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An Interview with DCE: Q&A on New Deliverable Brands and Adjustment of Premiums and Discounts for Iron Ore Futures

Date:28 January 2021
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On January 27, 2021, DCE issued the Notice on New Deliverable Brands and Adjustment of Premiums and Discounts for Iron Ore Futures. According to the notice, four iron ore deliverable brands including Benxi Steel Mining Concentrate are added, and the existing premiums and discounts of iron ore futures deliverable brands will be adjusted. The adjustment will start from contract I2202. What is the background for these adjustments? What impact will the adjustments make on iron ore futures market? How is it going with the brand dynamic premium and discount system under discussion? The responsible person from DCE answers these questions during the interview:

1.What’s the background for the adding of new iron ore futures deliverable brands and the adjustment of premiums and discounts?

In September 2019, DCE began to implement the brand delivery system on iron ore futures, and defined the brand’s premiums and discounts commencing with the I2009 contract month and beyond according to the physical spreads of different brands in 2019. Since 2020, due to various factors such as the global pandemic of COVID-19, monetary policies and changes in physical supply and demand, the prices of iron ore have fluctuated significantly, and the spreads also vary greatly among different brands.

As a result, the actual brand spreads in physical market have deviated significantly from the initial setting values of premiums and discounts for some brands. To better reflect the characteristic of physical market, the premiums and discounts of different brands need to be optimized and adjusted. Furthermore, the market also called for expanding the scope of deliverable brands as prices rise in 2020.

Against this backdrop, DCE continued to promote the adjustment of the premiums and discounts of relevant brands and contracts since the second half of 2020. To adapt to the market changes and better integrate futures and physical markets, DCE has defined a concept of making progress while maintaining stability.

We will make relevant adjustments by stages: first, we will adjust the fixed brand premiums and discounts so as to allow the existing contracts to adapt to the changes in physical market and to better perform the function of futures in price discovery. Meanwhile, we will add four deliverable brands of iron ore futures. Second, we will continue to study and improve the contracts to better perform the functions of iron ore futures.

2. What are the idea behind and the plan for this adjustment of the premiums and discounts?

The idea behind this adjustment is to ensure that the adjusted premiums and discounts of these deliverable brands in the futures market are close to the physical spreads of these brands as much as possible, which will facilitate the delivery of the brands with large amount of deliverables, provided that the samples are large enough to reflect the actual value of the brands as much as possible. When determining how to calculate the premium and discount, DCE comprehensively weighed the physical spreads of these brands on annual, semi-annual, quarterly, monthly and other period basis in the past year. According to the announcement, the premiums and discounts of newly-added iron ore deliverable brands, including Benxi Steel Mining Concentrate, IOC6, Kumba and Agglomerate Iron Ore Concentrate, are set at 0 CNY/MT, -20 CNY/MT, 10 CNY/MT and 65 CNY/MT respectively. Among the existing deliverable brands, Carajas Iron Ore and Karara Standard Magnetite Concentrate have been adjusted greatly, while only minor adjustments have been made to the other brands. The Carajas Iron Ore has been adjusted from 35 CNY/MT to 90 CNY/MT, and Karara Standard Magnetite Concentrate has been adjusted from 85 CNY/MT to 45 CNY/MT.

3. How will the premium and discount adjustments of the above-mentioned brands affect the iron ore futures market?

As there is still a long time from the roll out of the adjustments to the implementation, the premium and discount for each brand could be changed in the future. But according to realities of the current physical market, the adjusted premiums and discounts are close to the price difference in the physical market, which is more in line with the realities of the physical market and the needs of enterprises, and helps to facilitate delivery. During this adjustment, premiums and discounts of brands with more tradable resources, such as Carajas Iron Ore, have been adjusted to reflect the price range of physicals, which will help to motivate sellers to participate in delivery with brands of more tradable resources, and increase the actual volume of deliverables. DCE has solicited public opinions from the market, and was told by market experts that this adjustment had little impact on futures prices and existing positions. On the one hand, the rankings of the converted futures prices of these brands after the adjustment in the futures market is basically the same as those before the adjustment, the underlying of the futures has not been materially changed, and the impact on the level of futures prices is limited. On the other hand, this adjustment and the addition of new deliverable brands will be applicable from the contract I2202, which has no impact on the clients holding the position.

4. What are the specific plan for adding new deliverable brands of iron ore futures and the potential impacts on the market?

Benxi Steel Mining Concentrate, IOC6, Kumba and Agglomerate Iron Ore Concentrate will be added as iron ore deliverable brands. In terms of quality, the new brands are all medium to high-grade iron ore with low content of aluminum, with iron grades above 60%. Among them, the iron grades of Benxi Steel Mining Concentrate and Agglomerate Iron Ore Concentrate are above 65%. During the solicitation of market opinions and market research, the downstream steel mills considered the above four brands to be of good quality and relatively stable, with a certain degree of trade circulation and market recognition. Based on the latest changes in the price differences of various ore types, DCE has set the premiums and discounts of the four new brands to reflect the current impacts of factors other than quality on the price differences between brands and to be close to spot trading habits.

According to China’s iron ore imports in 2020, it is estimated that with the addition of these four deliverable brands, the annual deliverables of the deliverable resources will see a 38 million MT growth, based on traders’ turnover alone. So far, there is a total of 17 deliverable brands of iron ore futures, indicating that there will be about 620 million MT of iron ore meeting the requirements for delivery in China each year.

5. Apart from this adjustment, what measures has DCE taken since 2020 to optimize the rules of iron ore contracts and enhance the quality of futures operation? What are the next steps and arrangements?

Since 2020, in addition to continuing to strengthen market supervision and implement classified measures to prevent market risks, DCE has taken multiple measures to optimize the trading and delivery of iron ore futures and continuously improve the quality of market operation.

So far, DCE has released six new iron ore deliverable brands, driven seven steel enterprises including Baosteel Resources and Jinxi Group to become designated delivery factory warehouses, and reduced the upper limit of delivery ex-warehouse fees. This has further ensured sufficient resources for delivery, reduced the delivery costs, and made it easier for enterprises’ participation in trading and delivery.

Considering the low level of standardization of iron ore,and the instability and large fluctuation of the physical spreads between different brands, DCE will continue to demonstrate and improve the plan for dynamic premiums and discounts at the early stage. As such dynamic premium and discount system is still new in the domestic futures market, and market participants have different opinions on the plan and on how the plan will affect the market price, it has to be further demonstrated and repeatedly compared in a long term. In the next step, DCE will solicit and discuss opinions from relevant parties, so as to launch an optimized premium and discount plan of iron ore brands in line with the rule of the market and the demands of the industry.

Meanwhile, DCE will further strengthen market supervision, adjust the position limit and trading limit mechanism of iron ore futures based on market opinions and maintain the stable operation of the market. Meanwhile, we will also optimize the contracts, advance to implement rolling delivery of iron ore futures, and support more steel enterprises to become factory warehouses. We will better perform the basic functions of futures in terms of price discovery and risk management so as to promote the high-quality development of the steel industry.

Disclaimer: This English translation may be used for reference only. In cases there is any discrepancy between the English version and the original Chinese version, the original Chinese version shall prevail. Dalian Commodity Exchange may change or update this English translation without any prior notice and shall accept no responsibility or liability for damage or loss caused by any error, inaccuracy, misunderstanding, or change with regard to this English translation.

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