Dalian courts foreign investors for iron ore contract

DCE exploring two schemes to allow foreign firms to access its market – following recent moves to enable global firms to trade a Shanghai crude oil contract


Dalian Commodity Exchange (DCE) is working on two possible schemes to enable foreign investors to trade its iron ore futures, as part of the broader plan by Chinese regulators to internationalise the domestic financial market, according to a senior figure at the bourse.

Chinese authorities recently announced plans to allow international investors to access China's commodity markets for the first time as part of the Shanghai Futures Exchange's renminbi-denominated crude oil contract. Its Dalian peer is similarly looking to bring in international funds to trade its iron ore contract, launched last year and which has achieved strong volumes so far (see chart).

Wang Shumei, Beijing-based senior manager in industrial products department at DCE, says the exchange is looking at two ways to enable international players to trade onshore – either through the qualified foreign institutional investor (QFII) programme or following Shanghai's approach where crude oil futures will be traded in the free trade zone.

According to Wang, the DCE has investigated both approaches and is waiting for regulatory approval before deciding which way to proceed. "We are looking into the two ways simultaneously and have done much preparation. We don't know which one will be approved at the moment. It will depend on the regulators," she says.

dce-iron-ore-chartUnder the existing stipulation, QFII holders are only able to trade stock index futures – CSI 300 index futures, in China. The China Securities Regulatory Commission (CSRC) recently announced that it is exploring whether to allow QFII firms to trade Treasury bond futures. However, there is not yet a timeline of expanding the investable scope to the commodity sector.

Wang says that the QFII approach would be easier to implement because investors already have experience in trading stock index futures, and DCE's systems are set up to accommodate QFII investors. "But the disadvantage is that even if QFII is expanded to include commodity futures, corporate clients would not be able to trade it as QFII is only a scheme for financial institutions," she says.

A number of global banks holding QFII quotas have told Risk.net that once the stock connect between Hong Kong and Shanghai is trading at full capacity it should release spare capacity for non-equity based trading should this subsequently be permitted by regulators.

Currently Shanghai has the only active free trade zone in China but its scope is set to expand following a ruling by the standing committee of the National People's Congress which also announced the launch of three further zones in the administrative regions of Guangdong, Tianjing, and Fujian.

Although Dalian is not on this list, it already has a bonded area located in the Jinpu New District which would make it easier to set up a local free trade zone. Wang says the exchange is actively exploring this approach for its iron ore contract, with plans to replicate Shanghai's arrangement for crude oil futures in terms of taxation, foreign exchange and access channels.


The twin buildings of Dalian Futures Square, home to DCE, pictured on the right of the image


The CSRC finally approved the launch of long-delayed crude oil futures on December 12 last year, and it published draft rules allowing foreign investors to trade designated futures products later that month. Under the proposed rules, foreign investors can access China's futures market either directly or through a Chinese or foreign broker. Moreover, in line with an earlier report on Risk.net, no tax will be charged on capital gains made by trading the crude oil contract. The contract will be denominated in RMB and margined in dollars.

Xie Weiquan, Shanghai-based director at Huatai Great Wall Asset Management, says that foreign participation is good news for the domestic iron ore futures market as it will boost the overall positions and trading volumes. However, global firms have reservations about trading in China.

"We spoke to a couple of foreign firms. They are generally interested but will not trade [the contract] as they are concerned about the risk of partnering with Chinese brokers. They also complain about complicated procedures of securing approval from regulators and too stringent trading rules that leave them limited trading flexibility," says Xie.

Wang Xinpeng, an iron ore trader at Huashi Group, a Chinese commodity trading house, agrees that opening up China's commodities market to foreign players will have little short-term impact.

"Those who have a real need of trading in China, particularly large-sized foreign players, have already traded here regardless of forex restrictions, tax issues or other concerns. It is not difficult for them to come up with a solution to bypass these obstacles. So the opening up may have limited contribution to the liquidity and trading volume," he says.

Iron ore is one of two Asia-specific commodities contracts that trade in material volumes – the other is palm oil – and as a swap contract was first launched by SGX in 2009, with DCE's futures contract debuting in 2013 followed by Shanghai setting up its own swap contract in August last year.

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