Appendix 3
IPE exchange
for physicals
EXCHANGING FUTURES FOR PHYSICAL (EFPs)
IPE Brent Crude
The International Petroleum Exchange offers the facility for participants in
oil markets to use the IPE Brent Crude futures contract to separate the pric-
ing of crude oil from supply and at the same time enable counterparties in
the delivery process to be known.
There are several ways in which EFPs can be useful for market participants,
where they can be used to initiate futures positions, close futures positions
and to directly swap a futures position for a similar physical position.
Exchanging Futures for Physical trades work on the basis that counterpar-
ties agree that they wish to complement their physical transaction with an
accompanying futures transaction. They then advise their brokers operating
on the Floor of the IPE to register their transactions with the Exchange.
When the EFPs are registered with the IPE the volume is attributed to that
trading day but the price is not declared to the market.
The advantages are best illustrated by example. The following three scenar-
ios enable oil market participants to trade with preferred physical counter
parties, even if they have differing views of the future direction of market
price.
Importantly, EFPs enable delivery of crude against the IPE Brent Crude con-
tract, as in the first example.
For further information contact
IPE Oil Markets 00 44 (0) 207 265 3775
Using an EFP to directly swap a futures and physical position
216 IPE exchange for physicals
Scenario
A crude oil producer has 2 million
bbls of crude unsold. He believes the
market to be undersupplied and that
the price is going to increase.
A refiner needs to have 2 million bbls
of crude available on the 10th of
December. He has bought 2000
December IPE Brent Crude futures
contracts at $17 in the anticipation
that the price of crude is going to rise
between November and December.
Both participants are therefore long
in a market where they expect the
price to rise. However, the producer
has not secured a buyer for his crude
oil and the refinery buyer wants to be
able to secure supply of the quality
and delivery timing he needs.
The producer and refiner have done
business together before.
They agree to exchange their respec-
tive positions in order to meet their
needs, i.e. the seller wants to remain
long in the market as he thinks the
price is going up. The buyer wants to
secure a price and the quality and
delivery timing he needs.
How does the Exchange of Futures
for Physical work?
On November 10th, the producer
agrees to sell 2 million bbls of crude
at the IPE December Brent Crude
Futures Contract settlement price
for that day’s trading. The crude oil
will be delivered on 10th December.
The refiner’s long futures position
will be exchanged for this physical
supply.
The two parties advise their brokers
that they have agreed this EFP.
The two brokers then contact each
other on the IPE trading floor and
register with the Exchange that this
EFP has been agreed and the price.
The refiner’s long December futures
position is passed over to the pro-
ducer’s account at the IPE December
Brent Contract settlement price for
November 10th.
Positions after the EFP
The November 10th settlement price for the IPE December Brent contract
is $17.50 barrel.
Producer
Short 2 million barrels of crude $17.50
Long 2000 December Brent futures $17.50
Sale of crude not priced until producer sells futures
Refiner
Long 2000 December Brent futures $17.00
Sold 2000 December Brent futures $17.50
$00.50 profit
Long 2 million bbls crude at $17.50
December delivery has been fixed at $17.00
Because both participants believe the price is going to increase the EFP has
suited both their needs, enabling security of supply without commitment to
a price on behalf of the Producer.
Using an EFP to open a futures position
IPE exchange for physicals 217
Scenario
Assume that neither party has an
existing open position in IPE Brent
Crude futures.
A crude oil producer has been
approached by one of his long stand-
ing customers, who wishes to pur-
chase 500,000 bbls for loading in 15
days time. He would like to supply
the customer but does not want to
commit to a price because he
believes the price is going to rise.
The buying customer wants to
secure supply from the producer to
minimise freight on a VLCC, but
does not want to commit to the price
as he believes the price is going to
fall.
The producer and customer agree to
do business via an EFP so that they
can retain exposure to the price of
crude oil but secure each other’s
delivery requirements. They agree to
take equal and opposite futures
positions to that which they are
transacting in the physical deal.
How does the Exchange of Futures
for Physical Work?
On October 1st, the producer agrees
to sell 500,000 bbls of crude oil to
the customer at the IPE November
Brent Crude Futures Contract settle-
ment price for that day’s trading.
The crude oil will be delivered on
October 16th. They will also take out
equal and opposite positions in the
November Brent Crude Futures
Contract at the same price.
The two parties advise their brokers
that they have agreed this EFP.
The two brokers then contact each
other on the IPE trading floor and
register with the Exchange that this
EFP has been agreed and the price.
A long position of 500 lots is opened
for the producer and a short posi-
tion of 500 lots is opened for the
customer.
Positions after the EFP
The October 1st settlement price for the IPE November contract is $16.00
Producer
Short 500,000 bbls crude oil $16.00
Long 500 lots November Brent futures $16.00
Crude Oil not priced until futures sold
Customer
Long 500,000 bbls crude oil $16.00
Short 500 lots November Brent futures $16.00
Crude Oil is not priced until futures bought
Positions after the EFP
The April 5th settlement price for the IPE May Brent futures contract is $16.50
Producer
Short 2000 May Futures at $17.00
Long 2000 May Futures at $16.50
$00.50 profit
Short 2 million bbls crude at $16.70 (settlement 20c)
Producer’s selling price to customer fixed at $17.20
Customer
Long 2 million bbls crude $16.70
Short 2000 May Futures $16.50
Crude is not priced until futures are bought back
Because equal and opposite positions in the November futures contract have
been exchanged for the physical positions, both parties remain exposed to
the price of crude oil as they were before the physical trade was completed.
Thus the pricing of the transaction has been separated from the physical
trade itself.
It is now up to the refiner and customer to separately decide when is the best
time for them to price the transaction, which will occur when they close the
futures positions they hold.
Using an EFP to close futures positions
218 IPE exchange for physicals
Scenario
A producer has 2 million bbls of
crude oil in tank. In anticipation of
the price going down before he has
sold the crude, he has previously
sold 2000 May IPE Brent Crude
futures at $17.00. The price has
fallen $0.50/bbl since then.
A refiner wants to buy the crude
from the producer but is concerned
that the price of oil is going to fall
further.
How does the Exchange of Futures
for Physical Work?
On April 5th, the producer agrees to
sell 2 million bbls to the customer at
the IPE May Brent Crude futures
contract settlement price for that
trading day, plus 20c barrel to reflect
the quality of the crude oil. They
agree to EFP the trade and take
equal and opposite futures positions
to that which they have physically
traded.
The two parties advise their brokers
that they have agreed this EFP. The
two brokers then contact each other
on the IPE trading floor and register
with the Exchange that this EFP has
been agreed and the price. The pro-
ducers’s existing short 2000 May
futures position is closed. The cus-
tomer has a position opened of 2000
short May futures.
Because both parties believe the price is going further down, the EFP has
enabled them to detach pricing from supply, meeting both their pricing and
physical supply requirements.
The customer can price the product at any time by buying back the 2000
May futures contracts.
Source: IPE.
IPE exchange for physicals 219
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