Commodity traders prospered during the pandemic using their global network of terminals, storage facilities and shipping fleets to cash in on supply disruptions and rising demand.
Vitol generated record net income of more than $4bn last year, according to people who have seen the results of the world’s biggest independent oil trader, with rival Mercuria making $1.25bn. Trafigura also enjoyed record numbers, as did Glencore’s trading arm.
The big question now is whether the industry can repeat the trick and capitalise on the market chaos unleashed by the war in Ukraine.
That will not be straightforward. While the hard-hitting sanctions imposed on Russia have created lucrative arbitrage opportunities and a reordering of global trade flows, a liquidity squeeze makes it difficult to take advantage of them.
As the price of commodities from crude and gas to copper and corn has surged, traders have faced huge margin calls — or demands for cash — to cover hedges taken out for future sales. That has forced some to reduce activity and others to seek back-up funding to protect themselves against another bout of market turbulence.
“Everyone in this room has been working towards adjusting their liquidity, their financial solutions, but also adapting the size of their business in view of commodity pries,” Muriel Schwab, chief financial officer of Gunvor, told the FT Commodities Global Summit in Lausanne last month.
To keep commodities moving around the world, commodity traders depend not only on complex logistics networks but also on access to financial markets, which help them manage price risk and volatility. To do this they take short positions on futures exchanges such as ICE Futures Europe and Germany’s EEX to hedge deals to supply commodities.
As commodity prices have grown less stable in the wake of Russia’s invasion of Ukraine, the margin, or cash, they must deposit against these positions has risen to dizzying levels.
These calls have not changed the economics of the original transaction, as the margin is returned when the commodities are delivered. But in the interim the working capital requirements can place huge strains on traders’ finances, especially for those without access to large credit lines.
Vitol chief executive Russell Hardy said the working capital requirement to hedge and move an energy cargo from the US to Europe was “enormous” with the initial margin to trade one megawatt of gas hitting €80. On top of that, companies had to plan for price swings and further cash calls. Wholesale European gas prices were €108 per MWh on Friday.
“There’s a general concern across the marketplace that we’re losing participation,” he said.
Top industry executives have been lobbying policymakers for help in dealing with the cash crunch, warning that the strains could have an impact on the already disrupted flow of crucial commodities around the world.
Immediate support has not been forthcoming but policymakers are monitoring the situation to ensure that, in the words of Bank of England governor Andrew Bailey, the “step change in the cost and risk doesn’t cause a market failure”.
To cope with increased margin requirements and market volatility, some trading houses have put in place additional credit lines. Trafigura locked in $2.3bn from trade finance banks this month, while Mercuria secured a six month $2bn facility.
“We expect the banks to continue to fund the firms’ margin calls because the liquidity pressure, although serious, should be temporary and commodity traders are a good source of profit for the banks in normal times,” rating agency Fitch wrote in a report last week.
Other companies have scaled back their activities to conserve cash. The impact of these decisions is already being felt in the physical market, where refiners are receiving fewer offers in crude oil tenders. In one recent example, Uruguay’s state oil company received just four offers in a recent tender, compared with the usual 15.
Commodity bankers say these trends are playing into the hands of the bigger players such as Trafigura, Glencore and Vitol, which are better able to handle market volatility because of their scale.
Trafigura CEO Jeremy Weir said 2022 “has potential to be a significant year again”, forecasting “slightly higher gross margins this year”.
Christophe Salmon, the company’s chief financial officer, reckons the surge in capital needed to keep commodities flowing around the world since Russia invaded Ukraine will squeeze smaller trading houses out of the market.
“When we go through these crises — and let’s not forget we’re getting out of two-and-a-half years of Covid situation — there will be another set of consolidation of the commodity trading sector,” he said.
Against this backdrop commodity traders are also looking at how they can tap new sources of funding so they can continue to expand their business.
“For us to go and really, shall I say, exploit the potential of the company, it would be desirable to explore additional equity,” Gunvor’s co-founder and majority shareholder Torbjorn Tornqvist told the FT summit. “We are open to find an alliance which could increase the size of the company.”
With stocks of most commodities at low levels because of supply disruptions, bankers and analysts reckon the big commodity trading houses should deliver a strong 2022 as long as demand remains strong and soaring energy prices do not tip Europe into recession. Mercuria CEO Marco Dunand told the summit the region and Russia would be the “big losers” from the current crisis.
“There is a lot of discussion about regional recessions, maybe even with global implications. That might reduce traded volumes,” said Roland Rechtsteiner, a partner at Oliver Wyman and co-author of an annual report on the commodity trading industry.
Another round of huge margin calls could also test the appetite of the banks to keep lending to the sector, while there is a risk of counterparty default if markets remain volatile.
“We had believed that Glencore’s marketing earnings for 2022 could possibly exceed last year’s record of $3.7bn,” Christopher LaFemina, analyst at Jefferies, wrote in a recent report. “But we now believe it is more likely to be closer to the top end of the . . . guidance range of $2.2bn-$3.2bn as a result of higher margin requirements and tighter risk management.”
On Russia, the big traders admit they are still loading crude produced by companies including Rosneft, saying they are legally obliged to fulfil existing trading contracts. Russian oil has not yet been sanctioned in Europe although the US and UK have announced embargoes.
However, because of “self-sanctioning” by western consumers, it is becoming increasingly difficult to find buyers even when steep discounts are offered. Asked who was buying Russian crude, Hardy said: “That’s the $64,000 question for the next couple of months.”
Rechtsteiner estimates the sector’s gross trading margins — the amount made on trades before deducting costs such as tax, salaries and bonuses — hit an all-time high of about $61bn last year.
While there are risks including higher financing costs and defaults by trading counterparties, he sees another good year ahead as the war in Ukraine forces a realignment of the production, distribution and consumption of commodities globally.
“The beginning of 2022 has given us plenty of reasons to suspect the disruption is here to stay,” he said, “which would suggest an interesting year ahead for the commodity trading industry.”
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