Streetwise Professor

April 15, 2017

Is the Order Handling Rule Necessary to Ensure Intense Competition in Securities Markets?

Filed under: Commodities,Derivatives,Economics,Exchanges,Regulation — The Professor @ 2:01 pm

A couple of weeks back Acting SEC Chairman Mike Piwowar announced a new Special Study of the Securities Markets, a reprise of the 1963 Special Study. This is an excellent idea, given that RegNMS (adopted in 2005) has (as was inevitable) spawned many unintended and unexpected consequences. Revision of this regulation in light of experience is almost certainly warranted, and any such revision should be predicated on sound scholarship, lest it be merely a Trojan Horse for vested interests arguing their books.

I wrote about RegNMS in Regulation at the time of its adoption in a piece titled “The Thirty Years War” (an allusion to the fact that the establishment of the National Market System in 1975 had sparked a continuing clash over securities market structure). Overall, I think that piece stands up well, particularly my concluding paragraph:

Therefore, the proposed rules are not the final battle in a Thirty Years War. I fully expect that in 2075, some professor will write an article about the latest clash in an ongoing Hundred Years War over securities market structure regulation.

It is certainly the case that the controversies and conflicts over market structure have continued unabated since 2005, and show no signs of letting up. (Cf. Flash Boys.) Chairman Piwowar’s call for a new Special Study is testament to that.

More specifically, the major prediction of my article has been fully borne out. I predicted that the Order Protection Rule in particular would break the network effect that resulted in the dominance of the NYSE in the securities it listed. Since RegNMS was passed, the highly concentrated listed stock market (where virtually all price discovering transactions in NYSE stocks occurred on the NYSE) has been utterly transformed, with four exchanges now splitting most of the business, with no exchange doing more than a quarter of the volume.

I further predicted that this would result in the disintermediation of traditional intermediaries–like specialists–and the substantial erosion of economic rents. This too has happened. This is best illustrated by the trajectory of Goldman’s investment in specialist firm Spear, Leeds & Kellogg. Goldman paid $5.4 billion for it in 2000 (before RegNMS) and sold it for a pittance–$30 million–in 2014. I didn’t foresee exactly the nature or identity of the new intermediaries–HFT–but I was broadly aware that there would be entry into market making, and that this would reduce trading costs and undermine incumbents with market power. Further, as I’ve written about recently, the new intermediaries don’t appear to be making rents in the new equilibrium.

The years since RegNMS have seen a dramatic decline in trading costs for investors, and it is likely the case that this decline is largely attributable to the increase in competition. Much of the controversy that has raged since 2005 relates to disputes over trading practices that were an inevitable consequence of the breaking of the NYSE near-monopoly–a process pejoratively referred to as “fragmentation.” In particular, multiple markets necessitate arbitrageurs, who effectively enforce the law of one price. The strategies and tactics arbitraguers use often appear unsavory, and strike many as unfair: arbitrageurs get something even though they appear to do nothing substantive. Moreover, arbitrage uses up real resources. That’s costly, and it would be nice if this could be avoided, but that’s unlikely ever to be so. The trade-off between much greater competition (and reduced welfare losses due to the exercise of market power) and the expenditure of real resources to enforce the law of one price seems to be a great bargain.

Much of the criticism of RegNMS relates to the Order Protection Rule, which requires that no order can be executed on market X if a better price is displayed at market Y. The critics (e.g., the Principal Traders Association which ironically represents some of the biggest beneficiaries of RegNMS) argue that this rule (a) has led to a proliferation of order types intended to ensure compliance with the rule, which make the market far more complex, and (b) requires traders to maintain connections with and monitor all trading venues displaying quotes, no matter how small.

These complaints have some merit. The crucial question is whether the equity trading marketplace will be as competitive without the Order Handling Rule as it is with it. This is an open question, and one which should be the focus of the SEC’s inquiry. For if the Order Handling Rule is a necessary condition for robust competition, the costs that the PTA and others identify are likely well worth paying in order to realize the benefits of competition.

My prediction that competition would intensify post-RegNMS was based on my analysis of the effects of the Order Handling Rule, which was in turn based on my work on liquidity network effects done in the late-90s and early-00s. Specifically, in the formal models I derived (e.g., here), the self-reinforcing liquidity effect obtains when investors decide which trading venue to submit an order to on the basis of expected execution cost (i.e., bid-ask spread, price impact). The market with the bigger fraction of trading activity typically offers the lowest execution cost. Therefore, traders submit their orders to the bigger market. This creates a self-reinforcing feedback loop (and a self-fulling prophecy) in which trading activity “tips” to a single exchange. (There are some complexities here, relating to cream skimming of uninformed order flow. See the linked paper for a discussion of that issue.)

Mandating something akin to to the order handling rule forces order flow to the market offering the best price at a particular moment, not the one that offers the best price in expectation. As I phrased it in my Regulation paper, such a rule “socializes order flow”: even if an order is directed to a particular exchange, that exchange does not control that order flow and must direct to any other exchange offering a better price.

I think that both theory and the post-RegNMS experience show that the Order Handling Rule is sufficient to break the liquidity network effect because it socializes order flow. But is it necessary? Maybe not, but it is important to try to find out before jettisoning it.

Here’s a story which suggests that the rule is not necessary in the modern electronic trading environment. One reason why traders may choose to submit orders to where they expect to get the best execution is because of search costs. In a floor-based environment in particular, it is costly to verify which market is offering the best price at any time.  Moreover, since it takes time get quotes from two floor-based markets, by the time that you actually submit your order to the one giving the best quote, the market will have moved and you won’t get the price you thought you were going to get. So economize on search costs and the risks associated with delay by submitting the order to the market that usually offers the best price. Ironically, the inevitable result of this process is that there is only one market left standing.

Search is cheaper and faster–and arguably far cheaper and far faster–in the modern electronic environment. Based on feeds from multiple markets, an electronic trader (and in particular an automated trader) can rapidly compare quotes and send an order to the market offering the best quote, or by viewing depth (something pretty much impossible in the floor days, where much of the liquidity was in the hands of floor brokers) split an order among multiple venues to tap the liquidity in all of them.

In other words, the natural monopoly problem was far more likely in a floor-based environment where pre-trade transparency was so limited that search costs were very high: it was nigh on impossible to know precisely what trading opportunities were or to move fast enough to exploit the one that appeared best at any point in time, so traders submitted their orders to where they expected the opportunities to be the best. In contrast, electronification and automation have created such great pre-trade transparency and the ability to act on it that it is plausibly true that in this environment traders can and will submit their orders to whatever venue is offering the best trading opportunity at a point in time, regardless of whether it usually does so. In this story, technology eliminates the uncertainty and guesswork that created the liquidity network effect.

