PMEX Crude Oil Report

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    PMEX

    Crude Oil FuturesBRENT|WTI

    September 2013

    Pakistan Mercantile Exchange Limited9th Floor, PRC Tower, 32-A Lalazar Drive, MT Khan Road, Karachi.

    Voice: +92 21 111 623 623, Fax: +92-21-5611263, 5610505

    Email:[email protected], website:www.pmex.com.pk

    mailto:[email protected]:[email protected]:[email protected]://www.pmex.com.pk/http://www.pmex.com.pk/http://www.pmex.com.pk/http://www.pmex.com.pk/mailto:[email protected]
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    INTRODUCTION

    Crude oil is a mixture of hydrocarbons that exists in a liquid phase in natural

    underground reservoirs. Crude oil greatly varies in appearance depending uponits composition. It is usually black or dark brown. Petroleum is used mostly, by

    volume, for producing fuel oil and petrol both important primary energy sources.

    Aviation gasoline, motor gasoline, naphtha, kerosene, jet fuel, distillate fuel oil,

    residual fuel oil, liquefied petroleum gas, lubricants, paraffin wax, petroleum coke,

    asphalt and other products are obtained from the processing of crude and other

    hydrocarbon compounds.

    Almost all industries including agriculture are dependent on oil in one way or

    other. Oil & lubricants, transportation, petrochemicals, pesticides and insecticides,

    paints, perfumes, etc. are largely and directly affected by the oil prices.

    GLOBAL CRUDE OIL SCENARIO

    The upstream oil industry in its nature is an international market. The prices of oil

    are driven internationally and representative prices are quoted in US dollars.

    Almost all deals are priced in US dollars.

    Saudi Arabia, Russia, US, Iran and China are the top five oil producing countries.

    The world oil production in 2012 was 89.15 million barrels per day. The total

    proven oil reserves according to 2012 OPEC (Organization of Petroleum

    Producing Countries) estimates are around 1.48 trillion barrels, of which OPEC

    member countries hold around 72%.

    The given below data of world consumption and production shows that since year

    2009 until 2011 the demand had slightly outpaced the supply but that trend ended

    in year 2012 when the production was more than the consumption.

    World Production & Consumption

    Year Production ConsumptionMillion barrels per day

    2009 84.58 84.76

    2010 87.07 87.36

    2011 87.34 88.56

    2012 89.15 88.88

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    In the global oil trade on the supply side OPEC plays an important role and on the

    demand side the economic growth & consumption patterns of top oil consuming

    countries play an important role. The top five countries with respect to

    production, consumption, import and export are:

    World Ranking of Countries

    Rank Production(2012) Consumption(2012) Import(2010) Export(2010)

    1 S. Arabia(11.5) US (18.5) US (9.2) S. Arabia (6.8)

    2 US (11.1) China (10.3) China (4.7) Russia (4.9)

    3 Russia (10.4) Japan (4.7) Japan (3.5) Iran (2.4)

    4 China (4.4) India (3.6) India (3.3) Nigeria (2.3)

    5 Iran (3.5) Russia (3.2) S. Korea (2.4) UAE (2.1)

    Numbers are in million barrels per day.

    The Organization of Petroleum Exporting Countries (OPEC)

    OPEC is a major player of global oil arena. The current members of OPEC are

    Algeria, Angola, Ecuador, Iran, Iraq, Kuwait, Libya, Nigeria, Qatar, Saudi Arabia,

    UAE and Venezuela. The OPEC countries produce about 41 % of the world's crude

    oil and its exports represent about 57% of the crude oil traded internationally.

    Therefore, OPEC can have a strong influence on the oil market, especially if it

    decides to reduce or increase its level of production.

    The OPEC member countries meet at least twice a year to co-ordinate their oilproduction policies in light of the market fundamentals, such as the likely future

    balance between supply and demand.

