China Opens Its Doors To Derivatives Trading

by Phillip Morton, Investors Offshore.com

13 February 2004

Last week, the China Banking Regulatory Commission issued a series of new regulations that will pave the way towards the birth of a derivatives market, accessible to both national and foreign investors.

Many international banks and financial institutions have signalled their intention to enter the new Chinese markets when they commence trading in March. However, despite the nation’s rapidly developing economy, its currency, the yuan, is not yet fully convertible, and most futures, options and other derivatives will be quoted in foreign currencies.

The somewhat under-developed state of the market structures is likely to throw up extra restrictions for foreign players in the early stages. Combined with the rather chequered history of its commodity futures markets, which were rife with price rigging and corruption in the mid nineties, there could be a degree of hesitancy from many investors fearful of getting their hands burnt.

Despite the country’s enormous physical size, its financial sector in monetary terms is relatively small. For instance, its $500 billion outstanding bond market is dwarfed by the $8,000 billion US equivalent, offering enourmous potential for those firms willing to take the risk.

However, the Chinese market is also still restricted by tight constraints imposed from the central bank, which allows interest rates to be set only within a very narrow range. This is likely to inhibit the development of an effective market for interest rate derivatives.

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