Crude oil is one of the most widely used and actively traded products in the world, and accordingly, the price of oil remains center stage as an important economic indicator for present conditions, as well as expectations for the future.
Futures contracts were designed to provide a means for protection against price fluctuations for market participants in the European crude and refined oil market.
The concept of oil futures contracts is not new. Contracts based on West Texas Intermediate (WTI) light sweet crude oil were first introduced in the 1980s in the United States following tension in the Middle East which drove oil price increases and a great deal of supply and price uncertainty. In the 1980s, the International Petroleum Exchange, which is known today as ICE Futures Europe and is part of Intercontinental Exchange’s group of global exchanges (NYSE: ICE), introduced futures contracts based on Brent crude oil, also a light sweet crude which is found in the North Sea, and Gasoil, which was essentially European heating oil. These futures contracts were designed to provide a means for protection against price fluctuations for market participants in the European crude and refined oil markets. Today, firms from the U.S. to Asia that need to buy large volumes of crude or refined oil, such as airlines, oil producers and refiners, use oil futures to protect and “hedge” against rising or falling prices and market volatility which can occur especially in times of geopolitical turmoil when global supply may be volatile.
ICE Brent and Gasoil futures are two of the most widely traded crude and refined oil futures contracts in the world; together they trade more than one million contracts each business day.
How have Brent and Gasoil futures evolved to reflect changing dynamics in the physical oil markets?
Trading in Brent and Gasoil futures markets has evolved in recent years as the dynamics of the physical markets for crude and refined oil have changed. These changes are thanks to a range of factors: From supply and demand, to changes in regulation and an increase in the demand for hedging price risks, to the increased focus on cleaner energy and fuel products.
Since its launch in 1988, the ICE Brent futures contract has evolved continuously in order to remain the most relevant and global oil price indicator, including the incorporation of new oilfields and a less prompt expiry date for the underlying North Sea physical crude. These measures have helped to sustain and improve liquidity in the North Sea oil market, meaning that Brent futures are based on a crude oil market of more than three-quarters of a million barrels of physical oil a day.
The ICE Brent futures contract is a key component of the Brent oil complex and has a direct link to the underlying North Sea physical market. And with up to two-thirds of globally traded oil priced relative to the Brent complex, ICE Brent plays a vital role as the benchmark that is relied upon as a marker for the world’s oil price. Today it trades at a premium to US crude (WTI) due to its versatility in shipping to eastern and western countries as a seaborne, rather than land-locked, crude.
Gasoil is a diesel-based contract and is physically delivered by barge in the Amsterdam, Rotterdam and Antwerp region of continental Europe. It is used as the pricing reference for all middle distillate trading in Europe and beyond. The prices for Gasoil and Brent are often linked with refining margins and supply and demand in the distillate market.
As Europe has adopted cleaner and lower sulfur energy and fuel products, the ICE Gasoil futures contract has undergone a shift in recent years to a low sulfur specification.
As Europe has adopted cleaner and lower sulfur energy and fuel products, the ICE Gasoil futures contract has undergone a shift in recent years to a low sulfur specification to align it with patterns that have been occurring in the physical market for some time. As a result, in early 2015, ICE transitioned some 460,000 Gasoil contracts representing approximately 46 million metric tonnes of diesel to a new and lower sulfur contract specification based on 10 parts per million (ppm), instead of the former 1,000 ppm. This reduces the level of pollution that is emitted from the use of these products.
Brent and Gasoil futures have retained their roles as the world’s crude and refined oil benchmarks because they have evolved in line with the physical markets over the course of the last three decades.