the-counter implied volatility is an important anchoring index of over-the-counter option pricing, which will greatly promote the accuracy and openness of over-the-counter option pricing, and provide enterprises with more diversified risk management tools and more personalized risk management schemes. at the same time, it is of great significance to the long-term development of the derivatives market.

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