Vale says iron ore derivatives market is in the works

Brazilian iron ore giant Vale SA (NYSE:VALE)foresees the development of a huge market in iron ore derivatives in response to the recent price volatility triggered by China's growing consumption.

Reuters reports that Vale's iron ore head Jose Carlos Martins expects a derivatives market to evolve in order to cater to industry players seeking to hedge against price volatility created by China's vast consumption of the key steel-making ingredient.

At a news conference in New York Martins said that financialization of the iron ore market is "inevitable", with iron ore clients outside of China who are unable to deal with dramatic price fluctuations eager to avail themselves of financial instruments in order minimize risk.

Martin notes that Chinese firms have a "very big risk appetite towards iron ore because they consume 65% of production" and that the demand for a derivatives market catering to iron ore will become a pronounced trend in Europe and Japan.

For decades prior to the rise of the Chinese economy iron ore prices were determined by an annual benchmark price system involving contract terms as long as ten to fifteen years.

China's economic modernization has since created a spot market for iron ore which has generated immense price volatility and vitiated the appeal of negotiated contracts between suppliers and buyers.

Martins believes this trend will persist for years to come. "We believe the future of iron ore will be on deals based more than ever on the spot market, with contract terms of one to three years. Clients will not want long-term contracts."