The London Metal Exchange (LME) is being sanctioned by the U.K.’s Financial Conduct Authority (FCA) for control failings that were exposed by a trading disruption that it suffered in 2022.
In its first-ever enforcement action against a regulated exchange, announced Thursday, the FCA fined the LME £9.2 million for alleged regulatory breaches stemming from systems and controls that proved inadequate to deal with severe market stress that arose in the nickel futures market in March 2022.
The exchange ended up cancelling trades and suspending its nickel market for eight days amid a severe spike in market volatility that the FCA said “undermined the orderliness of and confidence in LME’s market.”
The regulator said the incident revealed that the LME’s automatic volatility controls weren’t adequate to maintain orderly market conditions and that its processes for coping with extreme market conditions were insufficient.
For instance, the regulator said during the exchange’s Asian trading hours, which take place overnight London time, “relatively junior trading operations staff” were the only ones on duty.
“They had not been trained to recognize anything other than error trades or rogue algorithms as potential causes of a disorderly market,” it said.
And, when trading conditions became extreme, “trading operations staff took steps to accommodate the price rises, even disabling the price bands, during the most extreme period of volatility,” the FCA noted.
These actions allowed prices to rise much more rapidly and exposed investors and traders to risks that the exchange’s volatility controls were designed to mitigate.
“London’s metal markets are of vital importance to the UK and global economy. We expect controls that match their significance,” said Steve Smart, joint executive director of enforcement and market oversight at the FCA, in a release Thursday. “The LME should have been better prepared to address the serious risks posed by extreme volatility.”
The LME agreed to settle the allegations, which qualified it for a 30% discount on its penalty that otherwise would have been £13.2 million. The FCA also acknowledged the exchange’s efforts to beef up its controls since 2022.
In a statement, the LME said it acknowledged the FCA’s findings. It also welcomed the regulator’s acceptance of the fact that very large over-the-counter (OTC) positions — which the LME couldn’t monitor — were the primary driver of the market stress.
“Since March 2022, significant work by both the LME and the FCA has materially reduced the risks of such an event from occurring again,” the exchange said.
The exchange has beefed up its volatility controls and processes, while the FCA has adopted reforms to commodity derivatives regulation, including enhanced oversight of OTC markets.
“We take our responsibilities as a global market operator very seriously, and acknowledge that we could have provided a better line of defence to the effects of the disorder in the OTC market, which had spilled over onto the LME market in March 2022,” said Matthew Chamberlain, CEO of the LME, in a statement.
“The LME swiftly implemented market enhancements and we are pleased to be able to move forward, stronger as a result.”
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