Monday, November 18, 2013

How Some of the Biggest Funds in Oil Trading Got Wrong-footed By the Widening Brent-WTI Spread

Brent $107.98 down 52 cents
WTI    $93.42 down 42 cents

Back in January 2013 it was so easy.
Three successive posts on the spread:
Trading the Brent/WTI Spread
 Brent-WTI Spread Narrows as Seaway Pipeline Readied to Move Oil From Cushing Bottleneck to Gulf Coast Refineries
Expanded Seaway pipeline start-up proceeds, crude flows--Next Steps: Double Capacity Again, Watch WTI-Brent Spread Shrink, Saudis Cry (ENB; EPD)  
And we were off to the races:
"Brent - WTI Spread Falls to Six Month Lows"
"Brent-WTI Spread Drops to a 52-Week Low"
Brent-WTI Spread Drops to Another 52-week Low
But by the end of June yours truly proves he's a big chicken (and more into Streisand than is healthy):
Goodbye Old Friend: "End of the Line for Brent-WTI Trade"
Brent $101.53, WTI $95.25....

Like the corners of my mind
Misty water-colored (with a slight oily sheen) memories
Of the way we were...  
By October it was:
Oil: WTI Lower Overnight and for the Week, Spread Blows Out vs Brent
Goodbye Stranger? – Brent and WTI Take Separate Paths Again 
That's not to say we called it perfectly. After the spread came in to $6.28 and we bailed in that June post we thought WTI would head down to $90 which became the bet but we also thought Brent would drop to $95.

Didn't happen.*

But...and that's a big 'ol but, we may be getting a another chance at the spread, oh happy day!

Here's today's headline story which may have marked the maximum extent of the spread on publication day, Nov. 14.
From the Wall Street Journal:

Funds' Oil Bet Slides Down a Slippery Slope
A Wager on the Gap between Brent and West Texas Intermediate Is Upended
A wrong-way bet on global oil prices has hit some of the crude market's most high-profile investment firms, including hedge funds run by former Goldman Sachs Group Inc. traders, worsening what has been a dismal year for commodity-fund returns. 

Wagers that the gap between Brent and West Texas Intermediate crude-oil prices would narrow were upended when the "spread" between these two prices instead diverged during September and October.
Some of the funds making the trade had been bright spots among commodity funds up until that point. The performance of commodity funds has languished in recent years as raw-materials prices have moderated.
Andurand Capital Management LLP, a $315 million fund run by former Goldman Sachs and Vitol Inc. oil trader Pierre Andurand, got caught when the gap widened. The fund posted a 5.8% loss last month. Saugatuck Energy LLC told investors it was down 13% in October because of the spread trade.

Several funds that suffered in October are still in the black year to date, mainly because of the big profits reaped earlier in the year from spread bets.

The latest losses show how even the savviest of energy traders are being squeezed by calmer markets, as investors are watching U.S. stocks rallying to record highs.

Frere Hall Capital Management LLP fell by about 20% in October, although it isn't clear how much of that can be attributed to Brent-WTI bets, according to two people with knowledge of the firm's preliminary results. The fund, which had $650 million under management in September, was started in July 2012 by Taimur Hassan, who previously had overseen proprietary energy trading at Goldman Sachs.

Astenbeck Capital Management LLC, a $4.1 billion commodity hedge fund run by former Citigroup Inc. energy trader Andrew Hall, also had losses in September and October, according to marketing materials reviewed by The Wall Street Journal. Losses in those months put Brevan Howard Asset Management LLP's $880 million commodity-strategy fund in the red for the year, according to investors.
"A sharp reversal tends to hurt quite a bit," said Osvaldo Canavosio, a head of trading strategy with FRM, a Man Group PLC fund that invests in other hedge funds. "It tends to have a pretty significant impact on returns, because people have been positioned in a certain way on something that was working relatively well." Mr. Canavosio wasn't referring to the recent performance of specific firms....MORE
HT: The Big Picture

*Back in 2008 I was reminded of the Berlin Airlift which, for our younger readers was prompted by the Soviets cutting off all land access to Berlin (24 June 1948-12 May 1949) in an attempt to starve the 2 million residents of the city.
I'll quote myself liberally:
Instead of rolling over, the British and Americans started flying in supplies, food and just as important, coal for heat, electrical generation and steam power.

From what I gather it is not easy to supply two million people by air but the Anglos (including the Royal Australian and Royal New Zealand Air Forces) tried and got pretty good at it. I mean really good.
By Easter Sunday 1949, in a move to crush the Soviet's spirit, they decided to show off with the "Easter Parade".

They set the metronome, tick, tick, tick and in the 1440 minutes of that day, they flew 1398 flights into Berlin delivering 12,940 tons of coal.

That's a landing every 62 seconds for 24 hours.

Spirit suitably crushed, the Soviets gave up the blockade the next month, two million people didn't starve or be forced to live under Moscow masters and thousands of kids remembered the candy bars the pilots would tie to handkerchief parachutes and drop as they came into Tempelhof.

Anyway that is a long intro to a short vignette, the coal experiment.
During the winter the absolute minimum amount of coal required by the city was 3100 tons/day. The little C-47's could only carry around 3 tons and if the allies didn't find a solution Berlin was literally going to freeze.

It was decided to experiment with a low-speed, low-level drop of coal onto an empty field, the idea being that if it worked, B-29 Superfortress' with a 105 mph stall speed and 22-25 ton capacity would solve the problem.

On the appointed day the senior commanders went to the field, the plane came over, low and slow, dropped the coal, packed 100 pounds to a bag, the bags landed, exploded open, the coal was pulverized and a great black cloud of coal dust covered everyone watching.

One of the Generals, I forget if it was LeMay, Tunner or Smith, said "Doesn't work" and that was that.

Ever since I read the story I've appreciated the terse honesty you can get out of three syllables.
Hence: "Didn't happen."