Print Oct 10, 2023

[Interview] William Chin, Head of Commodities at SGX, “FFA has a lot of room for expansion”

シンガポール取引所(SGX)コモディティー部門責任者 ウィリアム・チン氏

On the 6th November, the seminar "SGX Commodity Day Japan Edition" will be held in Tokyo. It will explain various market trends, including iron ore and sea freight, to Japanese stakeholders. William Chin, head of the commodity division, responded to an interview with the Japan Maritime Daily prior to the seminar. He pointed out that due to the coronavirus pandemic and geopolitical risks, risk hedging (avoidance) has become more important than ever. Citing the effectiveness of futures trading as an optimal (best practice) risk management method, he said, “Compared to other commodities, the proportion of futures trading in sea freight is small, and there is a lot of room for growth for FFA (Forward Freight Agreement).”

JMD: How do you think about the importance of risk management and risk hedging in shipping and commodities trading, and the role of futures contracts such as FFA ?

Derivatives is about risk management and hedging away market volatility. Covid and geopolitical disruptions have exacerbated the risk-reward payoff for companies, and those who do not hedge run into difficulties when prices gap up and down. Best practice risk management means appropriately managing your downside, through locking in prices akin to an insurance policy.

In the last two years, we have seen greater use of our derivative contracts such as Forward Freight Agreement (FFA) as more market participants turned to hedging to protect them against the underlying market’s volatility. In fact, the roles and benefits of best practice risk management extend beyond just managing price risk exposure. Market participants will also benefit from the reduction of counterparty credit risks, the use of a single clearing arrangement to trade and clear with multiple counterparties, and the ability to deploy their capital more efficiently as a result of our robust margining system. (See Note 1)

JMD:Could you explain the current status of FFA handled by SGX (cargoes, routes, etc.), volume of FFA handled in 2022 (including year-on-year changes), and outlook for 2023 ?

SGX offers a full suite of Dry FFA products covering all key segments of dry bulk freight market, from Capesize, Panamax, Supramax to Handysize. SGX’s global Dry FFA volumes account for approximately two thirds of the global Dry FFA market. In 2022, our Dry FFA volumes totaled 1.8 million contracts, and in 2023, volumes are projected to hit 2.2 million contracts, more than 20% higher year-on-year.

One of the key liquidity and growth metrics that we look at is the paper-to-physical market size ratio. Global Dry FFA volumes now represents only about 0.6 to 0.7 times the underlying physical market. Compared to other commodity products such as iron ore (2 times paper-to-physical ratio) or oil (15 times paper-to-physical ratio), Dry FFA market has ample room for further growth in the future, both as a physical hedge play and as a global macro trading play. As one of the most relevant macro products, shipping provides insights into the global supply and demand trends and is often viewed as a predictor of the future health of the economy.

JMD: What is your view of recent trends in the FFA market and the future outlook?

In the last three years, we have witnessed a growing pool of liquidity in the global Dry FFA market as the total pie grew. Specifically, we have seen an increase in activity from financial traders - participation in 2020 accounted for 17% of our total Dry FFA volumes, and this has grown to 26% as of Aug 2023. Non-shipping participants are increasingly drawn to FFAs as a means to gain exposure to shipping due to its economic relevance, intrinsic high volatility, and low correlation with other asset classes.

To drive further growth in the FFA market, SGX will work together with the Baltic Exchange and key industry and broker stakeholders to conceptualise new product innovation that may simplify access to freight rates that can enable greater participation from financial traders seeking exposure to shipping markets. One possibility is a derivative based on the Baltic Dry Index (BDI), which is a leading indicator of global trade flows represented by a composite index of the Capesize, Panamax and Supramax timecharter averages.

JMD: Could you explain the purpose and effects of adding other platforms such as Baltic Exchange and Freightos under SGX.

SGX acquired the Baltic Exchange in 2016 to bring together the complimentary strength of SGX as a leading clearing venue for seaborne commodity derivatives products, and the Baltic Exchange as the world’s leading physical freight market information provider. The SGX-Baltic combination harnesses the “cargo and freight” synergies, providing market participants with a seamless and capital-efficient way of managing their bulk cargo and freight risk on a single platform. SGX today operates the largest clearing venue for Dry FFA, with our global market share doubling from 35% in 2017 to 70% in 2022, as global Dry FFA volumes rose from 1.4 million contracts to 2.6 million contracts in the same period.

In 2018, Baltic Exchange broadened its footprint in container shipping through Freightos, a digital platform for real-time global container freight rate comparisons and booking management services. This enabled the development of container FFA derivatives, which is a key risk management tool made evident when Covid struck in 2020. Extreme supply chain stress and freight rate volatility provided the much-needed transparency into the market and is now used by leading exchanges such as CME and SGX as the basis to settle container derivatives contracts.

JMD: May I ask the purpose and significance of this seminar in Japan.

The “SGX Commodities Day – Japan Edition” event is held annually to allow SGX to connect with key clients and partners in Japan and aims to provide thought leadership about the most current developments and outlook of various commodities amid global macro risks and decarbonisation drive – from iron ore, steel and shipping to energy metals, sustainable fuels, and carbon. The event therefore fits very well with the central role that Japan plays in the commodities world. Japan is the top ten steel producing country and one of the largest ship-owning nations and LNG importers and is set to lead the region’s energy transition drive with low-carbon ammonia as a possible energy solution to help Japan achieve its net-zero goals by 2050.