Crude Oil mcx Contract Details, Expiry Logic, and Arbitrage Opportunities

The contract

Crude oil is the most actively traded commodity on MCX; with an average daily combined value of Rupees 3000 crores, approximating to 8500 barrels. Institutional orders come from upstream companies (ONGC, CAIRN, Reliance) and downstream companies (IOC, BPCL, HPCL), likely in order to hedge their physical market exposure. On the contrary, individual retail traders mainly speculate on crude oil prices.

MCX ‘Bhav Copy’ is available at https://www.mcxindia.com/market-data/bhavcopy and I strongly advise you to take a look.

This provides an outlook on the liquidity and amount of transactions involving a certain agreement.

There are two main Crude oil contracts which are traded on the MCX –

1.     Crude Oil (the big crude or the main contract)
2. Crude Oil Mini (the baby version)

– Crude Oil, the big contract

With an average daily traded value of Rupees 2500 Cr, the big crude oil contract on MCX is definitely one of the largest in terms of its worth. Therefore, without any delay, let’s get straight to information about the big crude.

The contract details are as follows –

o   Price Quote – Per barrel

o   Lot size – 100 barrels

o   Tick Size – Rs.1/-

o   P&L per tick – Rs.100/-

o   Expiry -19/20th of every month

o   Delivery units – 50,000 barrels

o   Physical Delivery – Mumbai / JNPT Port

Let’s get a better understanding of this information. On MCX, oil is listed per-barrel (or in other words, one barrel holds 42 gallons or about 159 litres). See the image below for Crude oil’s market depth

As is evident, the Crude Oil contract expiring on 19th Dec 2016 is trading at Rs.3197/- per barrel; its rate – as we know – is expressed on a per-barrel basis.

The lot size for crude oil is 100 barrels, the worth of such a contract if you plan to purchase (or go long) would be –

Lot size * price quote

= 100 * 3198 (offer price to go long)

= Rs.319,800/-

This is the contract value of crude oil; when it comes to margins, they’re slightly higher than other commodities. If you’re looking to keep your position open overnight, you should be prepared for a margin requirement of around 9%.

This means, 1 lot of crude oil (100 barrels) requires a margin deposit of –

9% * 319800

= Rs.28,782/-

In fact, you can use the margin calculator on Zerodha’s website to get a ready reference of approximate margin requirement. Here is the snapshot of the same- 

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The margin requirement for overnight positions under NRLM is Rs.29,114/- based on the price of Crude being Rs.3,253/-. However, if you opt to make an intraday trade using MIS, then the margin requirement stands at 4.5%, which means your snapshot will display a margin of Rs.14,557/-

– Selecting the right contractor to trade (expiry logic)

Newly launched crude oil contracts have a six-month expiry period; for instance, one contract announced in November 2016 will terminate in May 2017. MCX circulates this information often, but I find interpreting the expiry table to be a bit tricky.

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And this is how the table in the circular reads –

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It’s now November 2016, meaning that the November 2016 contract was issued in May.

Anyway, the point to note here is this –

1.     Every month a new contract, 6 months in advance is launched (long-dated contracts).
2.     These contracts expire on or around 19th of the expiry month, 6 months later.
3. Given this, each contract lasts for 6 months in the market.

For active trading, always opt for the nearest month contract. In this case, of November 5th 2016, that would be November 2016 expiring on 19th November. As this contract enters the dying days of its expiration, perhaps around 15th or 16th November, I’d then move to the December 2016 contract. The logic behind this is clear: liquidity reaches its peak in the current month’s agreement (in our example that is the November one), and picks up more steam in the next month (December).

Although other contracts are in the market, they remain inactive until they become relevant.

– The Crude Oil Mini contract

Crude Oil mini is popular amongst traders due to its simple yet lucrative nature.

1.     The margin required is lesser
2. The P&L per tick is a lot lesser – did you know people prefer to see lesser loss than seeing higher profits?

Here are the contract details –

o   Price Quote – Per barrel

o   Lot size – 10 barrels

o   Tick Size – Rs.1/-

o   P&L per tick – Rs.10/-

o   Expiry -19/20th of every month

o   Delivery units – 50,000 barrels

o   Physical Delivery – Mumbai / JNPT Port

Have a look at the quote below –

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The Crude Oil Mini, December future is trading at Rupees 3,210/- per barrel. The contract value for this would be –

Rs.3,210 * 10

= Rs.32,100/-

The margin demanded is slightly higher in terms of a percentage – NRML should account for 9.5% and MIS should be 4.8%.

The margin required for NRML is Rs.3,049/- and MIS is Rs.1,540/- which are significantly lower than the Crude oil margin amount.

Lot size is the only aspect of the crude oil contracts that differs; the other features remain constant.

– Crude Oil Arbitrage

Have a look at the image below – 

The first part of the snapshot reveals Crude Oil December future, along with its market depth. The second shows the Crude Oil Mini December contract, and its associated market depth.

Assuming all other conditions are unchanged, both these contracts should trade at the same price. This is only natural due to their common underlying factor; and indeed, it is what we observe currently with Crude oil trading at Rs.3,221/- per barrel.

But what if they don’t?

Let us say that Crude Oil and Crude Oil Mini are trading at different prices. For instance, Crude Oil is traded at Rs.3,221/- while the Mini variety is being exchanged at Rs.3,217/-. Is this an opportunity for arbitrage? Absolutely! This can be used to trade. Here’s how to go about it.

Crude Oil – 3221

Crude Oil Mini = 3217

Risk free profit potential (arbitrage) = 3221-3217 = 4 points

Trade Setup –

To be successful in an arbitrage trade, one must purchase the cheaper asset and then sell the more expensive one. Doing this will ensure that you make a profit.

We purchase the crude oil mini at 3217 and subsequently sell it at 3221. It is important to remember that for an ideal arbitrage opportunity, the amounts must be equal.

The contract value of Crude oil is – 3221 * 100 = Rs.3,22,100/-

The contract value of Crude oil mini is 3217 * 10 = Rs.32,170/-

One should purchase 10 lots of Crude oil mini at 3217 and sell off one lot at 3221; this way, the contract sizes are nearly identical and consequently the arbitrage is still in effect.

Once this transaction is carried out successfully, the arbitrage benefit will be secured. Recall that eventually, in all arbitrage cases, the cost is likely to come together at one rate. Consequently, if we assume that the rate finally converges to 3230-

We make +13 points on the crude oil mini, and we lose -9 points on crude oil, and on a net basis, we make 4 points.

No matter what direction the cost moves, the 4 points are guaranteed.

It is unlikely you will come across such rewarding chances each day, yet sometimes I have seen them present themselves over the course of some minutes. Nevertheless, algorithms have a tendency to take them quickly.

Keep an eye out for such prospects and if it arises, you know what action to take.

With this, our discussion of Crude oil is finished. In the upcoming sections, we will explore ‘Metals’.