    The International Oil Pricing

    The crude oil is a most active internationally traded commodity. Oil prices are

    quoted in US dollars and almost all transactions are priced in US dollars

    irrespective of their production origin. Although the oil prices are widely

    influenced by the production decisions of OPECs member countries but the prices

    are not set by them. In today's complex global markets, the price of crude oil is set

    by movements on the two major international petroleum exchanges NYMEX and

    London based International Petroleum Exchange (IPE). The NYMEX and IPE have

    respectively been merged with Chicago Mercantile Exchange (CME) and

    Intercontinental Exchange (ICE).

    There are two major international pricing benchmark contracts, ICE Brent Crude

    Oil and NYMEX Light, Sweet Crude Oil futures contract (WTI).

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    BRENT:ICE Brent Crude Futures is currently the worlds largest crude oil futures

    contract in terms of volume. As the average North Sea crude oil output is currently

    around two million barrels per day (bpd) and the Brent-Forties-Oseberg-Ekofisk

    (BFOE) basket comprises an approximate one million bpd (around 700k bpd

    during the 2012 summer maintenance period), making it the largest underlying

    physical market of any comparable traded and transparent benchmark.

    Approximately two-thirds of the worlds traded crude oil uses the Brent complex,

    which includes ICE Brent futures with its deep liquidity and far-reaching forward

    curve, as a price benchmark. Many national oil producers and other participants

    around the world price crude at a differential to Brent, depending on the crude

    grade. Factors such as Brents accessibility and reach as a seaborne crude,

    production, adaptation to changing global economics in the oil market, stabilityand geographic location have consolidated Brents global benchmark position and

    contributed to physical participants, such as international airlines and oil

    producers in Asia, adopting Brent as a primary hedging tool.

    WTI: NYMEX Light, Sweet Crude Oil futures contract is the world's second most

    liquid forum for crude oil trading, and the world's second largest-volume futures

    contract trading on a physical commodity. Because of its excellent liquidity and

    price transparency, the contract is still used by many as a principal international

    pricing benchmark.

    Price difference between Brent & WTI:

    The Brent-WTI spread, the difference between the prices of Brent and West Texas

    Intermediate (WTI) crude oils, has narrowed considerably over the past several

    months. The spread, which was more than $23 per barrel ($/bbl) in mid-February,

    fell to under $9/bbl in April, and has ranged between $6/bbl and $10/bbl since

    then.

    The narrowing of the spread is supported by several factors that have:

    Lowered Brent (North Sea) prices because Brent-quality crude imports intoNorth America have been displaced by increased U.S. light sweet crude

    production, reducing Brent-quality crude demand.

    Raised WTI (Cushing, Oklahoma) prices because the infrastructurelimitations that had lowered WTI prices are lessening.

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    Before 2011, Brent and WTI crude oil prices tracked closely, with Brent crude oil

    prices typically trading at a slight discount to WTI crude oil, reflecting delivery

    costs to transport Brent crude oil and Brent-like crude oil into the U.S. market,

    where they competed with WTI crude oil. In early 2011, this longstanding

    relationship began to change, and since then, WTI crude oil has priced at a

    persistent discount to Brent crude oil. Increased U.S. light sweet crude oil

    production combined with limited pipeline capacity to move the crude from

    production fields and storage locations, including Cushing, Oklahoma, the

    delivery point for the Nymex light sweet crude oil contract, to refining centers put

    downward pressure on the price of WTI crude oil.

    More recently, expansions in U.S. crude oil infrastructure have eased the

    downward pressure on the price of WTI. Since mid-2012, significant pipeline

    takeaway capacity has been added at Cushing, enabling crude oil to flow to and

    from the trading hub more easily. Other pipeline and rail projects have also beencompleted, making it possible to move barrels from production areas, such as

    Texas and North Dakota, to refinery centers without passing through the hub.

    Even U.S. East Coast refineries, which historically have relied on Brent crude oil

    and Brent-like crudes, can now access U.S. light sweet crude oil. U.S. crude that

    moves by rail is replacing Brent crude oil and Brent-like crude oil imports into the

    U.S. East Coast, putting downward pressure on the price of Brent crude oil and

    narrowing the differential versus WTI crude oil.

