24 April 2019

High hopes, and hurdles, for Shanghai FTZ’s oil futures

GF Securities (000776.CN) and Shenyin & Wanguo Securities are some of the early birds that have already obtained licenses or set up operations in the Shanghai Free Trade Zone in the hope that the expected launch of crude oil futures will bring plenty of new business and fresh clients.

Crude oil futures trading will trigger capital flows and create the need for managing the risks of related interest rate movements or exchange rate volatility, Shenyin told the China Securities Journal. GF Securities is planning to leverage on a UK futures company it acquired earlier this year to bring foreign investors to Shanghai once the platform is up and running, the daily reported.

While hopes are high, so are hurdles. Despite supportive measures for the new contract, authorities have so far failed to paint a clear picture as to how and when they will remove some long-standing obstacles.

For years, China, the world’s second largest oil consumer, has been talking about establishing its own crude oil futures so that pricing of the fuel can better reflect its own supply-demand situation, rather than leaving the country vulnerable to shifts in inventory levels and production glitches overseas that dictate the price of WTI or Brent, the two most popular contracts.

The China Securities Regulatory Commission’s approval in late September of a plan to build such a platform represented a major step forward. Shortly after that, the Shanghai Futures Exchange (SHFE) revealed that it will speed up its preparations for the construction of an international energy trading center inside the Shanghai FTZ, where the contract will be listed.

While progress is solid, there are a few major barriers. The No.1 issue is the limited convertibility of the renminbi currency.

To build a market that will appeal to international players, dual currency pricing is almost a prerequisite. Unless the planned contract can be settled in both the renminbi as well as the US dollar, it stands little chance of becoming a global benchmark. But how far the Shanghai test bed would experiment with free flow of capital and currency convertibility is still far from certain.

Monopoly of oil imports is another thorny issue. China maintains a firm grip on the sector and the majority of oil import is largely done through five major authorized players.

Importing oil to settle futures contracts could be difficult for other participants. Meanwhile, uncertain delivery and storage costs will only add to the concerns.

– Contact the reporter at [email protected]



EJI Weekly Newsletter

Please click here to unsubscribe