Maybe. Perhaps even likely. But I can’t be certain. Note that one complaint about the existing market structure is that even though everything has vastly speeded up, some traders are still faster than others. As a result, those who submit a market order in response to seeing a particular displayed price are often dismayed to learn that the market has moved before their order actually reaches the trading venue, and that their order is executed at a worse price than they had anticipated. Freed of the obligations of the Order Handling Rule, these traders may choose to submit their order to where they usually get the best price: if enough do this, the liquidity network effect will reemerge.

Further, the PTA and others have complained that it is costly to monitor and maintain connections with all trading venues as is necessary under the Order Handling Rule. If the Rule is relaxed or eliminated, one would expect that they will disconnect from some venues. If enough do this, the smaller venues will become unviable. After this happens, there will be fewer venues–and some traders may choose to disconnect from the smallest remaining one. This dynamic could result in another feedback loop that results in the survival of a single dominant exchange that exercises market power.

It is therefore not clear to me that elimination of the Order Handling Rule will result in traders having their cake (intense inter-exchange competition) and eating it too (less complexity, lower connection cost). Given the substantial benefits of greater competition that have been realized in the past dozen years, changes to the cornerstone of RegNMS should not be taken lightly. The Special Study, and the SEC, should pay close attention to how competition will evolve if the Order Handling Rule is eliminated. This analysis should take into account the existing technology, but also try to think of how technology will change in the aftermath of an elimination and how this technological change will affect competition.

Most importantly, any analysis must be predicated on an understanding that there are strong centripetal forces in securities trading. Any time traders have an incentive to direct order flow to the venue that is expected to offer the best price, the likely outcome is that only one venue will survive. The incentives of traders in a high speed, largely automated, and electronic market in the absence of an Order Handling Rule need to be considered carefully. It should not be assumed that technology alone will eliminate the incentive to direct orders to the market that is usually best, not the one that is best at any particular instant. This hypothesis should be probed vigorously and skeptically.

Experience in futures markets suggests that liquidity network effects can persist even in high speed, automated, electronic markets: futures contracts in a particular instrument exhibit a strong natural monopoly tendency, and strong tendencies towards tipping. It is arguable that the vertical integration of clearing, and the resulting non-fungibility of otherwise identical contracts traded on different venues, could contribute to this (though I am skeptical about that). But it could also mean that something like the Order Handling Rule (which is not present in futures markets) is necessary to create strong competition between multiple venues even in a highly computerized and automated trading environment.

This is the big issue in any revamping of RegNMS. It should be front and center of any analysis, including in the impending Special Study. The intense competition in the post-RegNMS world is a remarkable achievement, particularly in comparison with the near monopolistic market structure that existed before 2005. It would be a great shame if this were thrown away due to an incomplete analysis of what competition in a modern computerized market would be like in the absence of something like the Order Handing Rule.

Print Friendly

April 4, 2017

The Unintended Consequences of Blockchain Are Not Unpredictable: Respond Now Rather Than Repent Later*

Filed under: Clearing,Commodities,Derivatives,Economics,Regulation — The Professor @ 3:39 pm

In the past week the WSJ and the FT have run articles about a new bank-led initiative to move commodity trading onto a blockchain. In many ways, this makes great sense. By its nature, the process of recording and trading commodity trades and shipments is (a) collectively involve large numbers of spatially dispersed counterparties, (b) have myriad terms, and (c) can give rise to costly disputes. As a result of these factors, the process is currently very labor intensive, fraught with operational risk (e.g., inadvertent errors) and vulnerable to fraud (cf., the Qingdao metals warehouse scandal of 2014). In theory, blockchain has the ability to reduce costs, errors, and fraud. Thus, it is understandable that traders and banks are quite keen on the potential of blockchain to reduce costs and perhaps even revolutionize the trading business.

But before you get too excited, a remark by my friend Christophe Salmon at Trafigura is latent with deep implications that should lead you to take pause and consider the likely consequences of widespread adoption of blockchain:

Christophe Salmon, Trafigura’s chief financial officer, said there would need to be widespread adoption by major oil traders and refiners to make blockchain in commodity trading viable in the long term.

This seemingly commonsense and innocuous remark is actually laden with implications of unintended consequences that should be recognized and considered now, before the blockchain train gets too far down the track.

In essence, Christophe’s remark means that to be viable blockchain has to scale. If it doesn’t scale, it won’t reduce cost. But if it does scale, a blockchain for a particular application is likely to be a natural monopoly, or at most a natural duopoly. (Issues of scope economies are also potentially relevant, but I’ll defer discussion of that for now.)

Indeed, if there are no technical impediments to scaling (which in itself is an open question–note the block size debate in Bitcoin), the “widespread adoption” feature that Christophe identifies as essential means that network effects create scale economies that are likely to result in the dominance of a single platform. Traders will want to record their business on the blockchain that their counterparties use. Since many trade with many, this creates a centripetal force that will tend to draw everyone to a single blockchain.

I can hear you say: “Well, if there is a public blockchain, that happens automatically because everyone has access to it.” But the nature of public blockchain means that it faces extreme obstacles that make it wildly impractical for commercial adoption on the scale being considered not just in commodity markets, but in virtually every aspect of the financial markets. Commercial blockchains will be centrally governed, limited access, private systems rather than a radically decentralized, open access, commons.

The “forking problem” alone is a difficulty. As demonstrated by Bitcoin in 2013 and Ethereum in 2016, public blockchains based on open source are vulnerable to “forking,” whereby uncoordinated changes in the software (inevitable in an open source system that lacks central governance and coordination) result in the simultaneous existence of multiple, parallel blockchains. Such forking would destroy the network economy/scale effects that make the idea of a single database attractive to commercial participants.

Prevention of forking requires central governance to coordinate changes in the code–something that offends the anarcho-libertarian spirits who view blockchain as a totally decentralized mechanism.

Other aspects of the pure version of an open, public blockchain make it inappropriate for most financial and commercial applications. For instance, public blockchain is touted because it does not require trust in the reputation of large entities such as clearing networks or exchanges. But the ability to operate without trust does not come for free.

Trust and reputation are indeed costly: as Becker and Stigler first noted decades ago, and others have formalized since, reputation is a bonding mechanism that requires the trusted entity to incur sunk costs that would be lost if it violates trust. (Alternatively, the trusted entity has to have market power–which is costly–that generates a stream of rents that is lost when trust is violated. That is, to secure trust prices have to be higher and output lower than would be necessary in a zero transactions cost world.)

