The following article published by Manifold Times on 30 June was sourced from China’s domestic market through a local correspondent. An online translation service was used in the production of the current editorial piece:

The ‘Fuel Oil/ Low Sulphur Fuel Oil Futures Market Development Report 2022’ recently published by Shanghai Futures Exchange (SHFE) and subsidiary Shanghai International Energy Exchange (INE) shared highlights of Shanghai’s fuel oil futures market since its launch in 2004.

The report also included SHFE’s next-phase plans, market operations and progress updates of the country’s fuel oil futures and LSFO futures:

With the strong support and active engagement from market participants, both the fuel oil futures and the LSFO futures markets have shown steady trading activities, smooth clearing, settlement and delivery processes, and increasing overseas participation.

(I) Growing market size and capacity to serve the real economy

In response to the implementation of the global sulphur cap on marine fuels in 2020 and other industry trends, the Shanghai Futures Exchange (SHFE) listed the LSFO futures on the Shanghai International Energy Exchange (INE). Both the regular fuel oil futures market and the LSFO futures market have been running smoothly since the listing, with steadily increasing trading volume and open interest. The 2021 data of the Futures Industry Association (FIA) show that by trading volume, the SHFE fuel oil futures and the INE LSFO futures were respectively the 2nd and the 28th largest energy derivatives in the world.

In 2021, a total of 276.9938 million lots of fuel oil futures were traded, a decrease of 41.95% year-on-year (YoY). Year-end open interest was 493,500 lots, up 11.84% YoY. The monthly volume reached a yearly high of 32,697,200 lots in March and a yearly low of 12,061,700 lots in December. The highest month-end open interest of 493,500 lots was recorded in December and the lowest of 256,500 lots occurred in October.

In 2021, a total of 18.5948 million lots of LSFO futures were traded, an increase of 90.47% YoY. Year-end open interest was 75,700 lots, down 46.14% YoY. The monthly volume reached a yearly high of 1,954,300 lots in November and a yearly low of 1,112,100 lots in February. The highest month-end open interest of 143,700 lots was recorded in January and the lowest of 62,700 lots occurred in October.

(II) Effective price discovery functions and widening international application of product price

Whether it’s between the closing price of the most active fuel oil futures contract and the price of spot 380 CST fuel oil in eastern China, or between the closing price of the most active LSFO futures contract and the price of spot LSFO in eastern China, the correlation coefficient has been close to 0.9 since the listing of the two futures products. This shows that the futures markets can effectively reflect the price changes in the spot market.

On June 21, 2021, SHFE and Zhejiang Mercantile Exchange (ZME) jointly launched the Zhoushan LSFO bonded bunker price, which is calculated from the bunker quotes submitted by the major Zhoushan-based bunker fuel suppliers, which quotes are in turn based on the daily settlement price of the LSFO futures contract as adjusted by premiums and discounts. As of the end of 2021, five bunker fuel suppliers— Sinopec Zhejiang Zhoushan Petroleum, Chimbusco, Zhejiang Free Trade Zone PetroChina Fuel Oil, Zhejiang Seaport International Trading, and Zhejiang Petroleum Fuel Oil Sales—were submitting quotes as bunker fuel sellers on ZME. These suppliers together account for 84% of the regional market, which means their quotes can fully and objectively reflect the price trend of the bunker market and are being closely monitored by the market. 

(III) Improving market structure with active participation of institutional clients 

As of end-2021, institutional clients showed an approximately 20% increase YoY in trading volume and an approximately 15% increase in open interest in the fuel oil futures, and an approximately 20% and 15% increase YoY respectively in the trading volume and open interest in the LSFO futures. 

(IV) Stable physical delivery volume that enables effective hedging functions 

In terms of physical delivery, the total delivery volume of SHFE fuel oil futures in 2021 is 40,935 lots (409,350 mt of fuel oil), with total delivery value of RMB 945 million yuan. The highest delivery volume of 14,389 lots (143,890 mt) was achieved in September and the lowest of 70 lots (700 mt) was recorded in December. For the LSFO futures, the total delivery volume in 2021 is 41,089 lots (410,890 mt of LSFO), with total delivery value of RMB 1.340 billion yuan. The delivery volume peaked at 6,220 lots (62,200 mt) in April and reached its lowest point of 206 lots (2,060 mt) in July.

