Skip to main content

CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. The vast majority of retail client accounts lose money when trading in CFDs. You should consider whether you can afford to take the high risk of losing your money.

Onyx Markets Uncategorised FAQ Brent Complex

FAQ Brent Complex

Trade with the world's #1 oil derivatives liquidity provider

The Brent Complex is a sophisticated ecosystem of interconnected financial instruments that play a crucial role in crude oil trading and price discovery. The relationship between Brent Futures, BFOE EFP, CFD, and DFL is intricate and designed to link the physical and financial aspects of oil trading. Let’s break down these components and their relationships:

Brent Futures

Brent Futures are financial contracts traded on exchanges like ICE (Intercontinental Exchange). They represent the benchmark price for light sweet crude oil and are widely used for hedging and speculation[5]. Brent Futures are cash-settled and do not involve physical delivery of oil[7].

BFOE EFP (Exchange of Futures for Physical)

The BFOE EFP, or Exchange of Futures for Physical, is a mechanism that connects the Brent Futures market to the physical oil market[8]. It allows holders of Brent Futures to convert their financial position into a physical one without immediate cash settlement. This creates a strong link between physical and futures prices[8].

CFD (Contract for Difference)

CFDs, or Contracts for Difference, are crucial instruments in the Brent Complex. They represent the price differential between Dated Brent (the physical benchmark) and forward BFOE contracts[2]. CFDs allow traders to manage their exposure to fluctuations between dated Brent and the paper Brent forward market[8].

DFL (Dated to Frontline)

The Dated to Frontline (DFL) contract is a variation of the CFD. It represents the price differential between Dated Brent and the front-month Brent Futures contract[8]. DFLs help traders observe and pin down price relationships between physical and derivative markets, especially at prompt points of the forward curve[8].

Relationships & Interactions

  • Futures and Physical Market: The EFP mechanism ensures convergence between futures prices and physical oil prices as expiry approaches. This convergence provides a basis for Brent Futures pricing and allows them to serve as an appropriate hedging vehicle for cash market participants[8].
  • CFDs and Market Linkage: CFDs connect the Brent forward market to Dated Brent. They absorb much of the price volatility when market conditions change, enabling companies to control their exposure to the spread between Dated Brent and the paper Brent forward market[8].
  • DFLs and Price Discovery: DFLs allow traders to observe and trade the relationship between the physical Dated Brent price and the Brent Futures price. This helps in price discovery and risk management[5].
  • Hedging Strategy: A complete hedge often involves a combination of these instruments. For example, a hedger might use Brent Futures contracts along with a DFL contract to manage the basis risk between Dated Brent and futures prices[2].
  • Market Liquidity: The interplay between these instruments enhances overall market liquidity. For instance, the introduction of CFDs increased the Brent market’s liquidity by offering new trading opportunities to pure risk capital[8].

In conclusion, the relationship between these instruments forms a complex but efficient ecosystem that allows for effective price discovery, risk management, and trading in the global oil markets. The system’s design ensures that physical oil prices and financial derivatives remain closely linked, providing a robust framework for the world’s leading crude oil benchmark.

Citations

  • [1] https://www.ice.com/publicdocs/Brent_Benchmark_Complex_Evolving_Necessity.pdf
  • [2] https://en.wikipedia.org/wiki/Brent_Crude
  • [3] https://www.smartglobaltrading.com/articles/post/do-you-work-in-and-around-an-oil-trading-floor-and-wondered-how-the-brent-instruments-work-and-fit-together-14-sep-2021/
  • [4] https://www.spglobal.com/commodityinsights/plattscontent/_assets/_files/en/our-methodology/methodology-specifications/emea-crude-methodology.pdf
  • [5] https://www.cmegroup.com/education/courses/introduction-to-crude-oil/product-overview/introduction-to-european-crude-oil.html
  • [6] https://www.spglobal.com/commodityinsights/plattscontent/_assets/_files/en/our-methodology/methodology-specifications/pdb_faq.pdf
  • [7] https://www.youtube.com/watch?v=NzfXuZkw3Og
  • [8] https://www.ice.com/evolution-of-brent-its-markets-and-why-its-ecosystem-is-relied-upon-by-commercial-participants