How One Bad Oil Bet Sparked A Global Trading Disaster

By now we are all keenly aware of the near-devastating impact that the novel coronavirus has had on oil markets and the fossil fuel industry around the world. (If this is news to you, what rock do you live under and is there room for one more?) But while a lot of the narrative here in the West has been about the historic oil price crash in what some are now referring to as Black April, the oil trading catastrophe actually started much earlier and can largely be traced back to the bad bet of just one man, Singapore’s commodities tycoon Lim Oon Kuin. 

The story of the oil market instability that ripped through Asia starting in China is not so much one of struggling oil companies, but a story of banking – that unsexy, behind-the-scenes sector that all too often gets none of the headlines and all of the control. It started way back in January, when most of us were just starting to gain some awareness of a strange and scary illness devastating the Chinese city of Wuhan.

Lim Oon Kuin, sitting in his office 2,000 miles away in SIngapore, watched as this news unfolded and made a decision. He decided that China would gain control of this epidemic before it turned into a pandemic and began stockpiling fuel, quietly adding to his already vast reserves. It should come as no surprise that that bet didn’t work out. 

As the coronavirus spread around the world and tanked global crude demand, as well as oil prices, a chain reaction of defaulted loans, was set off in Singapore that is still reverberating in global markets today.

“Banks tried to recover loans from Lim’s company, Hin Leong Trading Pte, triggering one of the biggest scandals in the oil industry this century,” Bloomberg reported about the bad deal that has left a permanent mark on oil trading.

“Lim’s empire collapsed, owing $3.5 billion to 23 banks, and the fallout from the debacle is still reverberating into 2021, shaking out large tracts of the vast and often opaque $4 trillion global oil-trading industry.”

While this may sound like an outright, unmitigated disaster, as with most financial meltdowns, there are winners as well as losers here.

The losers, as always, are the little guys:

“hundreds of small trading firms, many of them employing only a handful of people, who will find it expensive, if not impossible, to meet the increased demands for information from banks that have become wary of lending them money.”

This is to say that the big guys like Trafigura Group and Vitol SA will be gaining business lost by their small competitors, shoring up their oligopoly on trading. They not only benefit from increased confidence from finance companies who have become increasingly risk averse in this environment, they also have the capital to adapt to increased operational costs.

And, as usual, less developed countries will bear the brunt of the economic fallout from this sea change. As banks become more risk averse, re-prioritize their business models, and scale down, it’s going to impact small companies in small economies the most just while they are struggling with all of the other economic hardships related to this pandemic. In this case, the big banks truly were too big to fail. The same can’t be said for the little guys.

This is true, of course, for many market sectors, not just commodities trading. Across the world we’re seeing a sweeping consolidation as big companies are able to weather the financial storm of the COVID-19 pandemic and the little ones are folding. Look no further than the main street of your own town: as mom and pop restaurants struggle to make a sale, lines are down the block at the McDonald’s drive thru. As local shops shut down, Amazon becomes ever more of the globalized goliath it already was. 

More than anything, however, the story of Lim Oon Kuin and his bad oil bet is an object lesson in the butterfly effect and outsized might of the all-too opaque trading sector. His will never be a household name, but the impact of his oil gamble will continue to be felt around the world for years to come.

By: Tyler Durden

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The U.S. Oil ETF, USO, Is The Culprit Behind Oil’s Massive Plunge

Watching the May contract for oil futures this morning, I was shocked at the amount of coverage given to “oil’s plunge” Monday morning.  That may be because I watch the May 2021 WTI futures contract, which has fallen $0.18 per barrel to $35.34 in early Monday trading, not the May 2020 contract which has fallen an astounding $7.42 (more than 40%) to $10.84 per barrel and drawn all the headlines.

The culprit here is obvious.  The United States Oil ETF, USO.

According to Bloomberg, USO owned 25% of the outstanding volume of May WTI oil futures contracts as of last week.  With that contract set to expire Tuesday, the buyers of that “paper oil” have to sell or take physical delivery at the end of May. ETFs like USO are not created to take physical delivery of the oil contracts they hold, so in a long squeeze, the fund’s managers—USO’s general partner/sponsor is U.S. Commodity Funds, LLC (USCF) and, according to an 8-K filed on March 30th, the administration of USO will transition from Brown Brothers Harriman to Bank of New York Mellon, although it is unclear whether that change has been fully implemented—have to dump oil.

Regardless of who is doing the selling, front-month futures prices have dropped more than 40% today.  The June contract has also fallen, to be sure, but by a much lower degree (it is now down $2.37/barrel to $22.36.) That decline might be expected in the throes of the worst pandemic to have hit planet Earth in the past 100 years. There is no economic outcome that could possibly justify single-digit prices for oil, though, and USO‘s implosion has put the benchmark WTI crude oil futures contract on the precipice of that benchmark today.