(V) High-level opening up for high-quality development of the industry 

1. The first cross-border take-delivery of LSFO futures completed to lead the two-way opening-up of China’s futures market

A new delivery model of “domestic delivery + overseas take-delivery” has been introduced to the LSFO futures, made possible through group factory warehouses. The first overseas take-delivery transaction involved three companies from Singapore: Trafigura Group (Singapore), Freepoint Commodities Singapore, and China-Base Resource Singapore. This is a milestone for China’s futures market in taking delivery activities internationally, which further improves the accessibility of China’s futures products and market connectivity under the Belt and Road Initiative. This new delivery model expanded trading channels for industrial enterprises, improved the efficiency of resource allocation, and allowed for multi-dimensional risk management covering domestic and international markets, futures and physicals, and online and offline tools. It helps the industry develop a more sophisticated pricing mechanism and improve China’s pricing power in the major commodities. 

2. The first use of RMB price for overseas trades in the bonded bunker fuel industry 

Freepoint Singapore, Chimbusco International Petroleum (Singapore), China Merchants Energy Trading (Singapore), and COFCO International Freight inked bunker supply contracts which reference the prices of INE LSFO futures as the pricing benchmark. This was the first time that China’s fuel oil futures prices served as a pricing benchmark in overseas trades. It has raised the influence of RMB in the global pricing of fuel oil, contributed valuable experience to the high-level opening-up of China’s futures market, and supported China’s new development paradigm under the “Dual Circulation” strategy. 

3. Helping form low-sulphur bunker fuel quotations to build an integrated futures-physical market for oil and gas in the Yangtze River Delta region 

SHFE and ZME jointly launched the Zhoushan LSFO bonded bunker price, which is calculated from the quotes submitted by bunker fuel suppliers based on the settlement price of the LSFO futures contract. This is the first RMB-denominated quotation mechanism in China based on futures prices, providing a new, proven, and reliable pathway for transmitting the LSFO futures price to the spot suppliers. This quotation mechanism was strengthened in June 2022 with the publication of bid prices, submitted by five international shipping companies, for bunker fuel at anchorages in Zhoushan, thus creating a bid-ask quotation model. 

4. Futures-physical market integration to promote functional innovations for the futures market 

SHFE and INE began to publish the monthly average settlement prices of the LSFO futures (“mean of settlement”, MOS), to complement the monthly average prices in the spot market of the corresponding product. This futures price information offers enterprises a more relevant price reference for their ongoing production and operating activities, and can better meet their trade pricing and risk management needs.

Conclusion

In 2021, the fuel oil futures market has been running stable overall with the risks well under control. The products have been functioning well, as the futures and spot markets show a high correlation factor and a symbiotic relationship. Major innovations with the fuel oil futures prices were made, greatly contributing to the two-way opening-up of China’s futures market and the creation of an integrated futures-physicals market for gas and oil in the Yangtze River Delta region. 

SHFE’s next-phase plan relates to the following three areas: 

1. SHFE will continue to improve the operations of the futures market, find new applications for futures prices—such as by promoting their use to domestic refineries, traders, bunker fuel suppliers, and other players within the bonded bunker fuel industry—and expand the breadth and depth of the functions of futures products. 
2. SHFE will accelerate the integration of the futures and spot markets for LSFO, by providing more price references, such as supply price and ex-tank price, for China’s bonded bunker fuel market; and promote product innovation to introduce more hedging tools, such as LSFO mean of settlement futures contract, that address the pricing needs of the bonded bunker fuel supply industry. 
3. SHFE will continue to promote the high-level and institutional opening-up of the market, strengthen engagement with international organisations, and vigorously encourage the application of “Shanghai Oil” prices in the international financial market to enhance the global influence of China’s fuel oil futures and boost the high-quality development of the real economy. We look forward to working with all market participants to build a more prosperous market for high and low sulphur fuel oil derivatives.

Photo credit: Dimitry Anikin on Unsplash, Shanghai Futures Exchange
Published: 30 June, 2022