Energy Risk Asia Awards 2016
For the past two years, energy firms have had to deal with an intimidating rollercoaster ride as oil prices plunged from a 2014 peak.
The resumed supply from Iran due to the lifting of Western sanctions, a commitment from Saudi Arabia to keep pumping oil and a contraction of demand from China amid fears of an economic slowdown all contributed to the price rout. By January this year, Ice Brent North Sea crude oil futures dipped to less than $30 per barrel (/bbl) for the first time in 12 years after hovering around $100/bbl in 2013 and reaching a closing peak of $115.06/bbl in 2014.
Many producers have been holding on for dear life as these twists and turns contributed to the slashing of capital expenditure budgets, and ultimately, in some cases, led to defaults and bankruptcies.
In Asia, the sudden price moves pushed more firms to pay closer attention to the risk management solutions available to them. Under pressure, oil producers in the region dipped their toes into the market when prices rallied over the two-year period; refiners rushed to restructure risk management programmes to take advantage of stronger margins and some consumers such as shipping companies and airlines, meanwhile, began looking at locking in low prices or reorganising hedge portfolios with large mark-to-market losses.
BNP Paribas helped structure these solutions to its clients in the region by using swaps, options and swaptions on top of providing credit facilities to the companies that require it. The French bank's oil team has around 100 financial and physical clients and counterparties in Asia. These include airlines, miners, shipping companies, oil producers, refiners and industrials.
Sheena Ryu, head of energy sales for Asia-Pacific at BNP Paribas, says the bank is in the process of taking on board an extra 20 counterparties, as demand for hedging grows among smaller companies, particularly independent refiners and producers.
"When the oil price was around $100/bbl, oil producers were not concerned about their hedge flows, but then we experienced levels of $27/bbl. That's when we started witnessing bankruptcy procedures from Asian producers or temporary business closures. This was a good lesson that hedging is critical in order to maintain business; it is not just an option," Ryu says.
"On top of that, there are many different layers of oil and products consumers who need to hedge. Against the backdrop of the oil price plunge, we are finding new clients and trying to educate them about the merits of hedging."
Against the backdrop of the oil price plunge, we are finding new clients and trying to educate them about the merits of hedging
Sheena Ryu, BNP Paribas
The French bank's diversified client base allowed it to provide liquidity in some over-the-counter transactions that would have otherwise been difficult to structure. For example, providing many oil products consumers with hedges was possible because of BNP Paribas's ability to source liquidity from refiners that were locking in strong gasoline cracks at the same time.
In one such transaction, executed in May 2016, BNP Paribas structured a so-called chooser swap with an Asian refiner, where the bank had the option to choose the crack spread – a measure of the value of a barrel of crude oil in terms of the value of its refined products – between Dubai crude oil and either motor gasoline (Mogas) or gasoil. The trade, which has a one-year tenor, provides the bank with the ability to choose the margins every month. In return, the refiner was offered a premium over the spot prices in exchange for the crack spreads, which improves the refiner's margins by 5–8%, according to BNP Paribas.
"The purpose is to monetise the optionality resulted from their physical asset given the flexibility the refinery has in their operation," explains Lu Jia, executive director for Asia-Pacific energy sales for BNP Paribas. "We have clients achieve better than market levels over margin by giving us a right to choose. It is a win-win."
Lu Jia adds that the bank is approaching other refineries in the region that are looking at improving their refining margins with a variety of structures with different terms. "It is all negotiable; that is the beauty of OTC," he says.
This year, BNP Paribas expanded its financing, hedging and physical energy trading operations to onshore China, with the inaugural derivatives trade in the country booked for early April 2017, where the bank helped a petrochemical manufacturer hedge its feedstock. Among other clients, BNP Paribas is starting to do more business with the so-called 'tea-pots', or private oil refiners in China. Some of these firms are interested in locking in between 20% and 30% of their refining margins, says Lu Jia.
"Nowadays, they buy crude oil from all over the world – they buy West African, South American, Russian and South-east Asian grades. The next step for these independent refiners is hedge international refining margins," he says. "The Chinese government is opening the market and deregulating it, so more and more Chinese companies are trying to manage their oil price exposure."
Clients are positive about BNP Paribas's approach to structuring oil transactions in the region. "As one of our counterparties, BNP Paribas is competitive and innovative in its hedging solutions," says a senior risk manager at an Asian refiner.
The week on Risk.net, October 6-12, 2017Receive this by email
- SGX, HKEX expect to be among first wave of Mifid II equivalence
- Quantile, TriOptima face off in cleared swaps compression battle
- Leaked EU doc could shield legacy swaps from clearing grab
- ABS set for revival under US Treasury’s liquidity buffer plans
- Quants stymied by lack of alternative risk premia flows data