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China fuel oil futures debut slow as traders wary over potential risks

SINGAPORE: Trade on China’s fledgling fuel oil futures market has been slow to build as Chinese traders are wary over the potential risks and foreign firms have yet to see its relevance as a hedging tool.

Top state traders Unipec, Chinaoil and Sinochem Corp, under close internal scrutiny to manage the risks in derivatives trade, wait to see if the first physical delivery due in January from the world’s only fuel oil futures contract, almost a month old, would run smoothly.

“Many people are waiting for the dust to settle before taking a plunge. Deliveries could be a main concern,” said a Beijing-based state trader who declined to be identified. “State firms are simply more cautious as we look at the futures as a hedging tool, not for speculation.”

The most actively traded January contract fluctuated between 25,000 and 35,000 lots, of 10 tonnes per lot, for most of the past month — a third of the volume on its strong Aug. 25 debut — and had dipped to as low as 6,882 lots.

The Shanghai Futures Exchange appointed five storage facilities with a total capacity of 380,000 cubic metres (2.4 million barrels) as the delivery spots.

More than half of these tanks are in Zhanjiang city in the west of southern Guangdong province, away from the top import terminal Huangpu in eastern Guangdong.

Traders said they preferred to lift the oil from Huangpu, but its limited tankage capacity could expose it to market munipulation.

Foreign oil companies, allowed to trade the yuan-denominated fuel oil contract via their locally incorporated entities, have so far shown scant interest in futures trade until China’s plans to open up its domestic oil market were completed.

“We don’t really see the link between the Shanghai futures and the market we are selling into now, which is based on U.S. dollar cost-and-freight China,” a European trader said. “It will make sense if we have domestic wholesaling business.”

Market opening: Exchange officials have said the gradual opening of China’s oil market would pave the way for the exchange to launch crude and other oil products futures, as local firms faced rising competition from foreign giants such as Royal Dutch Shell and BP Plc.

The world’s second-largest oil consumer, which imports over a third of the 6 million barrels of oil it needs daily, is expected to open its retail oil sector to independent Chinese players and foreign firm from the end of 2004 and the wholesale business two years later.

A Unipec trader said the price movement on the Shanghai contract largely tracked that of the Asian benchmark Singapore fuel oil market, rather than reflecting the local market trend.

“We have to wait and see whether it would become a useful hedging tool. For now, we are quite happy with Singapore swaps,” he said, he said referring to the Singapore forward fuel oil derivatives market. Traders said the Shanghai market had so far drawn mostly non-oil punters. Open interest on the prompt-month hovered just above 17,000 lots.

The state-run exchange reaped around $1.7 billion in total turnover in the past month with more than 650,000 lots traded, an exchange official said on Wednesday.

But if the teething problems could be sorted out, traders and exchange officials were upbeat about the prospects for fuel oil futures, relaunched after a 10-year wait, pointing to the success of China’s 12-year-old copper futures.

“Look at copper. Fuel oil has a future. But it would take time and require big involvement of physical players,” said Chen Hongbing, senior fuel oil broker at Japanese brokerage Ginga.

China is among the world’s top consumers and importers of fuel oil and copper, and both are free from government price controls, which make them attractive to investors.

“The oil contract has a great impact. We’re sure it has a good prospect. We are now only one month old,” said a top exchange official from Shanghai.

Shanghai copper futures draw many local players and Western traders such as Glencore and Trafigura, having established itself as one of the world’s three benchmark markets after London and Chicago.

“The buzz word for Shanghai copper market goes: if you don’t play poker or mahjong, play in the copper market. It might happen to fuel oil as well,” a Singapore-based China metals trader said. reuters

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