So, as I noted about the now-defunct XIV, ETF in this Forbes column, USO works until it doesn’t work.  Today it is clearly not working.

The solution here is for USO’s fund administrators to dissolve it, as happened with XIV.  Those administrators made a minute change in the fund’s composition last week—shifting holdings to the second- and third-month contracts instead of fully rolling over from the front-month contract to the second-month contract two weeks prior to expiration——but that was merely the proverbial shifting of the deck chairs on the Titanic.  USO has outlived its usefulness, if it ever had any.

The sad thing about the trend toward ETFs is the human economic toll that can be caused by exaggerated price swings.  The U.S. oil rig count fell by 11%—the largest weekly decrease in recent memory—in last week’s Baker Hughes BHI count. None of my oilpatch contacts is telling me this morning that this is the bottom, either.  Roughnecks and rig workers are losing their jobs so that USCF, Bank of New York, and the fund’s distributor, ALPS, can earn their fees on USO.

How does this end?  Well, COVID-19 has brought to the fore economic possibilities that would have seemed outrageous six months ago. In my other writing platforms I have mentioned the possibility that the Fed could start buying USO.  As the Fed’s current buying remit includes bond ETFs, LQD (high-grade) and HYG (high-yield,) I see no barrier to the Fed buying another ETF.

Aside from even more government overreach, though, the solution to low oil prices is, as they say in Houston, low oil prices.  As marginal U.S oil production drops to zero and production curtailments by OPEC+ hit the markets, oil will once again become a scarce good as global economies begin to recover from COVID-19 lockdowns in the second half of 2020.  Companies that store oil on a temporary basis are thus the huge winners here.

As I have noted in prior Forbes columns, my firm, Excelsior Capital Partners, has enormous proportional exposure to the oil tanker industry via holdings in Nordic American Tankers, Navios Maritime Acquisition and Tsakos Energy Partners.

There will be a day when arbitrageurs look at the act of renting a VLCC oil tanker solely to serve as an oversized storage closet as an act of folly.  Thanks to USO and the enormous amount of contango (intermediate-term contracts are worth much more than near-term ones) in the oil futures curve caused by the implosion of USO, today is not that day.

Tomorrow sees a new day for oil traders as the May WTI futures contract expires.  Anyone who thinks that today’s plunge in the price of the front-month oil futures contract can’t happen again is solely misleading herself, though.  So, I will keep owning companies that have scarce products (oil tankers) that offer energy traders the optionality to play the extreme distortions in the commodities futures curve caused by ETFs like USO.

Follow me on Twitter or LinkedIn. Check out my website.

I have researched stocks for 27 years, starting fresh out of college at Lehman Brothers and then moving to Donaldson, Lufkin and Jenrette. At DLJ I was a Senior Analyst following US auto parts companies before relocating to London to originate DLJ’s European Automotive coverage and then moving to UBS. I had a decade of sell-side experience, attaining the CFA designation. After years of growing my own portfolio, I founded Portfolio Guru LLC three years ago. I construct portfolios for my clients on a fee-only, separately-managed basis and write about small stocks in my newsletter, MicroCap Guru. My work is also featured on Real Money, the premium portal of TheStreet.com. The Sanskrit root of “Guru” combines “dispel” and “darkness.” I invest solely for individuals, and for them I try to dispel the darkness that emanates from Wall Street. My friends enjoy poking fun at my nom de stock, and when I am not Guru-ing, I enjoy spending time with them, outdoor activities, and sampling NYC. I can be reached at jim@excap.biz

