China relaxes futures grip as steelmakers test swaps market
* Some SOEs gain approval to trade iron ore futures
* China state assets regulator loosens tight grip on trades
* Iron ore swap volumes rise as companies trial hedging
By Ruby Lian and Fayen Wong
SHANGHAI, Aug 2 (Reuters) - Chinese state-owned steelmakers are preparing to enter the Singapore-based iron ore swaps market, in a move that could boost liquidity in iron ore derivatives as firms look to hedge volatile prices.
The step is another in the evolution of iron ore trading, where benchmark prices were set by annual talks just four years ago, and a further sign Beijing is relaxing its tight grip on trading offshore commodities futures contracts.
Baosteel, China's third-largest steelmaker by output, and Valin, the listed unit of the tenth-biggest steelmaker Hunan Valin Group, have both won approval to trade iron ore futures overseas, company officials confirmed.
"There have always been arguments over whether steel mills should trade futures for hedging or not," said Wang Jun, vice president of state-owned Hunan Valin Steel Co.
"We don't want the market to become overly speculative, but when the trend is happening, we might have to face it and do it," he said.
Chinese privately owned steelmakers and iron ore traders have already been increasing their use of iron ore derivatives this year, accounting for up to a third of the volume on the Singapore Exchange's swap contracts in some months, brokers said.
Liqudity jumped rapidly to 136 million tonnes in the first half of 2013, traders estimate, compared with 110 million tonnes in all of 2012, but is still dwarfed by the 1.1 billion tonnes of physical seaborne iron ore traded each year.
The Singapore Exchange cleared more than 27 million tonnes of iron ore derivatives in July, hitting a record high and more than double the 10.4 million tonnes in July 2012, data showed.
The popularity of swap contracts has been boosted by a move in 2010 to price iron ore based on indices like the Steel Index <.IO62-CNI=SI> or the Metal Bulletin Iron Ore Index <.IO62-CNO=MB>, which has increased price volatility.
China consumes more than two-thirds of physical seaborne iron ore, while prices have swung from above $190 a tonne in early 2011 to below $90 a tonne in September last year.
"More and more Chinese companies want to trade futures to manage their risks," said Han Xun, The Steel Index's China manager in Shanghai.
China's Minmetals Corp, a leading state-owned resources trader, has started trading iron ore swaps. Other privately owned mills that trade the paper include Rizhao Steel Holding Group, Jiangxi PXSteel Industrial Co and the largest private firm, Jiangsu Shagang Group, brokers said.
Beijing has kept a tight rein on overseas derivatives trading by state-owned firms, particularly after they lost a combined tens of billions of yuan by trading offshore futures during the global financial crisis.
Previously, only 31 state-owned Chinese firms were allowed to trade futures overseas, mainly for base metals, agriculture products and oil, industry sources said.
Some state-owned enterprises (SOEs) had used their offshore units to trade derivatives, circumventing supervision and currency controls, they said.
"The government has actually eased its control on SOEs in doing paper now, and firms can get approval easier than before," a senior official at Baosteel said, declining to be named as he was not authorised to speak to media.
While the state-owned steelmakers are preparing to dip a toe in swaps trading, their participation is unlikely to lead to an immediate boost in liquidity due to China's tight regulations on currency conversion.
They also face quotas on how much they can trade and restrictions on how they can trade, said The Steel Index's Han.
The companies themselves are worried about a lack of experience in the market, and the fallout from any losses.
Valin, which produced about 16 million tonnes of crude steel last year, said it plans to hedge no more than one tenth of the total iron ore volume that it consumes a year.
"We are still grooming our team and are currently doing trials," Valin's Wang said, without disclosing its quota and annual consumption.
However, the lessons learned will help the companies when the China Dalian Commodity Exchange launches its own iron ore futures contract later this year, which is expected to draw heavy interest from local steel mills and iron ore traders, traders said.
Dalian will rival the Singapore Exchange, which dominates the iron ore paper market by clearing more than 90 percent of swap volumes, and the CME Group's iron ore futures.
(Editing by Richard Pullin)
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