The Forward Contracts Regulation Act is being amended to allow domestic players in the petroleum sector to hedge in the international market. The facility is to be extended to crude oil, apart from a few petroleum products.According to sources in the government, hedging is expected to be allowed in NYMEX, the commodity exchange in New York, London-based International Petroleum Exchange and Singapore-based SYMEX. All are highly recognised international hedging centres, even though SYMEX is much smaller when compared with London and New York exchanges.

The government is, however, being careful about the scope of such hedging. Total imports in the country is at present in the range of $12 to $13 billion. The domestic industry also is equally large. Care has to be taken to ensure that there are no duplications in the hedging process,claims government officials.

The benefit of hedging is expected to be limited to refineries and oil producers. Speculative activity is to be completely banned. All hedging deals will have to be necessarily backed by underlying transactions. What is more, only a certain percentage of the transactions will be allowed to be hedged.

The reason cited for this is the overall value of transactions is so high in the petroleum sector that allowing 100 per cent hedging will create problems of a different financial dimensions for the country.

Hedging is also being contemplated because of increasing deregulation in the international market. With international prices, instead of normative value now becoming the benchmark, hedging is seem as a natural mechanism to cover future earnings and losses in the sector. In a cost-plus system, the requirement to hedge is not there.

At present, crude oil imports, which is one item where hedging will be of big benefit, is undertaken for the domestic industry by Indian OilCorporation (IOC). The company enters into long contracts and also buys crude by issuing monthly tenders. There is no speculative element in the buying process. The price of crude is fixed on the basis of the market price quoted in the international exchanges at the time of loading of crude for despatch.

The system of single import window is expected to change soon. With big private sector players setting up huge refining capacities, imports would be more diversified. Hedging will become an important instrument to protect against the price fluctuations.

Even IOC's monopoly over imports on behalf of the public sector refineries may end with each downstream company making its own arrangements for crude though cannalised import has its own distinctive advantage in terms of economies of scale and flexibility of operations. Since imports may be conducted through diversified sources, hedging will become an important component of such transactions.