【2018-4-6】
On March 26, Chinese crude oil futures contract was formally launched at the Shanghai International Energy Exchange, a subsidiary of the Shanghai Futures Exchange.
This launch of the first international commodity futures of China symbolizes a step forward for Shanghai to become an international financial hub. The city’s fast pace toward attaining this status has apparently not slowed down by US protectionism. On the contrary, it is moving steadily toward its 2020 target.
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Chinese crude oil futures going international carries another implication — it served to fill up the vacuum created by the lack of international crude oil futures in Asia; it therefore strengthened China’s influence in the pricing of global crude oil.
At present, international crude oil trading generally adopts futures prices as the pricing basis. Prices of crude oil traded in the Americas, for instance, are using WTI crude oil futures prices of the CME group as benchmark prices, while in Europe it is the Brent crude oil futures prices of the ICE group. In Asia, the reference for crude oil prices is quotation agencies’ Dubai/Oman crude oil spot assessment price. The loss of crude oil futures prices has caused much inconvenience to the risk management of oil prices by Asian countries and oil companies.
The reason China has been able to launch the first crude oil futures product in Asia is that it is the biggest oil importer in the world and, according to recent estimates, has also replaced the US as the biggest oil consuming country. At the same time, China is the world’s second largest economic entity, and, in the foreseeable future, will overtake the US as number one. That Shanghai is able to promote crude oil futures is because it has already possessed a commodity futures market of considerable size.
Compared with the one in Shanghai, Hong Kong’s futures market was established at an earlier date. Yet its main focus today is still stock index futures. Over the years, Hong Kong’s financial authorities and industry has constantly strived to develop commodity futures, but variety has been lacking and the scope is inconsiderable. The problem lies in the size of Hong Kong’s real economy and the nature of the Hong Kong dollar.
Futures basically fall into two categories — financial futures and commodity futures. The reason that US dollar exchange rate and interest rates could be developed into major financial futures is due to the greenback’s international currency status. The Hong Kong dollar is certainly a freely convertible currency, but it is not and cannot be an international currency. On top of that, under the dollar peg, the exchange rate and interest rate of Hong Kong dollar is bound by US dollar’s. That is why Hong Kong cannot offer Hong Kong dollar exchange rate futures or Hong Kong dollar interest rate futures to international investors.
Hong Kong lacks natural resources such as minerals and agricultural products. As an urban economy, Hong Kong could never consume or import as much energy as many countries. This explains why Hong Kong’s futures market could not launch any futures products with local characteristics.
Hong Kong’s own insufficiencies create a bottleneck for the development of its futures market. This begs the question of whether the SAR’s futures market could develop at all.
Over the past few years, the local securities market has established the stock connect with Shanghai and Shenzhen because the three cities all have their own sizable stock and bond markets. But Hong Kong could actually develop a one-way connection with the Shanghai futures market, that is, to introduce to the local market commodity futures from the Chinese mainland, especially Shanghai.
On Nov 13, 2017, Hong Kong Exchanges and Clearing launched its first black metal product — cash-settled TSI Iron Ore Fines 62 percent Fe CFR China Futures — which is provided by S&P Global Platts. That means non-local futures products have been introduced into the local market before. Hence, there should be no obstacle preventing futures products from the Chinese mainland, especially Shanghai, from coming here.
Another possible way forward for Hong Kong’s futures market is to propel its integration into the development of the Guangdong-Hong Kong-Macao Greater Bay Area city cluster. As the central government is about to announce the blueprint for this grand plan, Hong Kong must integrate or be marginalized.
Integration into the Bay Area and the country’s overall development strategy requires hooking up with Chinese mainland’s real economy and financial markets. Real economic connection is hindered by immigration control at the boundary, but a connection between the financial markets on both sides is not impeded by the “visible boundary” and could be implemented first, and indeed it has already started.
Besides introducing Shanghai’s commodity futures, HKEX should also try to come up with other Chinese mainland commodity futures products of its own design, similar to Shanghai’s crude oil futures. If only the SAR is willing, I believe the central government would back up the idea. If Hong Kong does that, Shanghai may join in as well, and that would lead to the formation of the Shanghai-Hong Kong commodity futures connect.
Before expanding the scope of its futures market to other commodities of the country, however, Hong Kong should first integrate its real economy into the Chinese mainland’s. Looking at the rest of the world, all cities that have developed a major commodity futures market enjoy the strong backing of their country’s real economy. If the SAR could not do so, the futures market for the country’s other commodities, even if created, would not be able to mature, and Shanghai would pick up where Hong Kong has failed.
(The author is a senior research fellow of China Everbright Holdings)
(Published on Page 5, China Daily Hong Kong Edition, April 6, 2018)