how to carry out crude oil cracking spread arbitrage?

pyrolysis price difference refers to the price difference between refined oil and crude oil.

Influence of cracking price difference: Like other manufacturers, an oil refinery is between raw materials and finished products, and the prices of crude oil and various refined oil products are often affected by the supply and demand of their products, production conditions and weather. In this way, oil refineries will encounter great risks in a non-integral fluctuating market, such as the price of crude oil rising and the price of refined oil remaining unchanged or even falling in a certain period of time. This situation will narrow the cracking spread-the refinery will make profits by buying crude oil for processing and selling refined oil in the market at the same time. Because refineries are in two aspects of the oil market at the same time, the risks they face in this market sometimes even exceed those of retailers who sell crude oil or buy refined oil separately.

(1) Cracking spread trading

Market participants have used crude oil, heating oil and gasoline futures to trade this cracking spread (also known as oil premium) in the New York Mercantile Exchange. In recent years, due to the sharp changes in oil prices caused by weather and politics, the trading of cracking spreads has become increasingly widespread. The low price of crude oil in 1998~1999 made the refinery produce rich cracking income, but in many cases, the change of crude oil price also greatly reduced the cracking income of the refinery.

(II) Cracking spread in Singapore fuel oil market

Apart from trading cracking spread in the New York Mercantile Exchange, cracking spread is also being calculated and used in Singapore fuel oil market. Among them, most of them use Singapore fuel oil/Dubai crude oil price difference as the benchmark. When the fuel oil/Dubai crude oil price difference widens, it means that importers and refiners will gain more profits from selling or producing fuel oil, or it means that there is a big room for growth in the crude oil market. On the contrary, if it is narrowed, it means that fuel oil is stagnating or crude oil is soaring, the profit of fuel oil will be narrowed, and the room for crude oil to rise in the later stage will be reduced. Singapore fuel oil market generally adopts the price comparison method of Singapore fuel oil paper goods and Dubai crude oil futures. At the same time, there are a series of price differences such as monthly price difference, quarterly price difference and viscosity price difference on the Singapore open market to help traders operate.

(III) the New York Mercantile Exchange Cracking Trading Instruction

the New York Mercantile Exchange provides a cracking spread trading instruction: an instruction to buy and sell crude oil and refined oil contracts at the same time. The directive allows refiners to buy and sell crude oil and refined oil contracts at the same time in a certain proportion to lock in refining profits or arbitrage. The New York Mercantile Exchange trades both crude oil and various major refined oil futures contracts, so traders can avoid the risk caused by the change of cracking price difference by designing the holding positions of crude oil and refined oil.

generally speaking, the output of gasoline is close to twice that of distillate oil. Distillate oil is often used to produce heating oil and diesel oil, and their chemical compositions are basically the same. This output structure has prompted many traders to adopt a 3: 2: 1 allocation method to hedge risks-three crude oil contracts against two gasoline contracts and one heating oil contract. A refinery with a slightly lower gasoline output may use a combination of 5∶3∶2 to hedge risks.

(4) unit of measurement of cracking price difference

The unit of measurement of cracking price difference (theoretical refining income) is also USD/barrel. In order to calculate this variable, we must first calculate the joint value of gasoline and diesel, and then compare it with the price of crude oil. Because the price of crude oil is expressed in dollars/barrel, and the price of refined oil is expressed in cents/gallon, the price of heating oil and gasoline should be converted into dollars/barrel according to the ratio of 42 gallons/barrel. If its combined price is higher than the crude oil price, the overall refining income will be positive; On the contrary, if the price of * * * is lower than the price of crude oil, the cracking yield is negative.

Case

Using cracking spread to hedge refining income

If an oil refinery thinks that the price of crude oil will remain stable or slightly increase in the future, while the price of refined oil may fall, it can sell cracking spread in the futures market, that is, buy crude oil contracts and sell gasoline and heating oil contracts at the same time.

once a refiner holds such a short position of cracking spread, he need not worry about the absolute price change of each contract, but should pay attention to the relationship between the joint price of refined oil and the price change of crude oil. The following example shows how refiners lock in the cracking price difference between crude oil and heating oil.

using 3∶2∶1 cracking price difference to lock in refining profit: in January, a refiner considered his crude oil refining strategy and refined oil profit that spring. He plans to set up a set of two-month crude oil-distillate cracking price difference hedging to lock in his refining income. At that time, he thought that the cracking price difference of $2.69/barrel between April crude oil ($18/barrel) and May heating oil (49.25 cents/gallon or $2.69/barrel) and May gasoline (53.21 cents/gallon or $22.35/barrel) was an ideal profit, so he sold April/barrel at a ratio of 3∶2∶1.