But public blockchains have not been able to eliminate trust without cost. In Bitcoin, trust is replaced with “proof of work.” Well, work means cost. The blockchain mining industry consumes vast amounts of electricity and computing power in order to prove work. It is highly likely that the cost of creating trusted entities is lower than the cost of proof of work or alternative ways of eliminating the need for trust. Thus, a (natural monopoly) commercial blockchain is likely to have to be a trusted centralized institution, rather than a decentralized anarchist’s wet-dream.

Blockchain is also touted as permitting “smart contracts,” which automatically execute certain actions when certain pre-defined (and coded) contingencies are met. But “smart contracts” is not a synonym for “complete contracts,” i.e., contracts where every possible contingency is anticipated, and each party’s actions under each contingency is specified. Thus, even with smart (but incomplete) contracts, there will inevitably arise unanticipated contingencies.

Parties will have to negotiate what to do under these contingencies. Given that this will usually be a bilateral bargaining situation under asymmetric information, the bargaining will be costly and sometimes negotiations will break down. Moreover, under some contingencies the smart contracts will automatically execute actions that the parties do not expect and would like to change: here, self-execution prevents such contractual revisions, or at least makes them very difficult.

Indeed, it may be the execution of the contractual feature that first makes the parties aware that something has gone horribly wrong. Here another touted feature of pure blockchain–immutability–can become a problem. The revelation of information ex post may lead market participants to desire to change the terms of their contract. Can’t do that if the contracts are immutable.

Paper and ink contracts are inherently incomplete too, and this is why there are centralized mechanisms to address incompleteness. These include courts, but also, historically, bodies like stock or commodity exchanges, or merchants’ associations (in diamonds, for instance) have helped adjudicate disputes and to re-do deals that turn out to be inefficient ex post. The existence of institutions to facilitate the efficient adaption of parties to contractual incompleteness demonstrates that in the real world, man does not live (or transact) by contract alone.

Thus, the benefits of a mechanism for adjudicating and responding to contractual incompleteness create another reason for a centralized authority for blockchain, even–or especially–blockchains with smart contracts.

Further, the blockchain (especially with smart contracts) will be a complex interconnected system, in the technical sense of the term. There will be myriad possible interactions between individual transactions recorded on the system, and these interactions can lead to highly undesirable, and entirely unpredictable, outcomes. A centralized authority can greatly facilitate the response to such crises. (Indeed, years ago I posited this as one of the reasons for integration of exchanges and clearinghouses.)

And the connections are not only within a particular blockchain. There will be connections between blockchains, and between a blockchain and other parts of the financial system. Consider for example smart contracts that in a particular contingency dictate large cash flows (e.g., margin calls) from one group of participants to another. This will lead to a liquidity shock that will affect banks, funding markets, and liquidity supply mechanisms more broadly. Since the shock can be destabilizing and lead to actions that are individually rational but systemically destructive if uncoordinated, central coordination can improve efficiency and reduce the likelihood of a systemic crisis. That’s not possible with a radically decentralized blockchain.

I could go on, but you get the point: there are several compelling reasons for centralized governance of a commercial blockchain like that envisioned for commodity trading. Indeed, many of the features that attract blockchain devotees are bugs–and extremely nasty ones–in commercial applications, especially if adopted at large scale as is being contemplated. As one individual who works on commercializing blockchain told me: “Commercial applications of blockchain will strip out all of the features that the anarchists love about it.”

So step back for a minute. Christophe’s point about “widespread adoption” and an understanding of the network economies inherent in the financial and commercial applications of blockchain means that it is likely to be a natural monopoly in a particular application (e.g., physical oil trading) and likely across applications due to economies of scope (which plausibly exist because major market participants will transact in multiple segments, and because of the ability to use common coding across different applications, to name just two factors). Second, a totally decentralized, open access, public blockchain has numerous disadvantages in large-scale commercial applications: central governance creates value.

Therefore, commercial blockchains will be “permissioned” in the lingo of the business. That is, unlike public blockchain, entry will be limited to privileged members and their customers. Moreover, the privileged members will govern and control the centralized entity. It will be a private club, not a public commons. (And note that even the Bitcoin blockchain is not ungoverned. Everyone is equal, but the big miners–and there are now a relatively small number of big miners–are more equal than others. The Iron Law of Oligarchy applies in blockchain too.)

Now add another factor: the natural monopoly blockchain will likely not be contestible, for reasons very similar to the ones I have written about for years to demonstrate why futures and equity exchanges are typically natural monopolies that earn large rents because they are largely immune from competitive entry. Once a particular blockchain gets critical mass, there will be the lock-in problem from hell: a coordinated movement of a large set of users from the incumbent to a competitor will be necessary for the entrant to achieve the scale necessary to compete. This is difficult, if not impossible to arrange. Three Finger Brown could count the number of times that has happened in futures trading on his bad hand.

Now do you understand why banks are so keen on the blockchain? Yes, they couch it in terms of improving transactional efficiency, and it does that. But it also presents the opportunity to create monopoly financial market infrastructures that are immune from competitive entry. The past 50 years have seen an erosion of bank dominance–“disintermediation”–that has also eroded their rents. Blockchain gives the empire a chance to strike back. A coalition of banks (and note that most blockchain initiatives are driven by a bank-led cooperative, sometimes in partnership with a technology provider or providers) can form a blockchain for a particular application or applications, exploit the centripetal force arising from network effects, and gain a natural monopoly largely immune from competitive entry. Great work if you can get it. And believe me, the banks are trying. Very hard.

Left to develop on its own, therefore, the blockchain ecosystem will evolve to look like the exchange ecosystem of the 19th or early-20th centuries. Monopoly coalitions of intermediaries–“clubs” or “cartels”–offering transactional services, with member governance, and with the members reaping economic rents.

Right now regulators are focused on the technology, and (like many others) seem to be smitten with the potential of the technology to reduce certain costs and risks. They really need to look ahead and consider the market structure implications of that technology. Just as the natural monopoly nature of exchanges eventually led to intense disputes over the distribution of the benefits that they created, which in turn led to regulation (after bitter political battles), the fundamental economics of blockchain are likely to result in similar conflicts.

The law and regulation of blockchain is likely to be complicated and controversial precisely because natural monopoly regulation is inherently complicated and controversial. The yin and yang of financial infrastructure in particular is that the technology likely makes monopoly efficient, but also creates the potential for the exercise of market power (and, I might add, the exercise of political power to support and sustain market power, and to influence the distribution of rents that result from that market power). Better to think about those things now when things are still developing, than when the monopolies are developed, operating, and entrenched–and can influence the political and regulatory process, as monopolies are wont to do.