Source: The U.S. Oil ETF, USO, Is The Culprit Behind Oil’s Massive Plunge

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CNBC’s Bob Pisani breaks down the action in the oil exchange-trade funds. Something that’s never happened in the oil market is happening today: Negative prices for oil contracts. While many people may see this and think the overall price of oil is negative, there’s nuance. The short answer is that no, not all oil is free. The picture in the market is not as bleak as this eye-popping headline would suggest. Futures contracts are tied to a specific delivery date. Toward the end of a contract’s expiration date, the price typically converges with the physical price of oil as the final buyers of these contracts are entities like refineries or airlines that are going to take actual physical delivery of the oil.
Futures contracts ultimately are contracts for physical delivery of the underlying commodity or security. While some people in the market speculate on the contracts, others are buying and selling because they have use for the commodity itself. Near the contract’s expiration, traders just start buying the next month’s futures contract. Those who stay in the position to the final day are typically buying the physical commodity, such as a refiner. The contract that fell more than 100% on Monday is for May delivery, and it expires on Tuesday.
With the coronavirus pandemic leading to unprecedented demand loss, and with storage tanks quickly filling up, there is no demand for this oil contract expiring Tuesday. That’s why it turned negative, meaning producers would pay to get this oil off their hands because there is no one that needs that oil this week with the country shutdown. Futures contracts trade by the month. The contract for June delivery traded 16% lower at $21.04 per barrel. So after that contract expires on Tuesday, oil will be back above $20. The U.S. Oil Fund, which tracks the price of various futures on oil, fell just 10%. Trading volume was also relatively thin in the May contract.
According to data from the CME Group, volume stood at roughly 126,400. By comparison volume for the June contract was nearly 800,000. Again Capital’s John Kilduff attributed the plunge in the May contract to the fact that “the physical oil market conditions are a disaster, with growing concerns about finding available storage.” Longer-term, he said the picture looks brighter. “The higher priced, longer-dated futures contracts are indicative that of the market expecting some level of clearing in the cash market over the course of the next several months,” he told CNBC. “Given the rapid decline in the U.S. oil rig count and the expected cutback by OPEC+ members that is a reasonable assumption.” That said, he noted that as the subsequent contracts reach expiration, they could engage in their own “death march down towards the super-low cash prices.” For access to live and exclusive video from CNBC subscribe to CNBC PRO: https://cnb.cx/2JdMwO7 » Subscribe to CNBC TV: https://cnb.cx/SubscribeCNBCtelevision » Subscribe to CNBC: https://cnb.cx/SubscribeCNBC » Subscribe to CNBC Classic: https://cnb.cx/SubscribeCNBCclassic Turn to CNBC TV for the latest stock market news and analysis. From market futures to live price updates CNBC is the leader in business news worldwide. Connect with CNBC News Online Get the latest news: http://www.cnbc.com/ Follow CNBC on LinkedIn: https://cnb.cx/LinkedInCNBC Follow CNBC News on Facebook: https://cnb.cx/LikeCNBC Follow CNBC News on Twitter: https://cnb.cx/FollowCNBC Follow CNBC News on Instagram: https://cnb.cx/InstagramCNBC #CNBC #CNBC TV

A New Dutch Disease? The Netherlands Ranks Most Competitive, Least Sustainable

As recent numbers show, the Netherlands ranks very high in international rankings on innovation and competitiveness. It ranks fourth in the 2019 editions of both the Global Innovation Index and the Global Competitiveness Index, making it Europe’s most competitive economy. At the same time, its energy usage is least sustainable of all countries in Europe and its air is one of most polluted in Europe too. What is going on? Do we have a new “Dutch Disease?”

The old Dutch Disease

The term “Dutch Disease” was coined by The Economist in 1977. As they explain in a 2014 article, it refers to a situation in which discoveries of large amounts of natural resources could be harmful to the economy in the long-term. At that time, it referred to the discovery of significant amounts of natural gas in the Dutch part of the North Sea and a resulting economic decline.

There are at least three explanations for this paradoxical economic decline. First, it results from changes in currency exchange rates following a large inflow of foreign currency, leading to a worse competitive position, reduced export and increased unemployment. Second, the discovery of significant natural resources can disturb the national economy. The income generated with the natural resources can lead to an increased demand for luxury goods and services, triggering workers to go there and leave other sectors like manufacturing. Third, the discovery of natural resources also can trigger governments to overspend on social security and other public means, which are counterproductive and untenable in the long run (see also this article for a good explanation of the original Dutch Disease).

A New Dutch Disease?

The current situation in the Netherlands is obviously very different than in 1977. There are no new discoveries of natural resources and there is no economic decline. On the contrary, as the rankings referred to above indicate, the Dutch economy is doing very well. And with respect to natural resources: due to increasing earth quakes caused by the extraction of natural gas, the Dutch usable gas reserve actually quickly decreases as well as the political and public support for further extraction.

But nevertheless, the extreme opposing rankings in terms of economy (top) and sustainability (bottom) are indicating something is going on in the Netherlands that is not quite right. Hence, the question: is there a New Dutch Disease?

On the surface there are two simple explanations for the contrasting rankings. The first is that the high rankings on innovation and competition are a direct result of efficient use of available natural resources rather than spending expensive money on alternative energies and clean air. Seen as such, it is simply old school smart business. The second explanation is that every Euro can only be spent once: either in the economy or elsewhere, such as in reducing a country’s climate impact. Seen from that perspective, it is not more than logical that the Netherlands’ high scores on economy are accompanied by low scores on sustainability—they simply reflect the priorities set by the Dutch government.

But such trade-off thinking is too simple. It suggests improved sustainability and economic prosperity are opposite goals and cannot be improved at the same time. Countries like Sweden and Finland show this is just not true. These countries rank 2nd and 6th in the Global Innovation Index, 8th and 11th in the Global Competitiveness Index and 1st and 2nd in Europe in terms of use of renewable energy. This means that the two can go hand in hand very well indeed.