    The future of the Brent-WTI price spread will be determined, in part, by the

    balance between future growth in U.S. crude production and the capacity of crude

    oil infrastructure to move that crude to U.S. refiners. The International Energy

    Agency (IEA) reported that planned maintenance in the North Sea oil fields this

    summer will reduce production, adding upward pressure to Brent prices and

    potentially widening the Brent-WTI spread. In its June 2013 Short-Term Energy

    Outlook, EIA forecast the Brent-WTI price spread to average $11/bbl in 2013 and

    decline to an average $8/bbl in 2014.

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    Factors Affecting International Oil Prices

    Current supply in terms of output, especially the production quota set byOPEC. The OPEC cartel provides 57% of oil traded internationally.

    Oil reserves, including what is available in U.S. refineries and what isstored at the strategic reserves

    International economic growth, particular from US and developing Asiannations influence the oil demand.

    New developments in alternate energy technologies i.e. shale oil, solar, etc. During summer forecasts for travel. During winter weather forecasts are used to determine home heating oil

    use.

    Potential world crises in oil-producing countries can also substantiallyinfluence oil prices.

    Almost all oil deals worldwide are priced in US dollars. Therefore theweakening and strengthening of US dollars also affect oil prices.

    In the recent years the speculative trading and investments formcommodity funds have also become a factor that has the potential to

    influence oil prices.

    PAKISTAN

    The energy sector has a vital role in Pakistans economy. The sector by farattracts the highest foreign direct investment and raises substantial revenue for

    the exchequer. However at the same time high imports of crude oil and

    petroleum products affect the balance of payments adversely.

    Until 1999 the oil and gas sector was tightly controlled by the government. Since

    early 2000 a pro-market reform process was started. Oil and Gas Regulatory

    Authority (OGRA) was established to regulate the sector. Under the current

    pricing regime of petroleum products, prices are revised every fortnightly based

    on the international pricing.

    Pakistans total crude oil reserves are around 264 million barrels. In FY 11

    Pakistans total production of crude oil was 24 million barrels while imports of

    crude oil were 49.6 million barrels. The total petroleum product consumption in

    FY11 was 18.8 million tonnes. Pakistan spends a substantial amount on the

    import of crude oil and other petroleum products. In FY 11 Pakistan imported

    crude oil of worth US$ 4.69 billion and petroleum products of worth US$ 8.51

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    billion. Pakistan imports most of the crude oil and petroleum products from

    Middle East and Iran.

    Consumption Pattern of Petroleum Products

    The transport sector is the largest user of petroleum products (47 percent),

    followed by power (43 percent); industry accounts for about 7 percent, and the

    balance is used in other sectors.

    Petroleum Sector Structure

    Pakistans petroleum sector operates under the Ministry of Petroleum and

    Natural Resources which is responsible for dealing with all matters relating topetroleum, gas mineral. The Oil & Gas Regulatory Authority (OGRA) regulates

    the sector and pricing of all petroleum products are determined by OGRA. We

    can broadly explain the structure of petroleum sector through the following

    diagram.

    Pakistan

    Petroleum Sector

    Oil Exp &

    Production Cos

    Crude and Petro

    Products Imports

    Refineries OMCs Consumers

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    There are around eleven oil exploring and producing companies are operating in

    Pakistan and they are producing around 66 thousand barrels per day. There are

    seven refining companies with refining capacity of 13 million tonnes per annum

    are operating. In the oil marketing sector twelve OMCs are operating with over

    60% share of PSO.

