With oil prices remaining stubbornly high, the banking crisis still fresh in people’s minds and gas companies routinely accused of price fixing, it is hardly surprising that oil companies have once again, come under the microscope. The news that EU investigators have raided oil company offices in London and elsewhere, means that this is now the 3rd Portland report on the subject of price manipulation in the last 12 months (See July 12 and September 12 reports).
Details of the exact nature of the enquiry remain sketchy, but this has not stopped the media reporting in lusty detail on events. The argument goes that published oil prices (based on trading activity and used to set retail prices on the forecourt) are being manipulated upwards and the general public is carrying the consequent cost burden. The main tenet of this argument is that there are inconsistencies in the price of crude and the price of refined oil products (ie, petrol and diesel). Although seemingly a logical argument, it is nonetheless flawed as crude oil and refined product markets are, always have been and should be, separate entities. Contrary movements in the price of each entity – although unusual – are entirely normal and reflect the different dynamics of supply and demand in each separate market (crude being a world product and products representing the more localized European market). So we should not be surprised that for example, on 9th May, Brent Crude prices fell whilst petrol prices went up. And 3 working days later (14th May), crude prices rallied, but diesel prices dropped. In addition to this, there are plenty of traders who only focus on refined products and never trade crude (and vice versa), so why should BP and Shell aim to connect these two separate markets, just because they operate in both? Wouldn’t that just put them at a disadvantage versus those who specialise in one market only and never seek to create a crude-product correlation?
The inquiry also runs the risk of disappointing the general public when the scale of possible manipulation becomes clear. What might seem large price movements on the traded market, will be small by the time they equate to consumer prices. For example, significant price discrepancies of $2-3 per tonne might be relevant to those buying and selling 25,000 tonne cargoes (ie, a financial discrepancy of circa $75K on one transaction), but would we have such uncompromising media coverage, if it was made clear that this amount equates to 0.10 pence per litre (ppl) at the pumps? Of course it is true that systematic abuse by the oil companies over many years, could mean 0.10 ppl being multiplied many times over, but such a conclusion is predicated on a handful of major oil companies being able to systematically manipulate on a daily basis, hundreds of bulk oil sales, involving up to 40 separate buyers and sellers.
“Back in the day” – before the 2000’s commodity boom – the likes of BP, Shell and Exxon did dominate the markets to a much greater extent, but these oil majors now control less than 20% of the European oil market. The many and diverse new players in oil pricing are in fact companies that nobody has ever heard of (Vitol, Gunvor, Mercuria, Lukoil), so if the EU needs to start their investigation anywhere, shouldn’t they looking at where the product in Europe frequently comes from, ie, Russian imports traded by Russian and International Traders? But an EU probe into the Russian Oil Co’s would not get very far because most of them have based their operations in Switzerland – a country that is outside the EU’s jurisdiction and a place not usually known for its open-book approach to financial and commercial transactions. And here’s us naively thinking that the Russian companies based themselves there because they liked chocolate, cuckoo clocks and going to bed early…
Finally, it is quite possible that price manipulation (if it does exist) could result in prices falling. A quick look at what makes up the oil trading community would demonstrate this, with at least 25% of oil trades being carried out by investment banks. With no inventory to play with, these institutions have no vested interests in prices going up so when the casino traders (as St Vince likes to call them) “bet” on the market, they are just as likely to wager on prices falling (“going short”), as they are to be betting on prices going up (“going long”). Furthermore, it is entirely logical to say that the likes of BP and Shell will actually sometimes benefit from these price falls, as a result of their refining capacity. The majors all have greater demand for diesel than petrol in Europe, but cannot produce enough diesel to meet that demand. So they end up selling large volumes of petrol to the USA (thus not directly affecting European consumer prices anyway), whilst having to buy their diesel from Russian importers. It would be a strange world indeed if BP and Shell were manipulating prices upwards, just so they could pay more money to the Russians!
So when the raids and investigations are complete, the general public will be no more satisfied than they are now. Expectations will have been raised, but the price of fuel will remain at 50ppl, Government duty at 60ppl and VAT at 20ppl. Sure, if the EU Commissioners look hard enough, they may find examples of oil traders doing each other over, but our guess is that there will be little that is systematic about their behaviour and the price movements will likely not be of a scale that is material to the consumer. In addition, prices will have just as likely been pushed downwards as upwards and the investigators should also conclude that the crude oil market only indirectly relates to the price of refined petrol and diesel.
Footnote
In January 2016, the European Commission confirmed that they had dropped their investigation into the potential manipulation of oil price benchmarks and signalled that oil trading firms would not face any fines (should have talked to us). There will however be an ongoing investigation into possible (bio) ethanol price manipulation.
