Regulators are no fans of price reporting agencies, but they are frightened of life without them. And, in the absence of clear guidance from regulators on the relative merits of other systems, the current model continues to underpin the long-term supply contracts that, in turn, underpin household bills.
Gas manipulation fears spark reform calls
By Ajay Makan in London, May 9, 2013 3:45 pm, Financial Times
In energy markets, price reporting agencies are everywhere. Their assessments underpin billions of dollars in oil, gas and electricity trading. But their methods, which rely heavily on conversations with traders, are contentious.
In the wake of the Libor scandal, this practice is falling out of fashion fast as regulators and companies alike steer clear of any pricing system that involves human judgment and which leaves the door open to manipulation. But attempts at reform have so far failed on one key point: there is no obvious alternative to price reporting agencies.
The European natural gas market, where billions of dollars in physical supplies and paper derivatives change hands every day and where pricing helps determine what many households pay for gas, is a good example of the problem.
The current model is unloved by many market participants and losing support from important players. Yet it is also difficult to discard.
The tension between a segment of the European natural gas market and the price reporting agencies, led by Platts, Argus and ICIS Heren, has grown since November, when regulators began investigating alleged attempts to manipulate ICIS Heren’s assessment of the UK’s National Balancing Point (NBP) gas price.
Price assessment models rely on reporters judging bids, offers and information on deals from traders who may have a vested interest in moving the market. Since the scandal over the manipulation of interbank lending rates, banks and traders worry that participating in such dialogue carries reputational risk. Some, spooked by the fallout from Libor, now have stopped submitting prices to price reporting agencies.
“After November, we told Heren to stop calling us,” says the head of gas trading at one Geneva-based commodity trading house. “Our board doesn’t want to get a call from regulators asking why our quotes are a fraction out.”
The search is now on for alternative pricing models, which do not rely on traders providing quotes. On the face of it, the structure of the European gas market lends itself to a purely transaction-backed pricing system.
Europe’s gas market is dominated by a relatively small pool of participants: producers such as Norway’s Statoil and Russia’s Gazprom, end-user utilities and the commodity trading houses and investment banks who trade in physical gas. In the most liquid benchmarks, such as the UK’s NBP and Holland’s TTF, there are thousands of transactions every day, most of which are arranged by three London-based interdealer brokers: Tullett Prebon, Marex Spectron and ICAP.
Argus already offers trade-backed benchmarks, Heren is developing one, and the three interdealer brokers have recently launched their own transaction-backed index for European gas benchmarks.
The trouble is that those trade-backed indices have not caught on in the market. One gas trader at a bank that has stopped submitting prices to the price reporting agencies says most of his trades are still priced off Heren’s NBP benchmark. “It’s what customers prefer,” he says.
The big three brokers also acknowledge their Tankard index is yet to capture significant market share, despite the stated preference of some participants, such as Statoil, for a trade-backed system.
The price reporting agencies say the enduring popularity of their assessments is testament to their flexibility, and the need for expert evaluation of what remain opaque, and in some cases illiquid, markets. The assessment model can be well suited to markets where transactions are rare and price reporters piece together a quote based on bids and offers.
But in a recent report to the G20 group of nations on commodity market reforms, Iosco, the umbrella body of global regulators, suggested another explanation: “There is considerable inertia in the industry that sees even companies that are highly critical of [price reporting agencies] methodologies continuing to use [them].”
Last year Iosco recognised the potential for manipulation of assessed indices and planned to propose significant reforms, at least of physical oil markets. But the organisation eventually backed down, fearing that regulation would cause “some market participants to decrease or even to cease their submission of data”.
Put simply, regulators are no fans of price reporting agencies, but they are frightened of life without them. And, in the absence of clear guidance from regulators on the relative merits of other systems, the current model continues to underpin the long-term supply contracts that, in turn, underpin household bills.
While they acknowledge they have lost some price submitters in recent months, the price reporting agencies have scrambled to maintain the accuracy of those benchmarks. One method is to access data on actual transactions.
The interdealer brokers provide banks, trading houses and energy companies with screens that display transaction information. That information often finds it way to the price reporting agencies.
But with the brokers now offering their own purely trade-backed price indices, they want to stop the agencies accessing data they claim is their intellectual property. That leaves pricing agencies and brokers at odds – each hoping for decisive regulatory backing for their different models.