The digital economy is driven by network effects: think Google, Facebook, Amazon, and even Twitter. In addition to creating new efficiencies, these dominant platforms create serious challenges for competition, as scholars like Ariel Ezrachi and Maurice Stucke have shown:

Peter Thiel, the successful venture capitalist, famously noted that ‘Competition Is for Losers.’ That useful phrase captures the essence of many technology markets. Markets in which the winner of the competitive process is able to cement its position and protect it. Using data-driven network effects, it can undermine new entry attempts. Using deep pockets and the nowcasting radar, the dominant firm can purchase disruptive innovators.

Our new economy enables the winners to capture much more of the welfare. They are able to affect downstream competition as well as upstream providers. Often, they can do so with limited resistance from governmental agencies, as power in the online economy is not always easily captured using traditional competition analysis. Digital personal assistants, as we explore, have the potential to strengthen the winner’s gatekeeper power.

Blockchain will do the exact same thing.

You’ve been warned.

*My understanding of these issues has benefited greatly from many conversations over the past year with Izabella Kaminska, who saw through the hype well before pretty much anyone. Any errors herein are of course mine.

Print Friendly

March 10, 2017

US Shale Puts the Saudis and OPEC in Zugzwang

Filed under: Commodities,Derivatives,Economics,Energy,Politics — The Professor @ 2:55 pm

This was CERA Week in Houston, and the Saudis and OPEC provided the comedic entertainment for the assembled oil industry luminaries.

It is quite evident that the speed and intensity of the U-turn in US oil production has unsettled the Saudis, and they don’t know quite what to do about it. So they were left with making empty threats.

My favorite was when Saudi Energy Minister Khalid al-Falih said there would be no “free rides” for US shale producers (and non-OPEC producers generally). Further, he said OPEC “will not bear the burden of free riders,” and “[w]e can’t do what we did in the ’80s and ’90s by swinging millions of barrels in response to market condition.”

Um, what is OPEC going to do about US free riders? Bomb the Permian? If it cuts output, and prices rise as a result, US E&P activity will pick up, and damn quick. The resulting replacement of a good deal of the OPEC output cut will limit the price impact thereof. The best place to be is outside a cartel that cuts output: you can get the benefit of the higher prices, and produce to the max. That’s what is happening in the US right now. OPEC has no credible way of showing off, or threatening to show off, free riders.

As for not doing what they did in the ’80s, well that’s exactly OPEC’s problem. It’s not the ’80s anymore. Now if it tries to “swing millions of barrels” to raise price, there is a fairly elastic and rapidly responding source of supply that can replace a large fraction of those barrels, thereby limiting the price impact of the OPEC swingers, baby.

Falih’s advisers were also trying to scare the US producers. Or something:

“One of the advisors said that OPEC would not take the hit for the rise in U.S. shale production,” a U.S. executive who was at the meeting told Reuters. “He said we and other shale producers should not automatically assume OPEC will extend the cuts.”

Presumably they are threatening a return to their predatory pricing strategy (euphemistically referred to as “defending market share”) that worked out so well for them the last time. Or perhaps it is just a concession that US supply is so elastic that it makes the demand for OPEC oil so elastic that output cuts are a losing proposition and will not endure. Either way, it means that OPEC is coming to the realization that continuing output cuts are unlikely to work. Meaning they won’t happen.

OPEC also floated cooperation with US producers on output. Mr. al-Falih, meet Senator Sherman! And if the antitrust laws didn’t make US participation in an agreement a non-starter, it would be almost impossible to cartelize the US industry given the largely free entry into E&P and the fungibility of technology, human capital, land, services, and labor. Maybe OPEC should hold talks with the Texas Railroad Commission instead.

Finally, in another laugh riot, OPEC canoodled with hedge funds. Apparently under the delusion that financial players play a material role in setting the price of physical barrels, rather than the price of risk. Disabling speculation could materially help OPEC only by raising the cost of hedging, which would tend to raise the costs of E&P firms, especially the more financially stretched ones. (Along these lines, I would argue that the big increase in net long speculative positions in recent months is not due to speculators pushing themselves into the market, but instead they have been pulled into the market by increased hedging activity that has occurred due to the increase in drilling activity in the US.)

Oil prices were down hard this week, from a $53 handle to a (at the time of this writing) $49.50 price. The first down-leg was due to the surprise spike in US inventories, but the continued weakness could well reflect the OPEC and Saudi messaging at CERA Week. The pathetic performance signaled deep strategic weakness, and suggests that the Saudis et al realize they are in zugzwang: regardless of what they do with regards to output, they are going to regret doing it.

My heart bleeds. Bleeds, I tells ya!


Print Friendly

March 3, 2017

The Rocks Didn’t Go Anywhere. Go Figure.

Filed under: Commodities,Economics,Energy,Russia — The Professor @ 2:58 pm

The conventional wisdom during the oil price collapse that started in mid-2014 and which accelerated starting in November of that year when the Saudis decided not to cut output was that the Kingdom was engaged in a predatory pricing strategy intended to drive out US shale producers. I mocked this in real time. Nothing really special about that analysis: economists have known for a long time that predatory strategies are almost never rational. They are irrational because the predator has to incur losses to cause its competitors to reduce production, but the competitors’ resources are unlikely to leave the industry permanently: they can come flooding back in when the predator attempts to restrict output to raise prices. Thus, the predator suffers all the pain at selling at low prices, but cannot recoup these losses by selling at higher prices later.

In the case of shale, the rocks weren’t going anywhere. Obviously. When prices fell, companies just drilled fewer wells–a lot fewer wells–but the rocks remained. The knowledge of where the right rocks were remained too. The knowledge of how to drill the rocks didn’t disappear. Idled rigs went into storage. Yes, some labor (including some skilled labor left), but this resource is pretty flexible and can come back quickly when demand goes up. E&P companies incurred financial losses, and some experienced financial distress and even bankruptcy, but this did not drive them out of the industry permanently, and did not drive out the human and physical capital that these firms employed. New capital required to drill new wells is available to E&P firms based on future prospects, not past failures. Indeed, one of the functions of bankruptcy and restructuring of distressed firms is to clean up balance sheets so that old debt doesn’t impede the ability of firms to take on positive NPV projects.

In sum, even though drilling activity plummeted along with prices, the resources needed to ramp up production weren’t destroyed or driven out of the industry. They were only waiting for more favorable prices. The industry went into hibernation: it didn’t die.

OPEC’s decision to cut output to raise prices–and the Saudis going beyond their share of output cuts to strengthen OPEC’s effect–provided the opportunity the industry had been waiting for. It rapidly awoke from its slumbers. Rig counts did a U-turn, up 90 percent in 9 months. And so has output. John Kemp reports:

U.S. crude oil production appears to be rising strongly thanks to increased shale drilling as well as rising offshore output from the Gulf of Mexico.

