Iron ore futures offer hedging tool, greater say in pricing

The world's first iron ore futures with physical delivery debuted on Friday on the Dalian Commodity Exchange, a move seen by industry insiders as a way to gain more control of pricing of the world's second-most traded commodity.

The first yuan-denominated iron ore futures contract is also China's latest attempt to chip away at the pricing power of global mining giants such as BHP Billiton Ltd, Vale SA and Rio Tinto Group.

China is the world's top importer of the raw material for steel, and the contract provides a hedging tool for the nation's steel mills and traders, experts said.

"The pricing of iron ore, a major raw material for steel production, depends largely on the Platts index, which is based on the tender prices of some major producers. This method can't fully reflect the supply and demand balance," said Wang Xiaoqi, vice-chairman of the China Iron Ore and Steel Association.

"Domestic steel mills, which are scattered around the country and lack bargaining power in the global market, are exposed to higher risks because of price volatility."

He added that physically backed delivery, as offered by the contract, can do much to reduce the chance of major players controlling the commodity's price.

The contract brings the price closer to spot levels, reducing the cost of steel production and enhancing market transparency.

The iron ore contract adds to existing domestic hedging tools in the form of rebar, coal and coke contracts.

Many Chinese steelmakers and iron ore traders from both the private sector and State organizations have expressed an interest in using the iron ore futures market as a hedging tool. Some mills, such as Nanjing Iron & Steel Group Ltd, have even set up iron ore futures divisions.