'Serious interest' in derivatives

International investors are lining up to participate in a new market offering exposure to the fortunes of New Zealand's dairy industry, according to NZX chief executive Mark Weldon.

The head of the Wellington-based stock exchange company said governments, food companies and financial institutions from around the world had indicated a desire to take part in a derivative trading market it is launching next month.

"There is very serious interest from some very serious players."

The market NZX is creating will allow participants to enter into contracts based on the value of bulk dairy products, without ever actually physically trading the products.

Based on the expectation that prices will fluctuate, the derivatives can reduce the risk of – or create profit from – price volatility.

Starting with whole milk, derivatives trading is expected to be the key growth area for Wellington-based NZX, which yesterday reported a 3 per cent fall in profits for the three months to March 31 of $2.94 million. Its operating revenues rose 46 per cent to $11.85m after buying agricultural product businesses last year.

Mr Weldon said NZX planned "a reasonably traditional market where there is a real need for hedging actual risk where [investors] can't right now". While the Chicago Mercantile Exchange offers derivative products for butter and cheese, there is no whole milk market available.

"Dairy is, from what we can ascertain, the largest soft commodity in the world for which there is not a deep and liquid global hedge market, so the opportunity is very sizeable," Mr Weldon said.

He predicted derivative trading could be as big as NZX's cash equities business in five years.

New Zealand dominates the international market for dairy exports, creating the opportunity for the market to be based here. Outside investors would gain exposure to both local and international trends by buying into the market, Mr Weldon said.

"Dairy allows you to buy exposure to not only the New Zealand economic story but also the Asian growth story, the population story and the food protein and food safety story. The potential appeal is very sizeable."

Fonterra has welcomed the products and will use them to manage its own risk. Bruce Turner, the co-operative's director of commodity risk and trading, said price volatility on food products had increased over the last five years "and we think that's a trend that is going to continue".

While the company currently hedges some of its risk through products offered in Chicago, the NZX offering would be "more core to our portfolio of price risk".

Mr Weldon also called again for the Government to crack down in Thursday's Budget on investment imbalances which favour rental property, claiming the current rules "suck the life out" of companies.

"We've seen over the last seven years, 700 or 800 companies who were too small to list, but can't raise capital of any form," he said.

"They all know a lot of rich people but those guys are throwing all of their money into rental property or tax deduction, so if the Government is serious about productivity, which I believe they are, they have to hit that with a bit of a hammer."

- © Fairfax NZ News