Production averaged almost 9 million barrels per day (bpd) in the four weeks to Feb. 24, according to the latest weekly estimates published by the Energy Information Administration.

Production has been on an upward trend since hitting a cyclical low of 8.5 million bpd in September (“Weekly Petroleum Status Report”, EIA, March 1).

Javier Blas chimes in:

“North American oil companies are going to increase their spending by 25 percent in 2017 compared to last year,” said Daniel Yergin, the oil historian-cum-consultant who hosts the CERAWeek. “The increase reflects the magnetism of U.S. shale.”

U.S. benchmark West Texas Intermediate traded at $52.79 a barrel on Friday. Futures bounced between $51.22 and $54.94 in February.

So far this year, U.S. energy companies have raised $10.5 billion in fresh equity, with shale and oil service groups drawing the most investment, the best start of the year since at least 1999 and equal to a third of what the sector raised in the whole of 2015. [A clear indication that “debt overhang” is not constraining the ability to access capital to fund drilling programs, which would have been the only way the Saudi strategy had a prayer of working.]

In Midland, the Texas city at the center of the Permian basin, the activity rush is palpable, as is the threat of higher costs for shale companies. The county’s active-rig total ranks second in the U.S., behind only Reeves County further to the west.

“You could see the town’s energy is back,” said Alan Means, founder of Cambrian Management Ltd., a Midland-based firm that operates more than 200 oil wells in the Permian across Texas and New Mexico. “The rigs are up again, the fracking crews are busier and the highway traffic is increasing.”

As activity rises, the man-camps in the town outskirts are flush again, with workers arriving from the Bakken in Montana and North Dakota, and from as far way as Canada. The 1,000-bed Permian Lodging camp is now 100 percent full, up from 65 percent in July, according to camp owner Ralph McIngvale. [See how quickly labor resources can return?]

Shale firms have also become more efficient.

In sum, the predatory strategy hasn’t made shale go away. Now, the longer the Saudis and the rest of OPEC (and the non-OPEC countries that have joined in) hold down output, the larger the fraction of that output loss will be redeemed by resurgent shale production in the US.

In other words, shale makes the the demand for OPEC (and non-OPEC cooperators’) oil pretty elastic. This raises serious questions about the rationality of the output cuts from the perspective of the cutters, especially the big countries like Saudi Arabia (which has cut substantially–more than it promised) and Russia (whose cooperation is more equivocal). This, in turn, makes the durability of the cuts problematic.

The quick turnaround in US shale provides a new data point for the Saudis, Russians, et al. Their dreams that they could make rocks disappear–or that they could make it permanently unattractive to extract oil from their rocks–have proved chimerical. Persisting in output cuts will become progressively less profitable, and indeed, is likely to be downright unprofitable soon. What’s the over-under on how long until they figure that rocks will outlast them, and give up the output cut game?

Teaser: I am currently slogging through oil well data (tens of thousands of wells in all the major basins) in a study of the sources of productivity gains in shale production. Hopefully I will be able to report some results soon. Initial results are particularly ominous for OPEC. I am finding evidence of learning-by-doing in both oil and gas. That is, drilling wells today generates knowledge that enhances future productivity and lowers future costs. This means that the increased shale output resulting from OPEC’s current attempt to prop up prices will increase the US shale industry’s future productivity, making it even harder for OPEC to keep prices high months or years from now.

Print Friendly

March 1, 2017

Ivan Glasenberg: Mistaking Luck for Genius?

Filed under: China,Commodities,Economics,Energy — The Professor @ 8:58 pm

Glencore is back from the brink, posting a $1.4 billion profit for 2016. When I first read about the 2016 results, I wondered aloud to a friend whether Ivan Glasenberg would have learned something from the company’s near death experience, or instead would consider the fall someone else’s fault, and the resurrection the result of his genius. I should have known it would be the latter.

Glasenberg has been gloating about the 2016 results, and flaunting them as some sort of vindication. He is openly musing about paying a $20 billion dividend to the company’s “long suffering shareholders,” and is looking for acquisitions, including in North American grain trading.

The fact is that Glencore and Ivan Glasenberg were (and are) just along for a ride on the commodity price roller coaster, which is located at a Chinese amusement park. When the roller coaster plunged as the Chinese economy shuddered in 2015, Glencore plunged along with it. Now, in large part due to Chinese policy moves that have caused the prices of coal and other raw materials to climb again, Glencore has rebounded. Management genius had nothing to do with it.

Well, that’s not completely true. Glasenberg made the conscious choice to transform Glencore from a trading firm that was basically flat price neutral to a mining firm with a big exposure to the flat prices of coal and copper in particular. So the big drop and the rebound are the result of his choice.

When Glencore was in peril in 2015, I said that its fate was dependent on commodity prices, and hence on Chinese policy, rather than any decision that management can make. I said that Glencore was along for the ride. That turned out to be true. It remains true going forward. That was the fundamental strategic choice that has shaped and will continue to shape its performance. Management can at best optimize performance over the cycle, but the cycle will dominate.

Prior to 2015, Glencore management did not optimize. The firm was over-leveraged: it continued to operate with trading-firm like leverage levels even though it faced bigger commodity price risks. Glasenberg/Glencore have cut down on debt in the past year, and this reduces the likelihood of a repeat of 2015–if they stick to a lower leverage policy going forward. But the fact is that the biggest driver of Glencore’s fate is not decisions made in Baar, but the whims of policymakers in Beijing.

It is interesting to compare Glasenberg’s crowing to the more muted tones of other mining firms which have also profited from the rebound. The managements of these other firms apparently realize that what the cycle giveth, the cycle can taketh away. Is Peabody Coal’s management preening over the company’s rebound? No. They are silently grateful that factors outside of their control have turned their way. Similarly, Noble eked out a profit, but its management isn’t breaking their arms patting themselves on the back.

Traders typically make deals of relatively short duration, and it is possible to evaluate trading decisions and trading acumen based on P/L. But by transforming Glencore into a mining company with a  supersized trading arm, Glasenberg purposefully made a very long term trade with a duration of years (decades, even): quarterly or even annual fluctuations in P/L tell you little about the wisdom of such a trade. It is therefore rather disturbing to watch Glasenberg gloat on the basis of a profitable year driven by a cyclical turn with which he had exactly zero to do with.

And let’s put this in perspective. Glencore lost $5 billion in 2015. 2016 made up less than 30 percent of that loss. There is still a long way to go to determine whether the big, multi-year trade that Glencore made a few years ago was a smart play or not.

