The Backwards Robin Hood Effect in Crude Oil Trading

You have heard of Goldman Sachs (GS) but may not know that it is the owner of the biggest casino in the world through its commodities-trading subsidiary J. Aron and Company. No, it does not own an actual casino but it is merely the stomping grounds for high dollar bettors in the world of commodities.

There are no slot machines or other gaming devices anywhere around its sumptuous offices at 85 Broad Street in New York before you start planning to make reservations to fly in on your private plane, be met by a private limousine with a chauffeur, check into your luxury suite and hit the tables. Better yet, it is set up and is connected to every major commodities exchange around the world.

For some background on this subject, the Commodities Futures Trading Commission in the U.S. has established speculative position limits on trading contracts. These limits are intended to prevent market imbalances that would result in failures for the ultimate settlement of the futures contracts.

J. Aron & Company is exempt from those limits under the Commodity Exchange Act. The reason behind the CFTC decision was that U.S. investment brokers could otherwise do their trades on other world commodity exchanges without any volume restrictions, thereby preventing the New York Mercantile Exchange from gaining its rightful share of the action. They are the world's largest physical commodity futures exchange and want to keep it that way.

However, that exemption became a license to rob from the poor and give to the rich with Goldman Sachs becoming the owner of the world’s biggest commodities betting parlor, taking its share from the top no matter whether the prices of crude oil went up or down. The Goldman Sachs Commodity Index tracks the prices of 25 major commodities and is weighted heavily toward crude oil.

Index speculators, who are mostly “long” bettors, seldom take short positions and thereby are betting on prices to rise, but they eventually spiral back down. This instability forces prices for crude oil up at times for no other reason than too many paper barrels are chasing the “wet” physical barrels. The balloon eventually bursts when the real value of the crude oil barrel kicks in. That cost is equivalent to the cost of getting crude oil out of the ground and shipping it to the refineries.

In order to break up this monopoly, the CFTC will have to eliminate the exemption from the limits on those trades. Just recently, some examples of gross violations happened when PVM Oil Futures, trading on the London Intercontinental Exchange (ICE) in Brent crude oil contracts, caused the global crude oil prices to spike to its highest level in eight months last week Tuesday.

PVM, which is the London-based division of the world’s biggest broker of over-the-counter derivatives, eventually lost almost $10 million in those early morning trades on Tuesday.

Steve Perkins, a senior and long-standing trader, apparently unhappy with his first-half year bonus, brokered those contracts and has now been suspended from his post by PVM. It is a privately held company owned by its employees with offices in Vienna, Singapore, New Jersey and Houston.

Mr. Perkins’ actions were hard to explain at the time by traders on the ICE and other commodity exchanges. He could have done it by intercepting the exchange confirmations thereby hiding the open position or the trades were simply booked as hedges where no corresponding physical position actually existed.

Any disciplinary action by the United Kingdom’s Financial Service Authority regulators, the equivalent to the CFTC in the U.S., against PVM and Mr. Perkins will be too little too late. Steve Perkins will eventually be found not “fit and proper” to work in London and banned from trading. But catching him now is too little and too late after the horse has already escaped the barn.

In May 2009, the FSA had taken its third regulatory action against Morgan Stanley (MS) this year when it fined Nilesh Shroff, an executive director at the firm, who deliberately disadvantaged clients while conducting their trades. He had traded for the firm’s benefit before making the requested trades from his clients. In addition to a £140,000 fine, Mr. Shroff was banned by the regulators from trading. He was the third Morgan Stanley trader to be fined this year with Morgan Stanley having to paying substantial fines for the other two violations.

What may be good for investors is terrible for the ordinary Joe and Jill trying to fill up their fuel tank at the local gas station while looking for some stability in prices.

Alas, what cannot be cured must be endured.

Disclosure: The writer has no investments in any stocks or commodities. Any views expressed in this newsletter are those of the writer, except where the writer specifically states them to be the views of the 4Refuel group of companies.

Comments

[Ryu Mei Co:]

I heard of the rouge PVM trader on Sunday morning and as expected the Oil price went down on Monday morning in Japan.

A few weeks ago I heard an analyst who said the Oil price should/must go above $85 when Oil was approaching $70. Who is that analyst? He is from Goldman Sach.