    Indigenous Production & Crude oil Processed by Refineries

    Year Production Processed

    2008 3.43 11.97

    2009 3.22 11.00

    2010 3.18 10.10

    2011 3.22 10.00Processed figures include imports. Unit: million TOE

    IMPORT OF CRUDE OILUnit: Qty. in Tonnes

    (Value in Million US$

    Year 2007-08 2008-09 2009-10 2010-11

    Refinery Qty Value Qty Value Qty Value Qty Value

    BYCO 790,760 551 875,233 496 632,732 351 491,922 329

    PRL 849,852 568 1,304,743 596 979,604 552 929,885 638

    NRL 2,223,469 1,519 2,317,995 1,172 1,711,581 956 1,927,662 1,306

    PARCO 4,559,532 3,104 3,562,684 1,980 3,564,378 1,992 3,308,563 2,413

    TOTAL: 8,423,613 5,742 8,060,655 4,244 6,888,295 3,851 6,658,032 4,686

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    IMPORT OF PETROLEUM PRODUCTSUnit: Qty. in Tonnes

    Value in Million US$

    Year 2007-08 2008-09 2009-10 2010-11

    PRODUCTS Qty. Value Qty. Value Qty. Value Qty. Value

    100/LL 121,499 123 253,024 162 606,163 419 802,971 723

    HSD 4,507,873 3,863 4,395,427 2,862 4,394,888 2,725 3,777,500 3,063

    High Sulphur F. Oil 3,921,425 1,914 5,077,096 2,022 5,600,120 2,579 5,597,137 3,121

    Low Sulphur F. Oil 346,906 200 - - - - 1,063,590 628

    Motor Spirit 127,386 106 248,637 151 576,929 422 1,129,689 971

    TOTAL: 9,025,089 6,206 9,974,184 5,197 11,178,100 6,145 12,370,887 8,506

    Exports of Crude oil & Petroleum Products

    FY 08 FY 09 FY 10 FY 11

    Qty Value Qty Value Qty Value Qty Value

    Crude Oil - - - - - - - -

    Petroleum

    Products 1,337,338 1,210 1,211,731 823 1,449,972 1,107 1,573,255 1,530Qty in TOE, Value in million US$

    PETROLEUM PRICING REGIME IN PAKISTAN

    The price deregulation process was initiated in 2000, when the government

    adopted a market-based price framework. FO prices have been completely

    deregulated since July 2000, while the HSD market was partially deregulated in

    2002. Retail prices of other products are regulated in accordance with the price

    framework set by the government and comprise import parity price (IPP),

    allowable margins (OMC margin, freight margin, and dealer's commission), and

    taxes (petroleum levy/surcharge, sales tax). Prices are adjusted every fortnight inaccordance with changes in international market prices.

    Import Parity Price (IPP)

    Import Parity Prices are calculated as to reflect as closely as possible the "true"

    cost of imports and are based on a 15 day average Arab Gulf C&F prices plus a

    number of incidentals.

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    Ex-Refinery Prices

    Domestic refineries benefit from a protective duty (6-10 percent) on four main

    products namely HSD, Kero, LDO, JP-4, 24. Ex-refinery prices are equal to IPP

    for all products except the above four for which an element of 6-10 percent

    protective duty is embedded in the ex-refinery price.

    Inland Freight Margin

    The inland freight margin is set to recover the total primary freight cost for

    pipelines, rail and road transportation of petroleum products and to equalize

    prices throughout Pakistan. The margins account for the cost of freight from

    supply sources to the primary depots, and are averaged into a single freight

    margin in the price structure. The secondary freight (depots to retail outlets) has

    been deregulated and its cost is recovered from end-consumers by each OMC.

    OMC Margin and Dealer CommissionsOMC distribution margins and dealer commissions are capped respectively at

    3.5% and 4% of the maximum selling price (as set fortnightly). OMCs and dealers

    are allowed to provide discounts from the maximum selling price (that is, offer

    discounts on the capped margins) as part of a strategy to expand their market

    share.

    TaxationPetroleum levy/surcharges vary by product, and reflect the fiscal targets of the

    government, relative consumption volume, and socio-political considerations(kerosene and diesel are taxed at lower rates as compared to motor gasoline).