Perhaps Glasenberg still has a trader’s mindset, and a trader’s time horizon, suited for a transaction cycle measured in weeks or months, not years or decades. If so, the company might be in for a big future fall, because its guiding light is apt to mistake luck for skill.

Print Friendly

February 20, 2017

Trolling Brent

Filed under: Commodities,Derivatives,Economics,Energy,Regulation — The Professor @ 10:14 am

Platts has announced the first major change in the Brent crude assessment process in a decade, adding Troll crude to the “Brent” stream:

A decline in supply from North Sea fields has led to concerns that physical volumes could become too thin and hence at times could be accumulated in the hands of just a few players, making the benchmark vulnerable to manipulation.

Platts said on Monday it would add Norway’s Troll crude to the four British and Norwegian crudes it already uses to assess dated Brent from Jan 1. 2018. This will join Brent, Forties, Oseberg and Ekofisk, or BFOE as they are known.

This is likely a stopgap measure, and Platts is considering more radical moves in the future:

It is also investigating a more radical plan to account for a possible larger drop-off in North Sea output over the next decade that would allow oil delivered from as far afield as west Africa and Central Asia to contribute to setting North Sea prices.

But the move is controversial, as this from the FT article shows:

If this is not addressed first, one source at a big North Sea trader said, the introduction of another grade to BFOE could make “an assessment that is unhedgeable, hence not fit for purpose”. “We don’t see any urgency to add grades today,” he added. Changes to Brent shifts the balance of power in North Sea trading. The addition of Troll makes Statoil the biggest contributor of supplies to the grades supporting Brent, overtaking Shell. Some big North Sea traders had expressed concern Statoil would have an advantage in understanding the balance of supply and demand in the region as it sends a large amount of Troll crude to its Mongstad refinery, Norway’s largest.

The statement about “an assessment that is unhedgeable, hence not fit for purpose” is BS, and exactly the kind of thing one always hears when contracts are redesigned. The fact is that contract redesigns have distributive effects, even if they improve a contract’s functioning, and the losers always whinge. Part of the distributive effect relates to issues like giving a company like Statoil an edge . . . that previously Shell and the other big North Sea producers had. But part of the distributive effect is that a contract with inadequate deliverable supply is a playground for big traders, who can more easily corner, squeeze, and hug such a contract.

Insofar as hedging is concerned, the main issue is how well the Brent contract performs as a hedge (and a pricing benchmark) for out-of-position (i.e., non-North Sea) crude, which represents the main use of Brent paper trades. Reducing deliverable supply constraints which contribute to pricing anomalies (and notably, anomalous moves in the basis) unambiguously improves the functioning of the contract for out-of-position players. Yeah, those hedging BFOE get slightly worse hedging performance, but that is a trivial consideration given that the very reason for changing the benchmark is the decline in BFOE production–which now represents less than 1 percent of world output. Why should the hair on the end of the tail wag the dog?

Insofar as the competition with WTI is concerned, the combination of larger US supplies, the construction of pipelines to move supplies from the Midcon (PADDII) to the Gulf (PADDIII)  and the lifting of the export ban have restored and in fact strengthened the connection of WTI prices to seaborne crude prices. US barrels are now going to both Europe and Asia, and US crude has effectively become the marginal barrel in most major markets, meaning that it is determining price and that WTI is an effective hedge (especially for the lighter grades). And by the way, the WTI delivery mechanism is much more robust and transparent than the baroque (and at times broken) Brent pricing mechanism.

As if to add an exclamation point to the story, Bloomberg reports that in recent months Shell has been bigfooting–or would that be trolling?–the market with big trades that have arguably distorted spreads. It got to the point that even firms like Vitol (which are notoriously loath to call foul, lest someone point fingers at them) raised the issue with Shell:

While none of those interviewed said Shell did anything illegal, they said the company violated the unspoken rules governing the market, which is lightly regulated. Executives of several trading rivals, including Vitol Group BV, the world’s top independent oil merchant, raised objections with counterparts at Shell last year, according to market participants.

What are the odds that Mr. Fit for Purpose is a Shell trader?

All of this is as I predicted, almost six years ago, when everyone was shoveling dirt on WTI and declaring Brent the Benchmark of the Forever Future:

Which means that those who are crowing about Brent today, and heaping scorn on WTI, will be begging for WTI’s problems in a few years.  For by then, WTI’s issues will be fixed, and it will be sitting astride a robust flow of oil tightly interconnected with the nexus of world oil trading.  But the Brent contract will be an inverted paper pyramid, resting on a thinner and thinner point of crude production.  There will be gains from trade–large ones–from redesigning the contract, but the difficulties of negotiating an agreement among numerous big players will prove nigh on to impossible to surmount.  Moreover, there will be no single regulator in a single jurisdiction that can bang heads together (for yes, that is needed sometimes) and cajole the parties toward agreement.

So Brent boosters, enjoy your laugh while it lasts.  It won’t last long, and remember, he who laughs last laughs best.

That’s exactly how things have worked out, even down to the point about the difficulties of getting the big boys to play together (a lesson gained through extensive personal experience, some of which is detailed in the post). Just call me Craignac the Magnificent. At least when it comes to commodity contract design 😉

Print Friendly

February 15, 2017

Never Argue From a Price Change, Oil Market Edition

Filed under: Commodities,Derivatives,Economics,Energy — The Professor @ 9:19 pm

In the FT, Greg Meyer ponders a puzzle: “A mystery is confounding the US oil market: when inventories rise, prices rise, too.”

Yes, it is normally the case that inventories and prices, and inventories and the spot-deferred spread, move in opposite directions. But this does not have to be the case.

The typical case is based on the following economic logic. Inventories respond mainly to current, and temporary, supply and demand shocks. If current demand falls, and this demand shock is anticipated to be temporary, then current availability rises relative to expected future availability. The efficient way to respond to this is to store more today because the commodity is abundant today relative to what is expected in the future, and efficient allocations move resources from where they are relatively abundant to where they are relatively scarce. Storage increases expected future availability, which depresses expected future prices. The nearby price must fall relative to the expected future price in order to encourage storage, and together the fall in the expected future price and the fall in the nearby price relative to the expected future price causes the nearby price to fall.

A similar story holds with respect to a temporary increase in current supply.

Parenthetically, the temporary nature of the shock is important in driving the change in storage because this causes a change in relative availability that is necessary to make it optimal to store more. A shock that is anticipated to persist does not change current availability relative to expected future availability, so there is no benefit to shifting resources through time via storage. A persistent shock causes a parallel shift (roughly) in the forward curve, and no change in storage. In my academic research, I show that in a dynamic storage model supply/demand shocks with a very short half-life (on the order of 30 days) drive storage behavior, and that very persistent shocks drive the overall level of prices.

