Energy derivatives

The following Banking & Finance practice note provides comprehensive and up to date legal information covering:

  • Energy derivatives
  • What are energy derivatives?
  • Common types of energy derivatives
  • Forwards/futures
  • Swaps and contracts for differences
  • Options
  • Cash settlement
  • Uses and users of energy derivatives
  • Direct users of energy
  • Speculators
  • More...

Energy derivatives

What are energy derivatives?

Energy derivatives reference the underlying price of an energy source, such as oil, gas or electricity. They can be traded over-the-counter (OTC) or on an exchange. Participants in the energy derivatives markets include:

  1. brokers

  2. financial institutions

  3. investment funds

  4. speculators, and

  5. direct energy users

Common types of energy derivatives

Forwards/futures

A forward contract in the energy markets is an OTC derivative contract that provides for the future delivery of an energy product, but with the price of that delivery agreed on the date of the contract. A futures contract is broadly similar but is purchased on an exchange rather than privately negotiated with a market counterparty. See Practice Note: Types of derivatives for more information on these products.

Swaps and contracts for differences

A swap contract in the energy markets is usually cash settled—they are frequently entered into with financial institutions. A user of a commodity such as oil that wants to protect itself against rising prices may agree to pay a fixed price for oil to a financial institution and the financial institution will agree to pay the spot price (the current market price) of oil on certain date.

Alternatively, a user of energy which believes that market prices may fall may agree to pay the financial institution the market price of oil and receive a fixed payment. This 'swap' arrangement will run for a

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