This is wrong and in a way "Cheating", and many of us are not enjoying this kind of manipulation. Moreover, I cannot believe the market rally on rising oil price. How can the market be happy when the gasoline price is pricy at the gasoline stand? This is a crazy market, and the crazier the market is, I am afraid the faster and deeper the market is going to fall. Good luck.

Jul 06 09:01 PM

[G. L. Turner:]

Live it to Gov sachs and its band of brothers to hose the rest of us and often and as deeply as they can. They are making so much money with ignoring the rules that they don't care if they get fined. They just pay it a s a 'cost of doing business', book it , and move on...

If OBAMA doesn't carry through quickly and clean this regulatory lameness up, our recession will never get cured for these greedy pariah suck what little blood starts to flow, before the rest of us have a chance to energized.

Any good info like this article needs to be sent to Tysum Slocum at Public Citizens . org, who will help get it into the hands of key Senators.

GT

Jul 06 10:29 PM

[derryl:]

"Woe to those who add house to house and field to field until they live alone in the land.", said Isaiah. The financial oligarchy is stealing the world and will not be satisfied until they own it all.

Jul 07 01:11 AM

[ChrisJCook:]

Bob

I think you'll find that you share a general misconception that NYMEX WTI is particularly relevant these days to the way the market is being screwed. The futures market has very little to do with it IMHO.

My suspicion is that the big boys, particularly the likes of BP and Goldman (probably in collaboration) are able to manipulate the underlying Brent/BFOE (= Brent, Forties, Oseberg, Ekofisk), forward contracts because there are only about a max of 70 cargoes (each of 600,000 barrels) per month of BFOE loaded these days. That's only about $3bn per month at current prices.

It is the price of the "dated" physical BFOE contracts to which these give rise which actually sets the global price of crude. The ICE BFOE contract is cash settled against the prices reported in the forward markets and then WTI follows BFOE via massive arbitrage trading.

So WTI is the tail, not the dog.

I gave evidence to this effect to the UK parliament's Treasury Select Committee last year. As a matter of interest I was interviewed in London by a couple of people working for Senator Levin about 10 years ago when he was looking into the Brent market, but the senate changed hands at the crucial moment....

What is going on IMHO is that Goldman's GSCI fund is essentially lending money - via J Aron - to BP to keep the BFOE price artificially high. It's pretty similar to the way that the International Tin Council used to buy in stocks of tin to keep the price supported. Until the money ran out and the market crashed in 1985 that is.

My thesis is that BP and Goldman have been "friends" since the early 90s and have routinely jerked the market around for years, profiting at the expense of end user hedgers from the excessive volatility and superior market knowledge. I blew the whistle (I was until 96 director of compliance at IPE) on the systemic manipulation going on with the IPE Brent contract and associated market in 2000, and lost everything I had as a result, although I think people now realise that I had the truth of it.

That's why the current people rose to the top in Goldman, and also where BP also made a great deal of money, fairly opaquely. Just look at who was on whose boards etc

From around 2002/3 that game changed as hedge funds became too big in the market, and they then made their money from prime brokerage and superior knowledge of positions etc.

Now the game is pillaging ETFs and the hedgies still left, and also using ETF etc money to lean on, backed by a never ending stream of market hype and over reaction to news.

Not forgetting "Date Rape" of course....

eg www.gata.org/node/4787

Still, I might be wrong and it's all kosher and above board....

Jul 07 01:55 PM

[kcr357:]

Unfortunately, there seems to be a mindset certain individuals have in which they believe they have god given right to make money hand over fist no matter the circumstance, and oil seems the only way to accomplish that in the present. Too bad the ramifications of this are hurting the entire country.


On Jul 06 09:01 PM Ryu Mei Co wrote:

> I heard of the rouge PVM trader on Sunday morning and as expected
> the Oil price went down on Monday morning in Japan.
>
> A few weeks ago I heard an analyst who said the Oil price should/must
> go above $85 when Oil was approaching $70. Who is that analyst? He
> is from Goldman Sach.
>
> This is wrong and in a way "Cheating", and many of us are not enjoying
> this kind of manipulation. Moreover, I cannot believe the market
> rally on rising oil price. How can the market be happy when the gasoline
> price is pricy at the gasoline stand? This is a crazy market, and
> the crazier the market is, I am afraid the faster and deeper the
> market is going to fall. Good luck.

Jul 07 08:51 PM