But there are other kinds of shocks. One kind of shock is to anticipated future demand or supply. Let’s say supply is expected to decline in the future. This increase in expected future scarcity can be mitigated by storing more today (i.e., reducing current consumption). This spreads the effect of the anticipated future supply loss over time, and thereby smooths consumption in an efficient way. The only way to reduce current consumption in order to increase inventories is to increase the spot price. So in this scenario, (a) inventories and prices move in the same direction, and (b) inventories and calendar spread (deferred minus nearby) move in opposite directions in order to reward the higher amount of storage.

Here’s a real world example. The Energy Policy Act of 2005 mandated increased use of renewable fuels–notably ethanol–in future years. This caused an increase in anticipated future demand for corn used to produce ethanol. When the act was passed, the supply of corn was basically fixed. One way of responding to the expected increase in future corn demand was to store more immediately (thereby carrying current supplies into the future when demand was going to be higher). Given the fixed supply, the only way to achieve this higher storage (and hence reduced current consumption) was for prices to rise.

Therefore, one explanation for the positive co-movement between prices and inventories is a shock to the expected future supply/demand balance. For example, an increased likelihood that OPEC will extend its supply cuts beyond April could produce this result.

Another kind of shock that can lead to a positive co-movement between spot prices and inventories is a shock to supply/demand volatility: I discussed this in an early blog post, and later analyzed this formally in my 2011 book. (A good example of the synergy between blogging and rigorous research, BTW.)

The intuition is this. Inventories are a way of insuring against uncertainty: putting something aside for a rainy day, as it were. If fundamental economic uncertainty goes up, it is efficient to hold more inventory. Since supply is fixed in the short run, the only way to increase inventory is to reduce current consumption. The only way to increase current consumption is for spot prices to rise. Moreover, to compensate increased inventory holding, futures prices must rise relative to spot prices. Therefore, for this kind of shock (like a shock to future demand) the forward curve rises and becomes steeper (i.e., increased contango).

So although the positive co-movement between spot prices and inventory may be unusual, it can occur in a rational, efficient market. It depends on the underlying driving shock. The typical case occurs when shocks to current supply/demand dominate. The more unusual case occurs when the shocks are to expected future supply and demand, or to fundamental volatility.

This relates directly to something I mentioned in the “kill the economists” post yesterday. Specifically: never argue from a price change. It is necessary to understand what is causing the price change. When there are multiple shocks that can affect prices (e.g., supply and demand shocks; current or future shocks; shocks to supply/demand volatility as well as to the level of supply/demand), just looking at the pice movement is not sufficient to draw conclusions about either its effect, or its cause. Indeed, it is even misleading to talk about the “effect” of the price change, because the price change is itself the endogenous effect of underlying causes/shocks.

The usual way to sort out what is going on is to look at quantities as well as prices. For instance, in a simple supply-demand model if you see prices go down, that could be because supply rose or demand fell. You can figure out which only by observing quantity: if you see quantity fall, for instance, you know that a demand decline caused the movements.

This means that the recent co-movements in oil inventories and prices reflects market participants’ assessment that the supply/demand balance is expected to tighten in the future, or that fundamental uncertainty is going up, or both.




Print Friendly

February 11, 2017

Risk Gosplan Works Its Magic in Swaps Clearing

Filed under: Clearing,Commodities,Derivatives,Economics,Politics,Regulation — The Professor @ 4:18 pm

Deutsche Bank quite considerately provided a real time example of an unintended consequence of Frankendodd, specifically, capital requirements causing firms to exit from clearing. The bank announced it is continuing to provide futures clearing, but is exiting US swaps clearing, due to capital cost concerns.

Deutsch was not specific in citing the treatment of margins under the leverage ratio as the reason for its exit, this is the most likely culprit. Recall that even segregated margins (which a bank has no access to) are treated as bank assets under the leverage rule, so a swaps clearer must hold capital against assets over which it has no control (because all swap margins are segregated), cannot utilize to fund its own activities, and which are not funded by a liability issued by the clearer.

It’s perverse, and is emblematic of the mixed signals in Frankendodd: CLEAR SWAPS! CLEARING SWAPS  IS EXTREMELY CAPITAL INTENSIVE SO YOU WON’T MAKE ANY MONEY DOING IT! Yeah. That will work out swell.

Of course Deutsch Bank has its own issues, and because of those issues it faces more acute capital concerns than other institutions (especially American ones). But here is a case where the capital cost does not at all match up with risk (and remember that capital is intended to be a risk absorber). So looking for ways to economize on capital, Deutsch exited a business where the capital charge did not generate any commensurate return, and furthermore was unrelated to the actual risk of the business. If the pricing of risk had been more sensible, Deutsch might have scaled back other businesses where capital charges reflected risk more accurately. Here, the effect of the leverage ratio is all pain, no gain.

When interviewed by Risk Magazine about the Fundamental Review of the Trading Book, I said: “The FRTB’s standardised approach is basically central planning of risk pricing, and it will produce Gosplan-like results.” The leverage ratio, especially as applied to swaps margins, is another example of central planning of risk pricing, and here indeed it has produced Gosplan-like results.

And in the case of clearing, these results are exactly contrary to a crucial ostensible purpose of DFA: reducing size and concentration in banking generally, and in derivatives markets in particular. For as the FT notes:

The bank’s exit will reignite concerns that the swaps clearing business is too concentrated among a handful of large players. The top three swaps clearers account for more than half the market by client collateral required, while the top five account for over 75 per cent.

So swaps clearing is now hyper-concentrated, and dominated by a handful of systemically important banks (e.g., Citi, Goldman). It is more concentrated that the bilateral swaps dealer market was. Trouble at one of these dominant swaps clearers would create serious risks for CCPs that they clear for (which, by the way, are all interconnected because the same clearing members dominate all the major CCPs). Moreover, concentration dramatically reduces the benefits of mutualizing risk: because of the small number of clearers, the risk of a big CM failure will be borne by a small number of firms. This isn’t insurance in any meaningful way, and does not achieve the benefits of risk pooling even if only in the first instance only a single big clearing member runs into trouble due to a shock idiosyncratic to it.

At present, there is much gnashing of teeth and rending of garments at the prospect of even tweaks in Dodd-Frank. Evidently, the clearing mandate is not even on the table. But this one vignette demonstrates that Frankendodd and banking regulation generally is shot through with provisions intended to reduce systemic risk which do not have that effect, and indeed, likely have the perverse effect of creating some systemic risks. Viewing Dodd-Frank as a sacred cow and any proposed change to it as a threat to the financial system is utterly wrongheaded, and will lead to bad outcomes.

