Independent commodity traders, often viewed as the secretive, but highly lucrative, footloose middlemen of the energy markets, are facing a tough time adjusting to the industry’s new economics.
The rise of data transparency has stripped traders of their information advantage, while regulatory pressures over accountability continue to grow. New competition from national oil companies looking to leverage their massive supply-side clout in trading swap deals is also on the rise.
Commodity trading margins have fallen by more than 20% from their recent peak in 2015 and could fall by another 15% to less than $30 billion by 2025, according to a recent report by consultants Oliver Wyman.
Top trading houses such as Glencore, Vitol, Trafigura, Gunvor and Mercuria have been bulking up with refining, distribution and storage assets for years in order to maintain a trading edge over their rivals.
But competition for new downstream assets to enhance core trading earnings has become fierce, further complicating the current asset-backed trading model. More pressingly, the rise of automated, algorithmic trading and reduced arbitrage opportunities have compressed traditional margins.
Most of the commodities that generated big bucks for traders in the past are now traded on markets that are transparent and liquid, and the value of contracts traded on standard electronic platforms has doubled in the last decade.
“This trading margin meltdown will continue as commodity markets become more mature, stable and liquid,” Oliver Wyman said in a report. “This cutthroat environment will weed out the players that continue to follow the tactics of the past from those pioneering new trading strategies.”
Speaking at a major commodities summit in Switzerland last month, Trafigura CFO Christophe Salmon conceded that the age of “easy margins” is over, signaling a growing need for diversification to maintain a competitive advantage.
One area of growth in the energy space has been moves to tap opportunities within the rising tide of US shale oil exports. Trafigura is seeking permission for an offshore loading terminal off Texas in the Gulf of Mexico, and other traders are looking to open up export terminals.
The push toward more LNG, where trading volumes have been growing rapidly, is also gaining pace with traders signing long-term supply contracts. Gunvor, which became the biggest independent LNG trader last year after delivering about 11 million mt, is looking to acquire natural gas and LNG assets. Other key LNG traders, including Glencore, Trafigura, and Vitol, are investing in ships and terminals to handle the fuel.
Traders are also branching out into renewables and power grids. Gunvor recently acquired two biofuels plants in Spain, and Vitol is in a venture which last year completed construction of the UK’s largest battery-park portfolio.
Traders are also facing an emerging threat from national oil companies looking to expand trading operations and take a bigger role in directly marketing their crude and products.
Saudi Aramco, the world’s biggest oil exporter, wants to become a top three global oil trader, trading as much as 6 million b/d of crude and refined products as it expands its downstream reach. Last week it agreed to swap its crude for high-sulfur fuel oil from Polish refiner PKN Orlen.
Iraq’s state oil marketer SOMO is opening offices to trade spot crude and ADNOC is now hiring traders.
One key hurdle to a profitable trading operation, however, is a corporate culture which allows traders to extract value from deals across a fully integrated asset network, the head of oil trader Gunvor, Torbjorn Tornqvist, believes.
“If they are going to succeed, they are going to have to adapt to the rules of how a trading company works,” Tornqvist told the commodities summit last month. “I’m not sure that’s fully understood, and that they are prepared to give the entrepreneurial freedom to act, which is needed to create a successful trading company.”
Despite Tornqvist’s optimism, it is not clear that “entrepreneurial freedom” treasured by independent traders is guaranteed as regulation is getting tougher.
Market watchdogs are increasingly demanding greater transparency in energy trading and the cost of technology and data solutions needed to monitor, operate and report energy trading activity is pushing up overhead.
A growing chunk of trading revenues are going on IT departments to maintain a competitive edge and comply with legal and reporting scrutiny.
One of the few bright spots for oil traders is the expected higher volatility in fuel markets under the new International Maritime Organization sulfur cap for shipping fuel in 2020.
Some players are buying bunkering infrastructure as a way of monetizing the ensuing oil market shake-up. Mercuria is buying up bankrupt marine fuel logistics firm Aegean Marine Petroleum Network. Trafigura has set up a new bunkering team and merged its middle distillate and fuel oil trading desks in the hope of profiting from the market disruption.
According to Oliver Wyman, the longer-term answer to staying ahead of game in trading is for players to embrace analytical technology and hire more data scientists to forge new trading strategies and recapture the information edge.
With booming volumes of data from radar, thermal and optical satellite imagery, smarter machine-learning algorithms are needed to spot and predict patterns and trading opportunities across commodities and geographies.
“Commodity traders need to embrace new ways of working,” the consultant report concludes. “The most important driver of the shakeout of the industry is trading giants’ investments in predictive analytics …previously unthinkable digital capabilities will determine who will be the industry’s leaders in the long term.”