in March, he bought crude oil in the spot market at the price of $19/barrel to process refined oil, and sold his existing stock of gasoline and heating oil in the spot market. The price of gasoline was 54.29 cents/gallon ($22.8/barrel) and the price of heating oil was 49.5 cents/gallon ($2.79/barrel), and his net income was $3.13/barrel.

because the futures market price reflects the spot price, the futures price of crude oil is also $19/barrel, which is $1/barrel higher than the price when he bought it. The price of gasoline rose to 54.29 cents per gallon, and the price of heating oil also rose to 49.5 cents per gallon.

the refiner closed his position in the futures market. Buy gasoline and heating oil at the price of 54.29 cents/gallon and 49.5 cents/gallon respectively, and sell crude oil at the price of 19 dollars/barrel. The income from selling the whole cracking spread position is 67 cents/gallon. If the refiner didn't hedge, his income was limited to $3.13/barrel. In fact, his income was $3.13+.67 = $3.8/barrel, which was completely consistent with his original idea. See table 8-5 for operation.

what are the risks of arbitrage trading?

Successful investment comes from understanding and grasping risks. Like other investments, futures arbitrage investment also has certain risks, and analyzing and evaluating its risk sources is helpful for correct decision-making and investment. Specifically, there may be the following risks in arbitrage investment:

First, the spread runs in an unfavorable direction. Except for spot arbitrage, other arbitrage methods profit from the change of spread, so the running direction of spread directly determines the profit or loss of the arbitrage. When making an arbitrage investment plan, we should fully consider the possibility that the spread will run in an unfavorable direction. If the loss caused by the unfavorable spread of an arbitrage opportunity is 2 points, and the profit caused by the favorable spread is 4 points, then such an arbitrage opportunity should be grasped. At the same time, we should also set a stop loss for the unfavorable operation of the possible price difference and strictly enforce it. Since the risk of price difference is so important, it is generally given a risk weight of 8% in actual operation.

second, delivery risk. It mainly refers to the risk of whether warehouse receipts can be generated during spot arbitrage and the risk that warehouse receipts may be cancelled and re-inspected during intertemporal arbitrage. Since the above situation has been carefully considered and calculated when making an arbitrage plan, we give the risk a weight of 1%.

third, the risk of extreme market. It mainly refers to the risk that the exchange may force the liquidation when there is an extreme market. With the increasingly standardized futures market, this kind of risk has become smaller and smaller, and this risk can be avoided by applying for hedging and other methods. Therefore, it is also given a weight of 1%.

according to the arbitrage forms in the market, it can be divided into four arbitrage forms: intertemporal arbitrage, spot arbitrage, cross-variety arbitrage and cross-market arbitrage. Different arbitrage forms contain different risks, and the corresponding risks are revealed below.

(I) Inter-period arbitrage

Inter-period arbitrage is the most common arbitrage transaction, which refers to the use of abnormal changes in the price difference between different delivery months of the same commodity to make a profit by hedging transactions. Intertemporal arbitrage can be divided into buying arbitrage and selling arbitrage according to the different buying and selling directions of the higher-priced side in different contract months. According to the arbitrageurs' different buying and selling directions of near-month contracts and far-month contracts in different contract months, intertemporal arbitrage can be divided into bull spread (buying near and selling far), bear market arbitrage (selling near and buying far) and butterfly arbitrage (buying near and selling far and selling in the middle month or selling near and selling far and buying in the middle month). The main risks of intertemporal arbitrage are as follows:

1. Trading risks caused by unilateral quotation

Arbitrage opportunities based on historical data can be profitable in most cases, but when there is unilateral quotation in the market, the previous historical data will lose its reference value, and there are also great risks in arbitrage at this time. For example, referring to the valid historical transaction data before October 19, 21, the average price difference between the white sugar SR115 contract and the SR119 contract is 153.2 points, with the maximum value of 364 points and the minimum value of 51 points. On October 19th, 21, the closing price difference between SR119 contract and SR115 contract of white sugar was reduced to 5 points. According to historical statistics, the price difference was the lowest in history at that time, which was a good opportunity to enter the market. However, since then, the futures price of sugar has continuously hit new highs, and the spread has not widened as expected, but has continued to shrink, reaching a new low all the way around 18: on October 27 of the same year. Since then, although the spread has returned to the average value and reached about 15 points, for investors who pursue stable returns and have heavy positions, I am afraid that they have already gone beyond their tolerance. Here investors have to bear the risk of buying recent contracts at high prices. Therefore, unilateral market quotation is the main risk of intertemporal arbitrage.

2. When there is a buying arbitrage opportunity in the market, investors can realize two-way hedging and close their positions if the spread narrows after entering the market.

