Oil Benchmarks: What Works Best For Asian Markets?
In part 1 of this blog, entitled Fireworks and Debates in the Regulatory and Risk World, Energy Risk Magazine Asia Conference panelists discussed the unintended consequences of new OTC regulations in prompting a switch from bi-lateral OTC trading to equivalent futures products – a trend dubbed ‘futurisation’.
In part 2, we switch gears to discuss a different type of risk, that of selecting a crude oil benchmark appropriate for Asia.
Here we saw a lively debate, at times verging on fireworks, from two competing visions. An Asian crude benchmark used in the context of this debate is a convenient reference price for all Asia crude or Asian products linked to crude.
- Christopher Fix, CEO of DME, fired the opening shot, flatly stating that Asia’s choice of Crude benchmark should come from where the bulk of its physical supplies are coming from – in other words, Dubai, located in the Middle East, and not Brent, located in northern Europe. According to Fix, a crude benchmark for Asia should have two components: first, the benchmark location should have sufficient oil underpinning it to provide a steady supply in the foreseeable future and enough volumes traded day-to-day to maintain high levels of liquidity; second, the physical crude from that benchmark should be a substantial component consumed by Asia. Fix noted that Brent crude from the North Sea is running out, and it is geographically too far away from Asia to be a good proxy for Asia oil prices. As a parting shot, he points out unrelated constraints, such as a natural disaster in Europe, should not logically affect Asia crude prices.
- Vandana Hari, Editorial Director from Platts Asia, had a different vision. In her view, Brent crude is the de-facto international benchmark, traded in Europe, the U.S., and around the world. It is a highly mature system, very transparent, and is traded by NYMEX and other exchanges with high levels of volume and liquidity. An added advantage, Hari pointed out, is that Brent is geopolitically very safe – an allusion to the laundry list of unresolved Middle Eastern issues.
The two camps agree on one important point – that markets, out of convenience and efficiency, will eventually choose a direction. I don’t have a horse in this particular race, but as an observer, a few things that stands out:
In Figure 2 above, we can see Oman Crude Oil Futures prices tracking between Brent and WTI, meaning that analysts and price reporters can probably independently research which benchmark better reflects the actual crude prices at a typical Asian refinery – and it if Fix is to be believed, prices may not reflect Brent, since Asia imports more than an estimated 63% (or 11.7 million b/d) of its crude from the Middle East (Figure 2 courtesy of HIS and BG Group).
But as a counterpoint, even with the incredible growth in volume of Oman Crude Futures traded touted by DME, Oman continues to trade at a fraction the volume of Brent Crude Futures, as seen in Figure 3 below.
I pulled up trade volume data with the help of the ZEMA Suite and found that in the last half year, Oman Crude trades at only about a seventh of a comparable Brent Crude futures product.
Crude benchmark risks may arise when organizations commit to long-term contracts pegged to benchmarks that could be abandoned by the market for not adequately reflecting regional fundamentals. Malaysia’s APPI, once used as one of Asia’s most important crude benchmarks, sits all but abandoned after years of declining production in favor of Dated Brent (Bloomberg).
As a cautionary tale, falling production and declining spot cargos since 2009, meant Malaysia’s Tapis Asia Petroleum Price Index or APPI now sits all but abandoned by the regional players such as Malaysia, Indonesia, Vietnam, and Australia in favor of Dated Brent (Bloomberg).
Also, as a final note, we were proud to take home the Energy Risk Magazine’s Technology House of the Year Asia at the event this year! Thank you, Energy Risk Magazine!