Before the end of this year, China will have a new financial futures exchange with at least one index-based futures contract and the involvement of foreign participants. Meanwhile, global commodities traders now have two new futures contracts to choose from after sugar was reintroduced yesterday on the Zhengzhou exchange and soya oil begins trading on Monday in Dalian. Today's futures fever is a far cry from February 23, 1995 - a day still fresh in the minds of the securities regulators. That was the day the last 15 minutes of trading in treasury bond futures had to be cancelled, it was the day the state lost more than one billion yuan and it was the reason the central government banned financial derivatives for more than 10 years. The infamous '327 incident' is often referred to in the current debate among China Securities Regulatory Commission (CSRC) officials over how and when to reintroduce financial derivatives on the mainland (see report below). In October, revisions to the securities law gave state sanction to the plan and in November the first foreign-domestic joint-venture futures brokerage, between ABN Amro and Galaxy Securities, was formally approval. Unlike in other sectors, such as banking, financial derivatives are not mentioned in China's World Trade Organisation accession agreement and the regulator has no international obligation to introduce them. These changes are happening because the market demands them. But what has actually changed in the past 11 years? The regulators and their superiors at the highest levels of government are faced with a dilemma. On one hand, they recognise the increasingly sophisticated market requires more tools for investors to hedge and manage risks but, on the other, China's sickly securities markets remain just as opaque and plagued with market manipulators as ever. 'If you look at the warrant market, prices are trading totally out of step with any underlying price, even though they are meant to be a derivative with a price derived from the security,' says Fraser Howie, a co-author of Privatizing China, a book on mainland stock markets. Warrants were introduced in a limited way in August for firms undergoing state-owned share reform and were the first financial derivative products on the mainland since 1995. 'There's more money being traded in the half-dozen warrant issues than there is in the stock market, and that's just meaningless,' Howie says. 'It's a very bad sign that there are such huge speculative forces still out there in China.' Other bad omens include the 2004 China Aviation Oil futures scandal in Singapore and last year's debacle when a state copper trader made massive losing bets on the London Metal Exchange. One thing that has changed is the CSRC, which now has far more control over the market than it did in 1995. 'The situation is different from the past, we have made great progress in regulations and laws and we have a lot of experience now with treasury futures,' says one CSRC official. He says the state share reform scheme should be basically finished within the next three or four months, at which point initial public offerings can be resumed and the regulator can begin to reintroduce financial futures. The CSRC plan, which is still subject to State Council approval, involves the establishment of a new financial futures exchange, probably in Shanghai. Both the Shanghai and Shenzhen stock exchanges as well as the Dalian, Shanghai and Zhengzhou futures exchanges were all vying for the right to launch financial futures, which will be started with a blue-chip index futures contract. However, the CSRC came up with a compromise solution making all the exchanges shareholders in the new entity. As part of the reforms, foreign players will be allowed to invest through the qualified foreign institutional investor scheme in both commodity and financial futures once they are introduced. At the same time, some domestic futures brokers will be allowed to expand outside the mainland. China has 180 registered futures commission merchants who are confined to acting as brokers trading for clients on the mainland commodity futures exchanges. The CSRC intends - most likely in the second quarter - to name up to 10 such merchants that will be allowed to set up shop in Hong Kong and trade commodity futures for all domestic clients on global exchanges. At present, only 31 giant state enterprises, such as Sinopec Corp, Cofco and Minmetals, are authorised to trade international commodity futures but they are still very restricted in which contracts they can buy and which exchanges they can buy them on. The CSRC also plans to launch a new investor protection fund in preparation for shutting down and consolidating many of the futures brokerages. 'They know some of them are not well run and they plan to consolidate the industry as they've been consolidating the securities brokerages,' says a market participant who asked not to be named. Even after the launch of sugar and soya oil contracts, the 180 brokerages are only able to trade 12 commodity futures contracts but the government is speeding up the introduction of new futures contracts, in part due to concerns that prices for commodities essential to the country's development are being set in Chicago and London. 'For a lot of commodities, China is the biggest consumer and is creating most of the global demand but Chinese companies have lost a lot of money because the prices are set overseas,' says Liang Haisan, an analyst with China International Futures, the country's largest futures broker. 'The more commodity futures contracts we have the more people will come to the market but if the regulator introduces financial derivatives too quickly, it will be a disaster.'