Growing need for lithium hedging to meet energy transition demand

Ganfeng Lithium’s announcement that it has started a desk to trade derivatives highlights the need for mechanisms to hedge against price risks, following a rapid rise and fall in lithium prices.

Lithium prices have fallen over 70% over the past year, following a more than doubling of prices to a record high in late 2022. Battery-grade lithium carbonate prices were last assessed in China at $12,300 a tonne, compared to over $80,000 a tonne in late 2022, according to Benchmark’s Lithium Price Assessment.

That volatility makes it more difficult for junior and smaller lithium producers to raise financing to come into production; hinders the ability of automotive companies to control costs; and creates significant swings in earnings for the larger lithium producers.

The lithium futures market is set to grow significantly this decade, Benchmark forecasts, as producers and consumers look to mitigate against price risks.

Benchmark estimates that as much as 1 million tonnes of lithium (LCE) could be hedged this decade, outside of China – the size of the total lithium market last year.

Ganfeng moves to hedge overseas risks

Ganfeng, China’s largest lithium producer, said this week that it would begin to trade derivatives to “reduce the risk from market volatility” of overseas investments and overseas business, and “increase financial stability.” The maximum daily contract value will not exceed 8 billion RMB ($1.1 billion), it said.

The company said it would trade financial derivatives including but not limited to option products and forward products, without specifying which ones. The underlying assets would include securities, indices, commodities, and interest rates, it said, involving overseas and over-the-counter transactions.

“The company will develop derivative product investment in a timely, appropriate and prudent manner, without impacting normal business,” Ganfeng said.

Watch this exclusive interview with Wang Xiaoshen, president of Ganfeng Lithium.View more Power Players videos here.

Futures exchanges

In the lithium market, the Guangzhou Futures Exchange currently has the most active lithium futures contracts. But there are restrictions for foreign companies to use the exchange, due to China’s currency controls.

While a number of ex-China hedging mechanisms exist they have limited liquidity along the forward curve. That’s in comparison to the oil market, where producers can hedge future production for up to 20 years in the future.

“Legacy automakers are expected to hedge a significant degree of their lithium exposure and coupled with lithium majors becoming more comfortable with hedging and junior miners needing to hedge to secure debt financing, the need for a liquid futures contract which genuinely reflects physical prices is growing greater by the day,” Daniel Fletcher-Manuel, director of prices at Benchmark, said.

Limited liquidity

This month, average trading volumes on the Guangzhou Futures Exchange have been some three hundred times larger than those for lithium hydroxide futures on the CME exchange in the US.

Open interest, the number of outstanding contracts held by the market, was an average of 312,668 tonnes of lithium carbonate this month in Guangzhou, compared to 23,908 tonnes on the CME exchange.

The main reasons why trading on the existing offerings is slow is because the market is nascent and immature. Lithium mining companies also have limited hedging experience and have historically hedged price risk through long term fixed prices.

Most major lithium producers are increasingly moving towards market-based pricing contracts, however, exposing them more to market price risk.

In its model, Benchmark estimates that major lithium miners will look to hedge around 10% of their sales in the first instance, potentially increasing to 40% as hedging mechanisms become more liquid and internal appetite for risk management solutions matures.

Benchmark’s Lithium Price Assessments, Forecasts and ESG report provide a comprehensive view across the lithium industry as part of our leading prices, data and market intelligence for the lithium ion battery to EV supply chain.

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