Iron ore trading landscape changing with high-grade derivatives launch, SGX says

The Singapore Exchange (SGX) says its new high-grade iron ore futures, which are settled against the Fastmarkets MB 65% Fe Iron Ore Index, have seen over 3 million tonnes worth of transactions since its December 3 launch involving 30 market participants.

“The advent of SGX’s 65% Fe contract is changing the landscape for iron ore trading by giving physical [market participants] better tools to manage their physical exposure whilst also attracting [participants in the financial sector] who look to exploit trading opportunities in both the outright contract and the [spread between the 65% Fe and 62% Fe contracts],” it said this week.

The exchange underlined the significance of spread trading when it comes to its 65% Fe futures and its 62% Fe contract, which is settled against another index, saying it could be a major driver of liquidity due to traders focusing not just on the outright prices for iron ore but also the price differences between different grades of the steelmaking raw material.

The SGX became the world’s first exchange to launch derivatives for high-grade iron ore last year following widespread calls from within the industry for better tools to manage their risk exposure in the high-grade segment.

Such calls emerged following changes in the physical iron ore market that began in 2017 with the rollout of China’s 13th five-year plan, which resulted in the country’s steel industry focusing on the adoption of environment-friendly modes of production.

Restrictions aimed at cutting emissions coupled with strong downstream demand for steel products resulted in healthy margins for steelmakers in the country, which in turn resulted in a widening of grade differentials in the iron ore market that culminated in the necessity for derivatives for the high-grade segment.

“The 65% Fe-62% Fe differential can be driven by a number of factors such as environmental and regulatory changes and locational peculiarities [because] the 65% Fe is often benchmarked to Brazilian iron ore [while] the 62% Fe is more commonly benchmarked to Australian iron ore,” the exchange said.

“The ore spread gives traders direct exposure to this differential. Further trading strategies can come from technical analysis of the differential and cross-product opportunities with freight [because the] SGX 65% Fe [contract] is underpinned by the Brazil-to-North China route [while the] SGX 62% Fe is underpinned by the Western Australia-to-North China route,” the exchange explained.

The iron ore market entered another period of volatility in recent weeks, with Vale declaring force majeure over several shipments as a result of the suspension of operations at a few of its mines in Brazil that followed a breach in one of its tailings dams.

The Fastmarkets MB 65% Fe Iron Ore Index stood at $99.50 per tonne cfr China on Wednesday February 13, while the MB 62% Fe Iron Ore Index was at $87.22 per tonne cfr China on the same day. These compare with $89.10 per tonne cfr and $74.69 per tonne cfr respectively on January 25, the day Vale’s dam suffered the breach.

The SGX also said that the International Maritime Organization’s (IMO) implementation of a worldwide reduced sulfur cap on fuel oil – from 3.5% to 0.5% – from January 2020 onward might affect iron ore prices in the form of higher shipping costs.

“The added complexity of [the tighter cap on fuel sulfur content] will create unique trading opportunities for both the freight and iron ore markets,” the exchange said.

Understand more about how the iron ore market is upgrading and how market participants are now better managing their risk. Read the blog from Peter Hannah, Index Price Development Manager here.