Brokerages discourage trading in crude oil till volatility subsides

The exchange has already asked its software vendor, 63 Moons Ltd, to enable the contract for negative price trading
Even as several leading commodity brokerages suspend or discourage trading in crude oil, the MCX is considering interim measures to handle negative pricing on Nymex and the impact on its platform. 

This comes in the aftermath of the crude oil contract crisis seen recently, when the Indian exchange had to settle the contract in a sharp negative or minus price. Trading halts when price hits a negative, unwinding all positions in such an eventuality. Triggering the circuit breaker is among the interim measures being considered by the exchange.

These interim measures are being discussed internally and later will be taken up with Sebi. Sources close to the development said, “The decision is expected soon but the exchange has not zeroed in on any one option yet.”

Lengthy procedure

The exchange has already asked its software vendor, 63 Moons Ltd, to enable the contract for negative price trading. However, there are a host of other procedures that need to be followed after revamping the exchange software. Even ODIN (the trading platform for brokers which MCX has been using since 2003) and several other institutional- and broker-level software systems need to be in sync with that used by the exchange. Once that is done, they have to be tested, audited and approved by the exchange, and a few rounds of mock trading on the new software systems performed. These are lengthy processes and could take a few months.

What if price trades negative again

Till such time as these processes are complete, there is a possibility that the negative price situation (as in case of WTI crude oil) could arises again. In order to address this, the exchange is considering several interim measures. One such is to keep one rupee as the minimum price if the international price ends up in the negative zone. Another is to halt trading whenever prices turn negative in a move to the circuit-filter mechanism. Some more options are also being discussed.

The decision is difficult because halting trading may be problematic if negative pricing occurs frequently. The one-rupee ninimum can draw higher speculation as it guarantees the price will not fall below that benchmark. This also shrink the overall size of the contract and fuel speculation. Even option contracts of crude oil need to be seen from these perspective, explained sources.

Brokerages suspend/discourage trading in crude oil

Motilal Oswal financial has suspended trading in crude oil and only undertakes square-off. The brokerage lost Rs 80 crore in the crude oil negative price settlement last week. Angel Commodities also suspended trading after an  exposure of Rs 13.5 crore. A few large brokerages and discount broking house raised margins for crude by 100-300 per cent irrespective of the exchange’s margin.

Most of them are doing this to protect themselves in case clients default due to high volatility. Today too, crude oil was trading 29 per cent lower at Rs 958 a barrel on the MCX.

Brokerages say that these measures are interim and once volatility is settled, they will resume services and normalise margins.

They are cautious because till now, none of the high courts they have approached has either stayed the MCX negative price settlement they had challenged or given them any relief.

Volatility is given in the near term

One of the major reasons for WTI trading in negative or in minus was that it reflects the price of shale oil, of which the US is largest producer, and the lockdown had restricted movement and demand with storages getting full even as production was continuing. 

Producers were offering cashbacks to lift the oil. Sources say that there is no change in this situation even now. S&P Platts had also said that global storage capacities for crude are expected to be full by May end and if Opec-plus nations cut production further, the capacities may get full a week later in any case. This means, that the WTI crisis is now spreading to Brent. These developments will keep prices volatile as the demand scenario remain gloomy in the wake of the Covid-related lockdown.

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