A U.S. decision to reimpose sanctions on Iran is supporting China's newly established crude oil futures, and may spur efforts to start trading oil in yuan rather than dollars, traders and analysts said.
Since launching in March, Shanghai crude oil futures have seen a steady pick-up in daily trading, while open interest - the number of outstanding longer-term positions and a gauge of institutional interest - has also surged.
Traded daily volumes hit a record 250,000 lots last Wednesday, more than double the day before, spurred by news of the Iran sanctions.
The jump helped the front-month Shanghai futures contract account for 12 percent of the global oil market last week, up from just 8 percent in week one.
"The contract is thundering into action," said Stephen Innes, head of trading for Asia/Pacific at futures brokerage OANDA in Singapore.
The world's biggest importer of crude oil, China hopes the Shanghai contract will eventually rival international benchmarks Brent and benchmark WTI.
The ascent of Shanghai crude is aided by China's voracious demand for oil, with imports hitting a record in April of 9.6 million barrels per day.
China is also the biggest buyer of Iranian crude oil, and the recent boost in trading volume at least in part flowed from the sanctions decision, said Barry White, senior vice president for derivatives in Singapore at financial services firm INTL FCStone.
"The sanctions... can potentially accelerate this process of establishing a 3rd (oil) benchmark," White said.
China took almost a quarter of Iran's exports in 2017, meeting around 8 percent of its import needs, leaving both sides exposed to the impact of U.S. sanctions.
Anticipating shortages, speculators helped push the Shanghai contract to a dollar-converted record high of around $75.40 per barrel last week, outpacing gains on rival benchmarks, while Chinese refiners hedged their facilities against increased feedstock prices.
"Chinese refiners are worried as costs of purchasing crude rise... and showed a strong interest in using Shanghai Crude for hedging in the wake of the sanctions," said Zhang Huiyao, deputy head of crude with Huatai Futures.
Beijing also wants to establish the yuan in physical oil markets, which would avoid the cost of exchanging dollars and increase the use of the renmimbi in global financial trade.
State-owned refining major Sinopec has already inked a Middle East import deal against Shanghai crude, with plans being developed to sign more such contracts.
Reimposed sanctions on Iran could give China leverage to demand oil imports from the country be priced off Shanghai's crude futures.
"It makes sense for Iran to begin selling oil under contracts denominated in yuan rather than dollars," said OANDA's Innes.
However, Iranian oil is not among the types of Middle East crude deliverable through the Shanghai exchange mechanism.
To price it off Shanghai futures, traders would have to agree to transact Iranian crude through buying opposite positions in Shanghai futures and then swapping those positions Exchange of Futures for Physical (EFP) contract that would account for the price difference between Iranian oil and the Shanghai futures price.
Traders said China may also not want to push back too hard against Washington.
"I don't think China will be able to use the sanctions as a leverage to price Iranian imports in yuan... It is more likely that China will curb Iranian imports," said Huatai's Zhang.
"They (China) will grumble and accept it," added Fereidun Fesharaki, founder and chairman of energy consultancy FGE.
"There is no one who will realistically choose Iran over the United States."
(Reporting by Henning Gloystein and Meng Meng; Writing by Henning Gloystein; editing by Richard Pullin)
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