Oil Price Manipulation

Brian Hicks

Written By Brian Hicks

Posted May 16, 2013

Allegations of financial corruption persist in the oil market.

Statoil ASA (NYSE: STO), Royal Dutch Shell (NYSE: RDS-A), and BP plc (NYSE: BP) have all been implicated by the European Commission for a violation of Europe’s antitrust laws. The companies are accused of colluding and manipulating prices with data reporting company Platts, owned by McGraw Hill Financial Inc.

oil price riseThe offices of these companies were raided on Tuesday in an unannounced inspection. Platts is also accused of disallowing participants to enter their trading data. EC officials charge that such activity has been ongoing for over a decade.

Companies under investigation are in full cooperation with authorities, and the probe could uncover more companies or dubious activity.

If companies are uncooperative in the future, they stand the risk of being barred from divulging prices to exchanges.

The type of commodity under investigation relates to oil and other biofuel products, but no further information was given on any specific contracts.

The entire area in question pertains to Platts’ window trading process, otherwise known as Market-On-Close analysis. Platts has been determining market prices for energy commodities based on the number of trades at the end of each day.

Critics are concerned that companies could push a glut of last-minute trades at days’ end to manipulate the market. All information is non-compulsory, and data can come from just about any source: traders, energy and utility companies or airliners. There is a fear that traders and companies could choose to give only favorable data.

It is a serious accusation, considering that Platts handles up to 95 percent of crude trading and 90 percent of petroleum-related products, Bloomberg News reports.

Data compiled by Platts is also used as a price standard for wholesale prices by petroleum retailers.

With an MOC system, it is easier for companies to manipulate data in order to sell their commodities for a higher price on the market.

These assessments cover short and long term contracts, derivatives, and futures.

MOC also affects raw materials used in the chemical and manufacturing industries. Other energy commodities are also part of the trading: LNG, coal, diesel fuel, etc.

Many contend that the MOC system relies too much on selective reporting, with little oversight or accountability.

And it can be a problem for the energy market because Dated Brent contracts rely on such data from traders.

Crude from the Oseberg, Ekofisk, Forties, and Brent fields of the North Sea used to make up the Dated Brent benchmark. Since oil production has been dwindling in that region, many are concerned that Dated Brent contracts would be vulnerable to price-fixing so companies and traders invested in the North Sea would gain a more favorable outcome on the trading markets.

Consequences of Price-Fixing

Some analysts were shocked by the news; others were less surprised, since many consider OPEC an open cartel within the energy world.

The MOC system has energy companies concerned that their price disclosures could open them up to legal action from antitrust regulators. The publicity surrounding this allegation will be ushered into the spotlight more than usual since three big-name energy companies are associated with the investigation.

But the latest probe is part of a larger narrative.

There has been an increase of financial wrongdoing regarding price manipulation in the last few years. Last year, there was the Libor scandal, where it was discovered that London bankers were fraudulently manipulating interest rates to profit from trading.

And there was the ISDAfix scandal – when U.S. regulators accused brokers of intentionally fixing prices on the benchmark interest rate swaps market.

The only thing saving the energy market from being sucked into the endless black hole of derivatives and credit default swaps is the fact that traders are dealing with physical commodities of intrinsic value.

But traders of all strides should be aware of market cheating, since one end of the financial spectrum can affect another, causing a domino effect.

Warren Buffet once described derivatives as “financial weapons of mass destruction.”

There have been inquiries into financial fraud, but regulators around the world have failed to come up with enough evidence.

The world financial system is tied together like never before, and the slightest lie or fudging of data can have vast consequences on the energy industry and economies across the world. It can affect energy markets, investor confidence, shipping and transportation, manufacturing, and even food prices.

We’ve already seen the rise of food prices because companies have had to compensate for higher transportation costs from fuel sources like diesel, which is why milk and other things you see at the store have had their prices creeping up over the years.

While we may casually pay a few extra cents for a gallon of milk in the West, a spike in food prices can lead to mass starvation in parts of the developing world.

Some would say price manipulation in the trading markets rarely has consequences on people who pump gas into their cars, but since petrol retailers base their purchases on wholesale prices, higher costs could easily be passed onto consumers at the pump.

And commercialized fuel prices always rise a few weeks after crude.

It will be hard to prove any wrongdoing since these types of violations rarely leave a paper trail or any form of hard evidence.

The larger Brent crude benchmark may also be somewhat tainted from the latest scandal, but since Brent has become the new worldwide standard, don’t expect it to decline anytime soon.

So how are oil prices faring?

All seems quiet, despite the troubling news.

After hours on Wednesday, Brent crude hit $102.60, with WTI crude closing in at $94.28 – an eight percent spread. This is a departure from the traditional spread of 12 percent or more between the benchmarks.

This mostly stems from higher U.S. production and exports abroad, particularly to Canada, forcing Brent to come down in the price realm. When it comes to comparison between the two benchmarks, North Sea crude cannot compete against the lighter and sweeter variety that the United States offers.

The recent market conditions give no indication that the markets are being manipulated; however, the rise of Brent crude oil to $111.89 a couple months ago did have many analysts surprised.

But there were unusual circumstances going on in OPEC-member nations around the time of the price increase, including the death of Hugo Chavez in Venezuela, a devastating earthquake in Iran, and other factors.

But crude prices have risen significantly in the last few years, and some critics of commodity trading rules would say this has a direct link to rampant manipulation of the markets.

What Can Investors Do?

Sadly, the BP-Shell-Statoil-Platts investigation will not be the last one in the trading world.

No one knows exactly what will become of the probe, but it is likely that tough regulations on the European markets will be imposed in the future.

If the allegation holds true, and price manipulation has been going on for nearly a decade, then the damage has already been done, and there’s not much investors, traders, or retailers can do.

But what are the solutions?

It is tough to say, but the only real way to combat the problem would be to change the way data is reported.

As a trader or investor, the best way to determine if something fishy is going in the market is to assess economic realities and the geopolitical sphere to see if prices are matching market conditions.

There are ways to address the issue, but participants in the exchange market for energy commodities will have to remain vigilant and keep their eyes and ears open for anything out of the ordinary.


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