A third simple explanation of why this is not possible in the Netherlands can be given. It is a small and densely populated country, making it much harder than Sweden and Finland to use alternative sources of energy and keep the air clean—there simply is too little space for solar panels and windmills and with more people and cars per square kilometer, the air gets polluted quicker.

Like the first two explanations above, there is of course an element of truth in this third explanation too. Yet, it is not entirely convincing and together they don’t explain well enough what is going on. There is one important—mental—element missing: comfort, or lack of willingness to change.

From an economic point of view, the situation in the Netherlands is comfortable. The economy is doing well, all resources that are needed are available or can be bought elsewhere and there is no direct danger or urgency requiring change. This has made my country, in Pink Floyd’s terms comfortably numb.You can also call it lazy.

In this sense, this “new” Dutch Disease is not so different from the “old” Dutch Disease. Even though the mechanisms for economic decline in the Dutch Disease work via currency exchange rates, export, shifts in employment between sectors and so on, the real issue in the 1970s was the same as today: because of a short-term comfortable position, choices are made that harm the country on the long-term.

Being Dutch and living in the Netherlands, I prefer to be proud of my country. Along those lines, I’ve written about beautiful companies such as Coolblue, Tony’s Chocolonely, Fairphone and KLM. However, in this case I feel embarrassed to be Dutch. Especially about living in the country with the lowest share of renewable energy in Europe. With such great innovation power and such great competitive position, it should be easy to climb up the sustainability ladder in a fast pace. So, it is time to get out of the comfort zone. Or, I would almost say, let’s make the Netherlands great again.

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I am a strategy consultant, trainer, writer and speaker. As strategy professor and consultant I help leaders and organizations across the globe deal with the strategic challenges they face in an uncertain, complex, and fast-changing world. My drive is to bring strategy to the next level with new and effective approaches and tools. Along that line, I wrote the two-volume “The Strategy Handbook”—a practical and refreshing guide for making strategy work and “No More Bananas”—a nine-step approach for keeping your cool in today’s madness. You can reach out to me via jeroenkraaijenbrink.com, LinkedIn or jk@kraaijenbrink.com.

Source: A New Dutch Disease? The Netherlands Ranks Most Competitive, Least Sustainable

The explanation for why some countries with natural resources see their economies weaken and jobs disappear.

 

Private Sector GDP Growth is Kind of Anemic

Today’s GDP report got me curious about something: how does private sector GDP compare to total GDP? That is, if you pull out government contributions to GDP growth, what does purely private-sector growth look like? Here it is:

Private sector growth has been declining since the start of the expansion, and that decline has picked up speed over the past two years. It’s no wonder President Trump was so eager to agree to sizeable increases in the federal budget this week. He knows perfectly well that his tax cut has worn off and he needs all the help he can get from government spending to prop up an increasingly anemic private sector. For the next year, anyway.

Personal consumption was up a healthy 4.3 percent, but business investment plummeted -5.5 percent. Exports were down and imports were flat. Federal government spending added more than usual to GDP by about 0.4 percentage points. State government spending was also higher than average, by about 0.2 percentage points. If government spending had been at normal levels, GDP would have increased 1.5 percent instead of 2.1 percent. Inflation was higher than last quarter.

Overall, this is an OK but not great GDP report for the private sector, saved only by higher government spending.

The most remarkable thing about Donald Trump is how eerily stable his approval rating is. Here is 538’s chart over the past year:

After the Republican tax cut passed in late 2017, Trump’s approval rating rose to 41 percent and it’s stayed within two points of that ever since. I don’t know if this is good or bad—bad for Trump, I suppose, since that’s a tough re-elect number—or if there’s much Trump can do to improve it. But it’s definitely unusual. It sure looks like nearly everyone has their mind made up about Trump and isn’t likely to change it.

 

Source: Private sector GDP growth is kind of anemic

What Oil at $100 a Barrel Would Mean for the Global Economy – Enda Curran & Michelle Jamrisko

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Rising oil prices are prompting forecasts of a return to $100 a barrel for the first time since 2014, creating both winners and losers in the world economy. Exporters of the fuel would enjoy bumper returns, giving a fillip to companies and government coffers. By contrast, consuming nations would bear the cost at the pump, potentially fanning inflation and hurting demand. The good news is that Bloomberg Economics found that oil at $100 would mean less for global growth in 2018 than it did after the 2011 spike. That’s partly because economies are less reliant on energy and because the shale revolution…..

Read more: https://www.bloomberg.com/news/articles/2018-09-30/what-oil-at-100-a-barrel-would-mean-for-the-world-economy

 

 

 

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