The Asian energy derivatives business is still fairly underdeveloped compared to Europe and North America, but the opening up of the region's petroleum and electricity sectors should provide much needed impetus to the Asian markets. Gerard Raynor, managing director for energy risk management at SG in Singapore, talks to FinanceAsia about the opportunities and impediments for the growth of energy derivatives in Asia.
FA: Can you give a little background to the Asian energy derivatives market?
Raynor: The Asian energy derivatives market is basically about two sectors. The first is the traditional oil derivatives market, which has existed for about 15 years. Secondly there's the power market, which includes gas and electricity.
We can cover the power sector pretty quickly because there's no gas market of any kind and in terms of electricity we're only just seeing tentative steps to open the electricity market. The only country currently with a market is Australia, where SG has been active since the market began deregulating in 1997, and has four states connected to the power grid.
What about oil?
The derivatives market for oil is not new and has been steadily growing in Asian countries for more than a decade. The market is still very fragmented: every country has a monopoly state oil company, which leaves you with isolated domestic markets.
However, this is changing. One of the IMF conditions for financial assistance is that countries have to open up the oil market. In China, the influence of the WTO will make this happen; India is also opening up because the government cannot afford to subsidize the industry, while Taiwan and Korea are also removing some of the barriers.
This situation has basically generated interest for risk management as companies look to hedge against currency risk and oil price fluctuations. Singapore is the hub of this market, with banks like SG, Deutsche, Bank of America and CSFB setting up trading desks to try and increase the flow of business.
How sophisticated is the Asian market compared with elsewhere?
You cannot compare Asia to Europe because Asia is simply an OTC market, whereas Europe has the International Petroleum Exchange. Efforts were made to set exchanges up here but it just never worked out. Therefore the market has not been able to attract investors and speculators, which are a vital component to liquidity growth. Also, there are no local companies amongst market makers in Asia, which tend to be western banks or oil majors.
As far as volumes go, it is difficult to measure because of unreliable statistics, but I would say paper volumes have seen a fairly continuous increase of about 20% per year.
What products are available?
At the moment it's just a swaps market. We have tried to develop the options market but it hasn't worked because Asian companies taking part in the market are mainly involved in physical trade, and don?t feel the need for trading options. For it to work, we need to see greater involvement from banks and insurance companies, but at the moment people rarely look beyond two years for swaps.
Which companies are using oil derivatives?
It's fairly standard ? anyone with strong exposure to oil prices ? whether they be traders, producers, refiners, distributors, and industries that use a lot of oil such as airlines, shipping companies etc. New players are still joining the market regularly.
What about the power sector? What is the potential like for developing the market?
At the moment, Singapore is looking to develop its market along the lines of the New Zealand model, but it is a fairly slow process. Korea and Japan also have plans for deregulation, but it will be a slow process.
However, there is good potential for growth across the region as a result of deregulation if the example of Europe is anything to go by. Companies are setting up trading desks and applying for licenses to trade, so within a few years the environment could be completely changed.