Derivatives focus moves to coking coal

Coking coal derivatives could see a rapid increase in traded volume during the coming year, potentially doubling from 2.6m tonnes in 2015 to above 5m tonnes, according to London-based brokerage Freight Investors Services (FIS).

FIS, which focuses on dry bulk derivatives, reports that the rise in volumes is driven by interest from trading houses, which offer increasingly attractive physical terms to end users.

This month has already seen an increase in traded volume and in the size of trades being placed in the market. This has happened even as free on board (FOB) – aka freight on board – prices and the related Capesize-C5 freight route have continued to fall.

Shifting focus

The maturity of the coking coal swaps market reflects a move away from a primary focus on price, towards use as a risk management tool by a mixed user base, says FIS strategy director Michael Gaylard.

“Trading houses are starting to step in now because they see an opportunity between the traditional supplier model and the needs of the end users,” he reports. “To end users whose capital and credit lines are squeezed, traders can bring a financing opportunity alongside fixed or floating prices for the product.”

FIS comments that the evolution of coking coal derivatives to some extent mirrors the iron ore swap in moving from fixed period pricing contracts towards spot and floating rate contracts. The key difference is that coking coal lacks the wide geographical distribution of iron ore, so supply is more concentrated and subject to potential constraints.

As their physical exposure rises, these traders will increase their use of hedging, driving the volume of coking coal derivatives. At the same time traditional suppliers could increase their use of swaps and futures as they seek to manage counterparty risk in what remains an uncertain macro-economic landscape.

“The use of derivatives has helped create a more open market that new traders can step into,” adds Gaylard. “The buy side is less inhibited in terms of finance options and traders can also reduce risk for suppliers, encouraging them away from fixed price contracts to more flexible terms that buyers want.”


Related reading

Mark Carney Bank of England