Barney and Chris did not come down Mount Sinai with tablets containing commandments written by the finger of God. They sat on Capitol Hill and churned out hundreds of pages of laws based on a cartoonish understanding of the financial system, information provided by highly interested parties, and a frequently false narrative of the financial crisis. These laws, in turn, have spawned thousands of pages of regulation, good, bad, and very ugly. What is happening in swaps clearing is very ugly indeed, and provides a great example of how major portions of Dodd-Frank and the regulations emanating from it need a thorough review and in some cases a major overhaul.

And if Elizabeth Warren loses her water over this: (a) so what else is new? and (b) good! Her Manichean view of financial regulation is a major impediment to getting the regulation right. What is happening in swaps clearing is a perfect illustration of why a major midcourse correction in the trajectory of financial regulation is imperative.

Print Friendly

January 25, 2017

Live From Moscow! Rosneft Kabuki!

Filed under: Commodities,Derivatives,Economics,Energy,Russia — The Professor @ 3:31 pm

Today it was announced that Putin will indeed meet with Glencore’s Ivan Glasenberg,  QIA’s Sheikh Abdullah Bin Hamad Al Thani, and  Intesa Sanpaolo SpA Managing Director Carlo Messina. According to Bloomberg,

Putin will talk about “the investment climate, the reliability of Russia for foreign investors and prospects for expanding cooperation,” Peskov said on a conference call. The Kremlin said Jan. 23 that Sechin was keen to underline the significance of the deal with Glencore and Qatar and to outline new projects.

Yes, this is all about portraying the Rosneft stake sale as a normal deal, and as an indication that Russia presents a normal investment climate.

In fact, the deal does nothing of the sort. The bizarreness of what is known, that the curtain of secrecy that prevents so much from being known, show that the deal is highly abnormal by the standards of the US, Europe, Japan, and other major investment regions.

A Russian analyst puts his finger on it: this is PR, not reality:

The deal meant Rosneft avoided buying back the 19.5 percent stake itself. That would have been seen as “Russia’s demise” in the search for investors, according to Ivan Mazalov, a director at Prosperity Capital Management Ltd., which has $3.5 billion under management.

“It was important for Russia to win a PR battle that Russia is open to do business and that investors consider Russia as a good destination for their capital,” Mazalov said by e-mail.

But that’s the thing. We don’t know for sure that Rosneft avoided buying back the 19.5 percent stake. It apparently did not buy all 19.5 percent, but there is the matter of that missing 2.2 billion Euros. Further, who knows how the complex structure of shell companies involved the deal parses out actual economic ownership? And even if Rosneft isn’t putting up money or taking economic exposure to the stake, it’s pretty clear that some Russian entity or entities are.

But the show must go on! This Frankenstein’s monster of a deal must be made to look like the epitome of commercial normalcy: Since henchman Igor (Sechin, that is) is obviously not up to the task, Herr Doktor Putin himself must make an appearance to calm the agitated villagers.  Ivan Glasenberg is no doubt quite happy to play his part, because Glencore apparently made out very well in the deal, due in large part to the offtake agreement that went along with it. And il Signor Messina has stumped up Euros 4.5b, so he is certainly going to chew the scenery.

So who you gonna believe, Putin and his troupe, or your lyin’ eyes?

Print Friendly

January 24, 2017

Rosneft & Glencore & QIA & ???: More Kabuki

Filed under: Commodities,Economics,Energy,Politics,Russia — The Professor @ 7:58 pm

Today Reuters ran a long article summarizing all of the holes in the official Russian story about the sale of the Rosneft stake. Nice of them to catch up: there is nothing in the article that wasn’t discussed here, or in RBC reports, from six weeks to two weeks ago.

The main question is who is covering the €2.2 billion hole. My leading candidates: (1) a Russian state bank (likely VTB) providing debt financing, or (2) Rosneft buying its own equity from Rosneftgaz (perhaps using funding from a Russian state bank directly, or indirectly via proceeds from its recent bond sale). One factor in favor of (2) is the web of shell companies involved in the deal: these could be used to conceal the faux nature of the “privatization” and the supposed transfer of foreign money to the budget in an amount equal to the announced purchase price. The money could be used to launder Russian money, making it look like it was coming from a foreign source.

Recall that when it was doubted Rosneft would find a foreign buyer, the fallback plan was to have the firm purchase its shares from Rosneftgaz, and then sell them to a foreign buyer later. Option (2) would be a variant on that.

Regardless, even if the details are not known, it is abundantly clear that the privatization was not the clean, blockbuster deal originally announced. It is a stitched up job intended to obscure the failure to make a straight, uncomplicated sale to foreign buyers.

Interestingly, Rosneft has allegedly paid $40 million in legal fees. (H/T @leenur.) In 2017. That’s about $2 million/day, and if the deal was done in 2016, that’s when the legal expenses would be expected to be incurred. This is consistent with this being very much a work in progress. Or maybe, a work in regress.

But the Kabuki play must go on! Sechin is inviting Putin to meet with Glencore, QIA, and Intesa:

The chief executive of Russia’s biggest oil firm Rosneft on Monday asked President Vladimir Putin to receive the company’s partners Glencore, Intesa and the Qatar Investment Authority (QIA), the Kremlin said.

Trading house Glencore and the QIA recently became Rosneft shareholders in a multi-billion-dollar deal partly funded by Italian bank Intesa.

Rosneft boss Igor Sechin said at a meeting with Putin on Monday that Rosneft was planning new projects with the three partners and they wanted to tell Putin about the prospects for those projects, the Kremlin said in a statement on its website.

This is clearly intended to lend Putin’s authority to the deal (as he already did in his end of year Q&A). Bringing in Putin and the alleged principals for a Sovok PR gimmick is pathetic, and amusing–and amusing because it’s so pathetic!

Any such act will not end the questions. It will just bring attention to the deal, and any attention will only bring the questions to the fore.

Not that we can expect to get any answers from the Russians, or from QIA. But why the UK authorities and the LSE seem so complacent about the participation of a UK/LSE-listed company in such a dodgy deal, with such little disclosure, is beyond me. Glencore may argue that it has disclosed the basics of its involvement, but without knowing about the structure of the entire deal it is evaluate the accuracy of those disclosures, in particular relating to what Glencore’s real economic exposure is. The relevant parties in the UK should be pressing hard for much greater disclosure from Glencore.

Print Friendly

« Previous PageNext Page »

Powered by WordPress