China’s Sinopec Corp has ended a five-year crude oil purchasing strategy to rein in the speculative derivatives activity of its trading arm Unipec after a record trading loss late last year, four people with direct knowledge of the matter told Reuters.
Sinopec, Asia’s largest crude oil buyer and its largest refiner, in January abandoned a buying formula used since 2014 to establish performance targets for Unipec and aimed at driving down its crude feedstock costs to a pre-set discount to global oil benchmarks.
Under the strategy, Unipec had raked in a total 16.6bn yuan ($2.5bn) in net profit between 2014 and 2017, including a record year in 2016 at 6.17bn yuan, according to Sinopec’s annual reports. The formula-based cost target, though, was blamed by two of the sources for driving speculative trades that led to a nearly $700mn loss for Unipec in the final quarter of 2018.
“The headquarters believes that the purchasing scheme may be accountable for the trading debacle,” said one of the sources. “They are struggling to find a better way to manage (Sinopec’s) buying, but chose to drop it for now.”
The changes are expected to make the state trader a less active player than in recent years in both physical and derivatives markets, the sources said, although it is not possible to quantify the exact impact on volumes.
Unipec cut back its over-the-counter (OTC) paper activities shortly after news of the fourth-quarter loss broke, said a trader active in derivatives.
“They used to be doing more OTC trades, like taking positions in forward curves for Brent and Dubai, but I don’t see them doing that anymore,” the trader said.
Ending the purchase strategy will see Unipec – which last year bought some 4.2mn barrels per day (bpd) of crude oil for Sinopec refineries – reduce its activities in both paper and physical markets, said the sources. The sources declined to be named because of the sensitive nature of the matter.
Sinopec declined to comment on the change in purchasing strategy.
Adding in global oil products trading, crude oil for China’s independent refiners and liquefied natural gas, Unipec handled more than 7.3mn bpd of oil equivalent last year, on par with top independent trader Vitol SA.
Over 2017 and 2018, Unipec was asked to buy crude at $1 a barrel below a weighted average of benchmark crude US West Texas Intermediate, North Sea Brent and Middle East Dubai, two of the sources said.
“That’s an aggressive goal but it gave Unipec large scope to optimise purchasing cost through active paper and physical trades, and also the freedom to market their trading cargoes to refineries as they saw fit,” said a trading executive familiar with Unipec’s strategies.
But it also was a factor in the fourth-quarter loss, which occurred amid an unexpected plunge in global oil prices that caught many traders off-guard, and led to Unipec posting a net loss of 4bn yuan for the whole of 2018 as reported by Sinopec last month.
The trading executive said the trader would likely now be less active and less aggressive in benchmark spot markets such as Dubai and curb its exposure in Brent-WTI spread trades.
Sinopec in January blamed “inappropriate trading strategies” in crude oil hedging for the record fourth-quarter loss, without giving further details.
With the departure of former president, Chen Bo, who was suspended in December for the loss, traders expected Unipec to err on the conservative side under new management.
Chen, a chemical engineer by training who joined Unipec around 1993 as a crude desk operator and worked his way up to the presidency in 2013, was known in the industry as an aggressive front-line crude oil trader.
The new acting president Chen Gang, a Unipec veteran, has spent most his career on the products desk and risk management.