Credit lines play a crucial role in managing risk and ensuring smooth transactions in trading. In this episode, we explore the complexities of credit lines and compare their use in over-the-counter (OTC) trading to the London Metal Exchange (LME) clear.

Why Do You Need Two Credit Lines?

In metals trading, two types of credit lines are essential:

• Initial Credit Line – Required to cover the initial margin when opening a position.
  
• Variation Credit Line – Needed to account for fluctuations in market prices, ensuring that margin calls can be met.

These credit lines may either be secured by the trader or granted by the broker. The parameters for these credit lines vary depending on the trading platform, broker, and risk assessment.

Credit Lines in OTC Trading vs. LME Clear

When trading on LME Clear, the structure is straightforward—one lot in aluminium equals 25 tons, and the required initial margin is typically set at around 7%, approximately $174 per ton.

However, OTC trading offers more flexibility. Here’s why:

Brokers may allow trading in volumes smaller than one lot (less than 25 tons), making OTC an attractive option for traders who do not want to commit to large positions. Credit lines for OTC trading can be structured differently, with initial margin parameters set by the broker rather than standardized exchange rules. In contrast to a centrally cleared exchange like LME, the risk in OTC trading lies between the trader and the bank.

Should You Choose OTC or LME Clear?

• Risk Appetite – OTC trading carries counterparty risk, meaning you rely on your broker and bank’s stability.
  
• Broker Relationship – A good relationship with your broker may offer more favourable credit terms and flexibility in OTC trading.
  
• Market Conditions – Even established financial institutions can collapse during financial downturns, as seen with Lehman Brothers and Refco.

Choosing the right broker and evaluating the associated risks is a private and company-specific decision. The key takeaway? Consider all variables before deciding where to trade.

Join us in the next episode as we continue exploring key concepts in metals trading.