    Under the current pricing regime petroleum levy has been set at the rate of Rs.10

    per liter on petrol, Rs.8 per liter on high-speed diesel, Rs.14 per liter on high

    octane, Rs.6 per liter on kerosene oil and Rs.3 per liter on light diesel oil.

    Subsidies

    Under the current pricing regime no subsidy is being given to the consumers.

    However under the influence of socio- political considerations the government

    sometimes comes under pressure to provide subsidies. In 2008 when crude oil

    prices were at its historical highs, GOP did not pass on the high prices to theconsumers and took the burden on its own kitty. The government provided

    subsidy to the tune of around US$ 5 billion.

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    PMEX CRUDE OIL FUTURES

    Keeping in view the emergence of ICE Brent Crude Oil as the international

    pricing benchmark and also the import of crude oil by Pakistan is based on Brent

    Crude Prices, PMEX is in the process of listing another Crude Oil futures contractbased on the ICE Brent Futures in addition to the already listed Crude oil

    contract based on CMEs WTI Futures contract.

    Futures are primarily used to mange the price risk of the underlying commodity.

    It transfers the price risk form those who are risk averse (hedgers) to those who

    are ready to take the risk (speculators). Both PMEXs Crude Oil Futures

    Contracts (Brent & WTI) are cash settled contracts in Pak rupee. However the

    price quotation is in US dollars which will provide the local market participants

    an international flare and ease of trading as the crude oil is not only quoted in

    US dollars but almost all intl deals are priced in US dollars.

    The key market players hedgers, investors and speculators play their important

    and due role for the success of any futures market. There are three broad

    segments of participants who will participate in the trading of Crude oil futures

    listed at PMEX

    1. Existing Investors of Unregulated Forex Houses

    PMEXs first target for its crude oil futures is to attract those investors who are

    currently trading crude oil futures through unregulated forex houses. PMEXwill provide them a safe, secure, transparent and convenient trading platform.

    Currently these forex houses transmit huge sums of foreign exchange to their

    foreign counterparts to enable their local investors to trade in crude oil or other

    commodities. As these houses are not regulated by any authority, at times they

    close their operations and disappear, depriving investors of their money.

    With the listing of this contract, PMEX will bring these investors under the

    umbrella of a regulated and documented marketplace and above all, foreign

    exchange outflows will reduce. We have been observing since the introduction of

    Gold, Crude Oil and Silver that a number of investors from these houses have

    shifted their trades to PMEX. The pace of joining a regulated marketplace by

    these investors will substantially increase with the availability of complete basket

    of commodities at PMEX.

    PMEX will be providing a service where needs of domestic stakeholders can be

    met from within the country as opposed to relying directly on foreign markets.

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    This is an important step towards the countrys self reliance and growth, namely

    the ability to fulfill needs from own resources from within the country as much

    as possible.

    2. New Investors/Day Traders

    A large number of new investors are also interested to trade in crude oil futures

    as they do not want to trade through above described forex house. Trading

    through these houses is not only inconvenient but also carries a huge credit

    default risk. As such PMEX will be able to attract a large number of new

    investors/ day traders at its platform for crude oil trading.

    3. Corporates

    Number of companies, both in public and private sector are exposed to price risk

    of crude oil or on the products derived form crude oil. Some of these companies

    are in the following sectors:

    Airlines Power generation Big transport companies Refineries Oil Marketing Companies

    Most of these companies are interested to hedge their price risk volatility. At the

    moment public sector companies are not allowed to participate in hedging. Thereason may be that no local rupee based hedging instrument was available. They

    are now interested to participate in the PMEX rupee settled crude oil futures.

    However their point of view is that once PMEX will list the crude oil futures then

    they would approach Ministry of Finance to get the permission for hedging. The

    private sector companies have no such regulatory requirements.

    We believe that a lot of interest from corporate sector will arise after the listing of

    Contract based on ICE Brent Crude Oil Futures at PMEX.

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