Beijing initially introduced crude futures way back in 1993, but they would continue trading for only one and a half years due to trade volatility. As China largely depends on crude import, volatility in the commodity market is a major impediment. In fact, imported oil meets more than 60% of China’s crude demand, per media reports.
To address this problem and to gain pricing power on the commodity, China has launched its first internationalized crude futures.
High Dependence on Crude Import
The reliance on imported crude continues to increase as China has been expanding the capacity of refining plants. Media reports claim that China will depend more on imports with time, as refining capacity and demand for petroleum productions continue to expand. Persistent decline in crude production in the domestic market is another factor.
The chart provided by the U.S. Energy Information Administration (EIA) clearly shows that China’s reliance on gross crude imports has been on the rise since 2004. Last year, the country managed to overtake the United States to become the largest importer of oil globally.
Per the EIA, the annual gross oil import of United States was recorded at 7.9 million barrels per day (B/D), compared with China’s 8.4 million B/D during 2017.
Crude Dependency Calls for Pricing Power
The introduction of crude futures is expected to lend China more pricing power. In other words, China can now price the commodity alongside the New York Mercantile Exchange and Intercontinental Exchange.
Once the yuan-denominated crude futures are established as a benchmark with active trading volume and significant global investor participation, the acceptance of the yuan as a mode of transaction will rise.
On top of that, with the launch of Shanghai crude futures, the city has moved a few steps closer to getting more recognition as the leading financial hub in the world.
Successful Debut
Domestic and Western investors showed interest in the Shanghai crude futures, introduced by the Shanghai International Energy Exchange (INE) on Mar 26.
Below is a chart published by Bloomberg that shows the crude futures’ debut day of trading. The September contract commenced trading at 440 yuan per barrel and closed 2.3% lower at 429.9 yuan — equivalent to $68.28, according to South China Morning Post. Compared with the price of West Texas Intermediate (WTI) crude for delivery in May, Shanghai crude was up roughly $3 per barrel. The debut day closing price was below the Brent crude by almost $2 per barrel.
On the debut day, INE witnessed trade of roughly 20 million barrels of crude, per CNBC.
Sinopec Strikes First Yuan-Denominated Crude Deal
China Petroleum & Chemical Corporation SNP or Sinopec, the largest refiner of crude in Asia, will likely start purchasing oil from September this year for a period of 12 months, announced Reuters. The Middle East crude, which will be purchased from an oil giant in the West, will be priced by INE.
According to some sources, Royal Dutch Shell plc RDS.A will likely be the seller of the crude volumes. However, Shell didn’t make any announcement related to this event.
Bottom Line
Many analysts believe that crude production in China is not significant enough to appeal to foreign buyers or refiners. Also, for hedging activities, most of the crude supermajors have strong establishments in New York or London markets. These events could keep them away from trading crude on the Shanghai exchange.
China will be successful in giving threat to the crude benchmark of the United States only when big players like Exxon Mobil Corporation XOM and Chevron Corporation CVX participate in yuan-priced oil trading. Both Exxon and Chevron carry a Zacks Rank #3 (Hold). You can see the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.
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