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Asia accepts need for commodities trading hub

Section: Daily Dispatches

By Javier Blas and Lindsay Whipp
Financial Times, London
Tuesday, October 21, 2008

Asia has become the world's engine of commodities demand. In spite of the region’s critical role, however, it has failed to establish a strong commodities exchange.

The vacuum has allowed London, New York, and Chicago to thrive as commodities trading hubs. But battle lines are being drawn by old and new participants in Asia, which are determined to become the recognised commodities exchange for the region.

Such a central hub would improve liquidity and foster innovation in commodity-based financial products, bankers say.

"The whole region needs so many more [commodity] futures contracts," says Jignesh Shah, vice-chairman of the new Singapore Mercantile Exchange.

Jim Rogers, the influential commodities investors, adds: "Asia is the centre of commodities demand with 3bn people. But today if you want to know the price of oil or corn, you have to look at places such as Chicago or London."

The struggle for regional dominance in commodities trading is taking place just as wild swings in the price of oil and other raw materials increase Asian companies’ need to hedge their exposure.

"The requirement of price risk management is only going to increase," says Bob Takai, executive officer at Sumitomo, one of Japan’s largest trading companies.

The global financial crisis -- which is driving business from the opaque bilateral, private over-the-counter market -- could be an opportunity for nascent exchanges. But it is also a challenge, because banks and trading houses are understandably reluctant to start new projects at a time of economic uncertainty.

The old Tokyo Commodities Exchange (Tocom) is firing the opening shots in the battle, demutualising and relaunching its operation in December, just ahead of the launch of Singapore’s commodities exchange and next year's opening of the new Hong Kong Mercantile Exchange (HKMEx.)

Japan introduced the world’s first commodity exchange back in 1697 with its rice market in Osaka, but it has since retreated to the sidelines.

Tocom's executive director of planning, Mitsuhiru Onosato acknowledges that the exchange has failed to profit from the boom in commodities.

"Our trading system is old-fashioned," Mr Onosato concedes, referring to the exchange's focus on retail investors, which has led to narrow price and position limits. Those measures have discouraged institutional players, he says. But Tocom is overhauling its operations, and has a target of doubling trading volume in Japan's commodity markets, which have halved in the past five years.

Russell Norton, head of Asia-Pacific commodities sales at Barclays Capital, says that while the improved access to systems will be helpful to people outside Japan, "the really important step happening in Japan, is that Tocom is becoming relevant to local domestic oil pricing."

The changes at the bourse come as amendments in Japanese regulation allow financial companies to play a bigger role in commodities.

Bankers say local securities houses Nomura and Daiwa are eager to expand, but banks such as Mitsubishi UFJ are less enthusiastic.

While Tokyo overhauls its market, Singapore and Hong Kong are still finishing their plans for launching their new exchanges. The HKMex is hoping it can position itself as the commodities connection between China and international markets.

Officials want to highlight the city’s well-regarded regulatory environment and the presence of international banks and traders as factors that make its market particularly attractive. However, Singapore's SMX is betting a similar model of solid regulation and already existing banking infrastructure will tempt traders.

"SMX will act as an anchor to the hyper growth economies of Asia," the exchange says. SMX has another advantage: Singapore is already a strong hub for over-the-counter oil trading.

Singapore's old and illiquid commodity exchange, which mostly trades rubber, is also closely following the others' manoeuvres, officials say.

The battle will affect the commodities markets in Dubai -- which has ambitions to be a regional centre for oil, steel, and precious metals -- Mumbai, and Kuala Lumpur.

Meanwhile in China, the Shanghai Futures Exchange -- focusing on metals -- and the Dalian Futures Exchange -- agriculture -- are becoming stronger, although their ambitions are limited because foreigners are not allowed to trade.

The big question though is whether any or some of these exchanges will succeed in becoming regional hubs. "We've had too many attempts, too many exchanges, but not enough good ones," says Adi Imsirovic a director of Petraco Oil in Singapore.

Bankers and officials warn that exchanges need to offer unique products to thrive -- rubber or rice contracts for Asia are often mentioned -- or create strong regional benchmarks to attract arbitrage business -- such as an Asia oil contract to trade against Europe's Brent and the US' West Texas Intermediate.

"There is potential for a model of niche exchanges with some kind of linkage to global exchanges," Barclays' Mr Norton says.

"It would be nice to think that this would happen because it really gives you the ability to manage risk between different locations," he adds.

Bankers say that without uniqueness or strong regional benchmarks, liquidity will remain at established centres rather than migrating to new places. The Asian exchanges face a fight to wrestle business away from London, Chicago and New York.

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