When there is a buying arbitrage opportunity in the market, investors can realize two-way hedging and profit out if the spread narrows after entering the market. However, if the spread between the two companies continues to expand and arbitrage operations have to be completed through delivery, there will be corresponding risks. After the investor completes the delivery in recent months and gets the spot, he will sell the far-month contract by delivering the spot, which involves the interest on the funds occupied by the trading margin, the interest on the delivery payment, the transaction fee, the storage fee and loss, the delivery fee, and the value-added tax, among which the value-added tax is the biggest uncertain factor. During the period, if it continues to rise sharply in the distant month, the expenditure of value-added tax will probably continue to increase, devouring the expected profit that was not much, and may even lead to arbitrage losses.

3. Pay attention to the risk of cycle consistency in selling arbitrage

Whether the arbitrage contracts are in the same production and consumption cycle has a great influence on whether the arbitrage can achieve the expected income, which is particularly obvious in the intertemporal arbitrage of agricultural products. Because agricultural products have a certain growth and consumption cycle, in the same growth and consumption cycle, there is little difference due to changes in weather, climate and other factors, and there is a strong linkage between them. However, for varieties with different growth and consumption cycles, selling arbitrage, such as selling beans-A19 and buying beans-A111, seems to be not far apart, but in fact these two contracts involve different growth years. Douyi A19 is an old soybean in 29/21, while Douyi A111 is a new soybean in 21/211, which will increase the risk of selling arbitrage once physical delivery is involved.

(ii) spot arbitrage

spot arbitrage refers to making use of the abnormal change of the price difference between the futures price and the spot price of the same commodity to make a profit by hedging transactions. In a broad sense, spot arbitrage is an extension of intertemporal arbitrage, and the difference lies in using spot to deliver. Like intertemporal arbitrage, spot arbitrage can also be divided into buy arbitrage and sell arbitrage. The main risks of spot arbitrage are as follows:

1. The trading risk caused by unilateral market

is consistent with the situation in intertemporal arbitrage trading, and the spot spread calculated according to historical statistics will also be affected by the unilateral market, resulting in losses, which will not be described here.

2. Spot delivery risk

The delivery commodities specified in futures must meet certain delivery standards. When investors carry out selling arbitrage by selling spot to buy futures, the sold spot must meet the delivery standards of the exchange before it can be registered as a warehouse receipt, otherwise it cannot enter the warehouse designated by the exchange to become a delivery commodity for delivery, so there are corresponding delivery risks for investors to sell arbitrage.

3. Spot liquidity risk

Take the spot arbitrage of stock index futures as an example. In China, due to the differences between the futures market and the stock (or fund) market, short selling is allowed in the futures market, margin trading is implemented, which has leverage effect, and T+ system and daily debt-free settlement system are also implemented. However, the stock (or fund) market cannot be short-sold, and investors can only adopt the strategy of buying stocks (or funds) and selling stock index futures contracts on the spot. The stock (or fund) market is not margin trading, so there is no need to add margin, while the futures market is margin trading, so it needs to add margin. The stock index futures market is a trading mode of T+, while the stock market is a trading mode of T+1. It is impossible to sell stocks (or funds) on the day of purchase, which makes them unable to open and close positions simultaneously. In addition, it will cause great impact cost to the spot market when the spot market with arbitrage is built to buy and sell stocks (or funds). It is the above differences that make spot arbitrage different from intertemporal arbitrage with better liquidity, which makes investors face spot liquidity risk.

(3) Cross-species arbitrage

Cross-species arbitrage refers to the use of abnormal changes in the spread/ratio between two related different commodities in the same delivery month to make a profit by hedging transactions. These two commodities are mutually substitutable or restricted by the same supply and demand factor. For example, arbitrage transactions can be carried out between metals, agricultural products, metals and energy varieties. The main risks of cross-species arbitrage are as follows:

1. Transaction risk caused by unilateral market

This is consistent with the situation in intertemporal arbitrage. Cross-species arbitrage based on historical statistical data will also be affected by unilateral market, resulting in losses. For example, referring to the valid historical transaction data before September 17th, 21, the average ratio of cotton CF15 contract to PTA15 contract is 1.92, the maximum value is 2.48, and the minimum value is 1.43. On September 17th, 21, the closing price ratio of cotton CF115 and PTA115 reached 2.52. According to historical statistics, the price difference at that time was already the largest in history, which was a good opportunity to enter the market. However, since then, with the start of the cotton bull market, the ratio has climbed to an incredible 3.22, and it is difficult for even large institutional investors to bear such a large unilateral market risk.

2. Variety difference risk

The price limit between different exchanges and different commodities.