On Friday, the eyes of the oil world will be turning to a souk in the desert.
At 2am Dubai time (3.30am IST), a long-awaited effort gets under way in Dubai’s opulent financial centre to give the world a new crude oil pricing benchmark: the recently organized Dubai Mercantile Exchange (DME) is launching its West Asia “sour” crude futures contract as an alternative to the bellwether New York and London contracts for the black gold of Texas and the North Sea.
The launch comes as powerful market players are increasingly questioning the relevance of the main crude oil benchmark traded on Nymex Holdings Inc.’s New York Mercantile Exchange, the world’s largest energy marketplace. Refinery and trading dynamics peculiar to the US market have pulled the Nymex benchmark several dollars a barrel below other key crudes.
And with Nymex’s primary grade—West Texas Intermediate (WTI)—representing an ever thinner slice of global production, supporters say it is time to build a more robust market around the world’s most plentiful source of oil. West Asia accounts for about a third of global production, and 62% of its proven reserves. The oil there is predominantly thick and “sour,” a reference to its sulphur content, whereas WTI and similar blends are easier to refine into petrol.
No one is claiming that Nymex’s busy energy market will cease to matter. Nymex chief executive officer James Newsome predicts the West Asia contract launch will expand trading volumes, rather than rob Nymex of market share. Indeed, DME is a joint venture of Tatweer, a unit of the Dubai government’s investment vehicle Dubai Holding, and the New York Mercantile Exchange.
The contract’s success isn’t guaranteed. Some traders are vowing to sit on the sidelines until trading momentum builds.
Until now, West Asian crude prices were set either by Arab states or through price-reporting services, such as the Platts unit of McGraw-Hill Companies, which draw conclusions from a limited sampling of transactions.
DME’s new contract will give the sea of buyers and sellers of West Asian crude—particularly the voracious Asian oil consumers—a more transparent, publicly traded pricing mechanism to gauge sour-crude prices and manage the risks of volatile energy markets.
The DME contract is based on physically delivered Omani crude. In a coup for DME, the Oman government last year agreed to use DME settlement price for Oman’s own crude sales. Previous attempts to introduce West Asian crude oil benchmarks have failed, because they allowed for traders to speculate but didn’t involve physical delivery of oil, although the Intercontinental Exchange made another attempt on 21 May, when it launched a financially settled West Asia crude contract. Then, just on Wednesday, DME announced that another producer, the government of Dubai, also will use its futures contract to price its oil. “This is probably the biggest thing that’s happened in trading in the oil markets in 25 years,” says Gary King, chief executive of DME.
Because Dubai is four hours behind Singapore and three hours ahead of London, its business day bridges the gap between two major markets.
Buying and selling will be done electronically, 23 hours and 15 minutes a day. But the DME—not to be outdone in the Persian Gulf state’s skyscraper-encrusted business centre—has built a tricked-out trading lair. The two-storey, nearly 5,400-sq.ft DME floor includes work stations with members’ logos and a wall of video screens and price quotes. “We want an oil souk, so people can go down there and see what people are doing, talk about markets,” King says.
Global oil players including Nymex have long sought to establish a publicly traded benchmark for Arab crudes. But Saudi Arabia, the world’s biggest oil producer, hasn’t allowed its oil to be traded on the open market since 1985, says Edward Morse, chief energy economist for Lehman Brothers Holdings Inc. Some analysts speculate that the oil kingdom may reconsider that with the launch of the DME contract.
“Massive political, cultural and economic barriers stood in the way,” recalls John D’Agostino, a former Nymex executive who made scouting trips to Dubai starting in 2002. The year before, Nymex had tried to launch a West Asian crude contract. It was financially settled but had no mechanism for physical delivery.