With China easing from the Covid-19 lockdown earlier this year, economic activities such as trading of commodities have recovered in tandem. As such, China’s move to be a more significant benchmark for the international pricing of commodities continues.
Over the past two years, China has opened up the trade of its RMB-denominated commodities futures to traders outside China, and industry players are seeing growing traction.
Starting with medium sour crude oil futures from the Shanghai International Energy Exchange (INE) in March 2018, China has since opened iron ore, purified terephthalic acid (PTA), rubber and low-sulphur fuel oil futures to international investors, in that order.
Currently, iron ore sees monthly volumes of about 20 to 25 million lots on the Dalian Commodity Exchange (DCE), PTA some 20 million lots on the Zhengzhou Commodity Exchange (ZCE) and sour crude oil between 2.6 million and 3 million lots on the INE. Even fuel oil futures, launched just two months ago in June, sees a modest 700,000 lots exchanged monthly, says Benjamin Yeo, head of derivatives and commodities dealing at Phillip Futures, in an interview with The Edge Singapore.
These three commodities exchanges are so far the only ones in China approved for international investors to trade. They do so via a few dozen overseas intermediaries. Most of these intermediaries are in Hong Kong, but there are also nine Singapore-based ones, including Phillip Futures.
To be sure, many of the commodities are traded on more established locations such as the London Metal Exchange and the Chicago Mercantile Exchange but investors are drawn to the Chinese commodities exchanges by a key trait: liquidity. “In some overseas exchanges, you are worried that you cannot exit the market after you enter it, whereas in China, you don’t really have that kind of issue — they are more concerned about too many people trading,” says Yeo.
Furthermore, some commodities futures attract plenty of punters, but the trades made in China are backed by real demand from buyers who want to take physical delivery of the commodities.
Now, for this relatively unfamiliar product compared to equities, most of Phillip Futures’ clients are either institutional players, proprietary traders, or companies that are actual traders of the physical products of these futures. Retail investors are a relatively small proportion for now, says Yeo.
However, there is growing familiarity and presumably, investors’ interest will follow. For example, PTA, a petrochemical product used in the production of plastic bottles, may not be as familiar as oil or as popular as iron ore, says Yeo, but the commodities available shows a trend in China of opening up more products for international players.
“In China, they always go slow, to make sure that things are in order. It’s been two years since they launched the first contract but you can see that over the past year, they have been much faster,” he says.
The industry is expecting more diversity. For example, the port city of Dalian is the trading hub for China’s northeast, itself a famed region for the production of various kinds of agricultural produce such as corn and soybean, and DCE is built on this heritage. Yet, DCE offers only iron ore futures for international investors for now.
“There are plans to broaden the product offerings to palm oil contracts as well, although the exact timing isn’t firmed up for now,” says Li Ning, the exchange’s chief representative to Singapore. “The reason why palm oil is considered is because of the familiarity of this agriculture product among the business and investment community in Southeast Asia,” he adds.
In the meantime, savvy traders have been able to profit from the active trading. Following the initial impact of Covid-19 earlier this year, China’s V-shaped recovery can also be seen in its commodities market. Rubber prices quoted on the INE grew more than 11% from RMB10,370 ($2,075) per ton on June 9 to RMB11,560 per ton on Sept 7. “You just need to see the price of rubber sometimes to see if the economy is picking up,” says Yeo.
Even so, investors need to keep in mind that commodities trading, at the end of the day, is still underpinned by the needs of the real economy. Case in point: as the world’s top importer and consumer of iron ore and TSR20 rubber, China is vying to become the price-maker and not price-taker for these products.
“Whatever is available in China is always in RMB. Contracts out of China are in USD. It’s a tug of war. The producers want it in USD, so it depends on who has the eventual say,” says Yeo. But for now, “it’s still a transition period”.
Now, does China’s growing ambition in commodities trading pose a threat to the Singapore Exchange? SGX is known for its wide range of derivatives products, most notably rubber and iron ore futures, and an institutional investor base.
Yeo observes that there will be some overlaps between the traders in Singapore and China but traders with access to both sides can potentially gain from arbitrage. For example, when rubber prices went up recently, a lot of producers actually sold their physical rubber in China. “In the end, they had to buy [rubber] from the Singapore side, bringing up the prices,” he says.
“We try to connect the two exchanges because they involve the same physical product. How do we connect customers from out of China and help them trade in China?” he adds.
Likewise, the Singapore government has put forth a complementary relationship between exchanges in the two countries. “Companies based in Singapore can seamlessly participate in both exchanges, strengthening our mutual linkages and connectivity. We hope to grow this partnership and there are many win-win opportunities here,” said then-Senior Minister of State for the Ministry of Trade and Industry Chee Hong Tat about the launch of DCE iron ore contracts in Singapore back in 2018.
With the rubber trade as an example, Singapore is a third party — neither the producer nor the consumer, says Yeo. “Singapore really is just a trading hub for rubber… How do we stay neutral so both sides recognise us as a good, relevant benchmark?” asks Yeo. “How can we get everyone to trade in Singapore and stay relevant, even as more and more volume is going to China?”
