The world of energy commodity trading has gone through a rather extensive reshuffling over the past few months. The key thing to note is that banks involved in energy have pulled back from the sector while merchant traders known largely for their secrecy are strengthening their position.
The most notable deal came last week when Swiss-based merchant firm Mercuria agreed to buy the entire physical commodity trading business of JPMorgan Chase for $3.5 billion. Mercuria, which is headquartered in Geneva and is predominantly a crude and refined products trading shop, has a team of approximately 1,200 people working in some 37 offices around the globe and has annual “turnover,” or essentially gross annual revenues of around $100 billion.
JPMorgan, whose overall size is an astounding $2.4 trillion in terms of the value of all its assets, had valued the oil trading portion of the business it sold to Mercuria at $1.7 billion. It valued its US and European natural gas trading business at approximately $800 million, its metals business at $500 million and its electricity and coal trading businesses at approximately $300 million, prior to the sale.
Mercuria therefore agreed to pay $200 million or so above book and will add JPMorgan physical assets, trading books and contract to its already extensive trading portfolio.
Included in the deal, apparently, is a trading team in London, New York, Houston and Singapore that numbers more than 400 people. When JPMorgan bought the trading operations of RBS Sempra in 2010 for $1.9 billion, it saw its trading staff balloon to almost 700 people. It spent several years bringing that staffing level down to a more manageable level.
Now, Mercuria, founded by Swiss nationals Marco Dunand and Daniel Jaggi in 2004, will begin the task of integrating the various JPMorgan trading teams with its own teams. Also now under discussion, according to JPMorgan, is the future role at Mercuria, if any, of Blythe Masters, the 45 year-old British-born global head of JPMorgan’s commodities unit.
Dunand and Jaggi have both spoken recently, and publicly (at places like Davos), acknowledging the fact that the merchants’ penchant for secrecy runs counter to the push by governments to instill far greater trading transparency. With its deal to buy JPMorgan, Mercuria, for example, will have to report physical US natural gas sales to the Federal Energy Regulatory Commission. Its US affiliate already reports its quarterly US wholesale power sales to FERC.
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Mercuria’s vision of its business model is fairly clear. In a recent interview with the newspaper Neue Zurcher Zeitung, Dunand offered that there are “two schools” for commodity trading. He said, “One is the Marc Rich school, with Glencore and Trafigura, which is obviously successful. And then there is the investment bank school, which has more of a risk approach.”
Marc Rich, of course, is the legendary commodities trader who, while working for Philipp Brothers in the late 1960’s and early 1970’s essentially created the spot market for crude, thereby breaking the hold over the market that big oil companies had using long-term supply contracts with supplier countries.
The key idea behind March Rich-style trading is to have access to your own logistics, such as shipping and storage, and to strike deals with big bulk buyers. The merchants are also not subject to Dodd-Frank trading restrictions, as are the banks.
On the other hand, the investment bank school of trading implies a far greater dependence on the financial markets to not only hedge positions but also to hedge positions for fee-paying clients. When trading for their own book — which banks will be prohibited from doing when the so-called Volcker rule is implemented in mid-2015 — the investment banks rely heavily upon churn, or buying and selling and re-buying and re-selling, to generate revenue from large volumes of trading. This activity also provides markets with liquidity.
Joining Glencore, Trafigura, and Mercuria as exemplars of the Rich school of commodity trading are Gunvor and Vitol.
On Monday, the head of Vitol, Ian Taylor, made a comment on the impact of the banks leaving the energy commodities trading business. He said, “The withdrawal of some investment banks from commodity related activities has reduced liquidity in markets such as power.” This is no doubt true, since the pull-back by the banks has been most pronounced in the wholesale power trading business due in no small part to tightened regulations and lower prices and thus dampened price volatility.
It was Taylor’s next comment, though, that also caught some people’s attention. He said that the reduced liquidity “created longer-term opportunities and our footprint in both the US and Europe is growing.”
Taylor conceded that 2013 was “a very challenging year for many in the physical energy distribution business.”” He said that “markets remained extremely competitive with new entrants increasing margin pressure on certain regional activity.” “While these market conditions aren’t expected to change overnight, changing supply and demand balances are generating some new opportunities,” Taylor said.
Meanwhile, Barclays PLC and Deutsche Bank are understood to be selling their power trading books, as the big UK and German banks announced they are exiting the business.
While Citibank has been trying to strengthen its trading in Europe and the US, Bank of America Merrill Lynch, strong in the US, has shutdown European natural gas and power trading.
Morgan Stanley, of course, is in the process of selling its Global Oil Merchant unit to the Russian oil company Rosneft, for an undisclosed sum that is nonetheless estimated to be in the range of $400 million. Roughly 100 Morgan trading executives are expected to go to work for Rosneft in London and New York, or about a third of Morgan’s entire global commodity trading team. Rosneft earlier established a trading unit in Geneva that is headed up by a former Shell trader.
One question that has popped up is whether there are any future US or European sanctions in the offing against Rosneft chief Igor Sechin, and whether such sanctions could hurt the deal with Morgan Stanley. The US and the EU have already leveled sanctions against individuals in retaliation for Russian President Vladimir Putin’s move into Crimea. Sechin is a former chief of staff to Putin and was appointed head of Rosneft by Putin in 2004.
On March 20 the US sanctioned the Russian Gennady Timchenko, who was co-founder of Gunvor. The Geneva-based firm said that the day before the sanctions were announced, Timchenko sold his shares in the firm to Swedish co-founder Torborn Tornqvist, who now owns 87% of the 14 year-old company. Gunvor, mainly an oil and products trader, employs approximately 500 front and back office trading professionals and 1,100 people at logistical facilities, has said that revenue in 2012 was roughly $93 billion.
The US Treasury Department said it imposed the sanctions against Timchenko out of the belief that Russian president Vladimir Putin had earlier invested in Gunvor and “may have access to Gunvor funds,” an assertion that Gunvor denied.