Believe it or not, today physical oil trade contracts use paper contracts. Not actually physical paper, but pdf versions. Blockchain post trade startup VAKT ran an analysis and found this manual process results in errors in 15% of contracts. Using smart contracts, it has launched an electronic trade confirmation solution, and Gunvor and TotalEnergies are the first to execute live transactions.
VAKT is backed by numerous oil majors, including BP, Chevron, Saudi Aramco, Shell, and Total, as well as traders and a handful of banks.
Stepping back, the norm in oil trading and many other commodities is for traders to sign General Terms and Conditions. And then a pdf contract for each deal. This is where the errors creep in.
Some sectors, particularly those with large transaction volumes, take a more electronic approach. They establish a Master Trade Agreement, which specifies most aspects of all transactions between two counterparties. It leaves a few standardized items to be agreed upon for each deal. Those items use reference data such as the type of oil or the name of the delivery terminal, each represented by a code.
We’re not suggesting that traders have to memorize all the codes because that would result in errors. Instead, a deal screen would have dropdowns of standard items that are represented by codes in the background. Hence when a transaction is agreed upon, there’s a machine-readable electronic confirmation that primarily consists of amounts and codes. It results in far lower error rates of closer to half a percent of contracts, according to VAKT. Other sectors, such as ISDA for derivatives, have taken this approach for some time.
Fewer errors mean less reconciliation and lower transaction costs.
VAKT claims it’s no simple task. It said that a UK natural gas transaction is straightforward, but a refined oil product has up to 50 fields to confirm, which expands to 135 when you include delivery terms and pricing formulae.
“Confirmations have been around for a long time in financial markets, in commodity derivatives and in simpler physical commodity markets such as Gas & Power,” said VAKT CEO Etienne Amic. “Being able to confirm waterborne oil trades on VAKT is a major milestone in the digitisation of physical commodity markets. Aside from their inherent efficiency, confirmations also create an incentive to normalise the reference data used by the industry, which is well underway at VAKT.”
This all lays the groundwork for future tokenization of oil contracts as well. In preparation for that, in June this year, VAKT announced an investment from S&P Global and Argus. In 2021 the company raised almost $20 million from IHS Markit (now part of S&P Global) and some of its existing investors: Britannic Strategies, Mercuria, Shell and Total.
The funding leaves VAKT in solid financial shape despite being heavily loss-making. It had revenues of just over $1 million in 2021 and posted a loss of $10 million. With net current assets of more than $14 million at the end of 2021, it’s financially secure for a while.