MCX April crude oil futures row | Brokers may challenge settlement price in HC

Prakarsh Gagdani, CEO, 5paisa.com, argued that the decision to settle the contracts at a negative Rs 2,884 looks unfair on two counts. “First, Indian markets were not open, normally they are open till 11:30 pm. Hence, there was no option for a customer or even broker to square off their position and limit their losses. Second, unlike NYMEX, Indian markets are not equipped to trade at sub-zero prices. Both these are unfair to traders and brokers. Third, crude oil trades were carried out with around 55 percent margin and losses are more than 300 percent.”

He questioned how brokers are expected to make good the loss when most customers lose money? “Brokers will have to bear most of these losses out of their pocket for practically no fault of the customers or theirs."

Bone of contention? On April 15, the Chicago Mercantile Exchange put out an advisory over negative prices for certain NYMEX energy contracts. “Recent market events have raised the possibility that certain NYMEX energy futures contracts could trade at negative or zero trade prices or be settled at negative or zero values, and that options on these futures contracts could be listed with negative or zero strike prices,” the advisory stated.

However, there was no such advisory from the Multi Commodity Exchange (MCX) warning brokers before settling contracts in the negative.

Moreover, neither MCX nor its brokers have a software that accepts negative rates to be inputted into the system. A market participant told Moneycontrol that without preparation during a normal trading day, the exchange itself will not be able to settle contracts at a negative price.

How big is the problem?
Over 95 percent of all trades in crude oil futures in India pass through the MCX platform. The contracts are settled on the last day of trading of the MCX crude oil contract using the settlement price of the NYMEX front month contract.

The MCX April contract expired on April 20. Given the restrictions imposed due to the novel coronavirus, or COVID-19, pandemic, trade now halts at 5 pm instead of the earlier 11:30 pm.

The issue arose because the US market opens for trade at 7 pm (IST). WTI opened lower and continued to trade in the negative. So, had our market been open for trade, traders would have had the opportunity to settle/exit their positions.

Now, as per the MCX rules, contracts need to be settled at taking into account the price of the front month contract, i.e. May 2020 in this case, which was trading at a negative $37.63 per barrel around 11:30 pm.

As per an April 21 circular issued by MCXCCL, the settlement price has been arrived at converting the NYMEX crude oil front month contract’s settlement price of a negative $37.63/bbl into Indian rupees, which works out to Rs 2,884 per barrel or lot.

Traders with a long position in the April 2020 contract would now have to pay around Rs1 lakh for every one lot of crude, i.e. 100 barrels, at the MCX quoted closing price of Rs 965 on April 20. This is assuming the person would have paid the full value of the contract.

However, most traders would not have expected to lose the entire value of the contract and are now staring at a loss of over Rs 2.88 lakh.

To gauge the extent of the problem, around 11,000 contracts remained open at the end of the day. Market sources pegged the loss for all long positions around Rs 418 crore.

MCXCCL first announced a provisional settlement at Re 1 by mentioning that the final or differential settlement, if any, would be carried out separately. However, it later froze or blocked the amount against deposits by those brokers who held long positions at close of trade on April 20 to meet the final settlement.