Greed and the Bakken: Explosive Oil Needs Stabilizing

Today's Wall Street Journal article about Bakken crude oil production makes my blood boil. I have been following the crude oil quality issue since the Lac-Megantic explosion last year, trying to get Platts reporters (when I was editor there) to find out why it was so explosive. They failed, whereas the WSJ investigation has unearthed some very disturbing facts.

From today's issue:

When energy companies started extracting oil from shale formations in South Texas a few years ago, they invested hundreds of millions of dollars to make the volatile crude safer to handle.
Now the decision not to build the equipment is coming back to haunt the oil industry as the federal government seeks to prevent fiery accidents of trains laden with North Dakota oil.  In North Dakota's Bakken Shale oil field, nobody installed the necessary equipment. The result is that the second-fastest growing source of crude in the U.S. is producing oil that pipelines often would reject as too dangerous to transport.

North Dakota shale oil contains 33% light ends - the flammable stuff like gases and gasoline. In other words, 33% of a barrel of oil from the Bakken is highly flammable. It also has a high Reid Vapor Pressure (again, thanks to WSJ's excellent investigative reporting), making it one of the most explosive barrels of oil on the planet. Around one million barrels per day comes out of the Bakken and makes its way to refineries around the USA and Canada through pipelines, barges and - mainly - by rail (more than 60% currently moves by rail).

Only one stabilizer - which would remove the most volatile gases - is slated for the Bakken. Why? Money. Stabilizers are expensive; the ones built for the Eagle Ford shale area in Texas cost producers hundreds of millions of dollars. So far, Bakken crude has been one of the best deals going for American (and to a lesser extent Canadian) refiners. It is cheap to produce and cheap to move by rail.  Making Bakken more expensive to produce would hit the American consumer, say refiners and politicians.

Who wants to add to the costs by adding stabilizers? I would say that the next group of people to experience a crude by rail crash and fireball in their town might think it worthwhile. I would also say that after the next rail crash and fire, lawsuits could very well target Bakken producers. And a multi-billion dollar lawsuit could very well make adding stabilizers look cheap.

Get it Through Your Heads: U.S. Crude Oil is Explosive

   The latest derailment of a train carrying crude oil -- which exploded violently and caught fire in Lynchburg, Virginia -- proves yet again that U.S. crude is no average oil. 
   On the whole, crude oil does not explode, nor does it easily catch fire. But newer sources of American crude, particularly from the Bakken field in North Dakota, are proving to be an unwelcome anomaly. 

   Crude oil coming from the Bakken, and also Eagle Ford in Texas, is of high quality. It is very low in density and sulfur. But that does not necessarily make it explosive. 
   After the crash and explosion that killed 47 people in Lac-Megantic, Quebec last year, I urged reporters at Platts (where I was an editor) to dig deep and find the specifications for Bakken from their sources. None of their sources would release any but the most rudimentary of specs. 
   Then analysis done by the Wall Street Journal showed that Bakken crude has an unusually high Reid Vapor Pressure, which is a measurement of volatility. As there are no laws mandating RVP tests for crude, the combustible nature of Bakken and Eagle Ford was largely ignored. Regulators were slow off the mark to test the quality of the oil being shipped by rail. Oil producers and refiners -- in their haste to sell and refine these cheap feedstocks -- often misclassified them as less hazardous than they really were. 

   Because the infrastructure supporting oil transportation in the U.S. is sorely substandard, with barges and existing pipelines overbooked (and proposed new pipelines like Keystone XL unlikely to be built), the U.S. and Canada too quickly embraced moving crude by rail car. They neglected to test crude quality from newer U.S. fields and failed to strengthen safety regulations until after several fiery crashes. They allowed inferior quality rail cars known as DOT 111s to continue to be used, even as they proved themselves to be very good moving firebombs. 
   Now, however, responsible producers and users are beginning to take steps of their own to try and prevent further accidents, and avoid the wrath of the law and punishing insurance claims. Canada will phase out the older cars by 2017. U.S. oil distribution company Global Partners just announced that it would immediately switch to newer specification tank cars called CPC 1232, trying to head off New York Governor Cuomo's move to slow down a Global oil by rail development in Albany. 
   Oil producers, gatherers, traders and end users surely knew the kind of oil they were dealing with, yet they put it onto rail cars that were not fit for the task. The sooner DOT 111s stop carrying oil the better. And the sooner railway operators and regulators get a grip on crude oil, its specifications and flammability, the sooner these accidents will stop happening.

The High Frequency Trading Debate is Not New

I love Michael Lewis. He is the writer I most want to be. I live in his world, I am a journalist and have been a broker and am married to a trader. I know stuff. But I am not Michael Lewis. He is a brilliant writer. I am a hack and part-time flack. HOWEVER, I take exception to the recent the fuss over his book "Flash Boys." I keep hearing on CNBC that NO ONE knew how big the problem of high frequency trading was. I did. Here is one of the tongue-in-cheek blogs I wrote about the issue - in September, 2010.

In the 1960's American sitcom Get Smart there were two opposing agencies - CONTROL and KAOS. At CONTROL you had The Chief, Maxwell Smart (Agent 86) and Agent 99 as the good guys. KAOS was the bad guys of course.
In today's seemingly perplexing world of electronic trading The Chief appears to be played by U.S. Senator Charles Schumer. The well-meaning but hapless Maxwell Smart is played by U.S. Securities and Exchange Commission Chairman Mary Schapiro. (The SEC staff can take turns as Agent 99.) KAOS is represented by high frequency and algorithmic trading.
The Chief (Schumer) made a strong suggestion (order) to regulators to get a grip on KAOS, by looking into slowing down some high-speed trading at times of market stress and investigating manipulative strategies including quote stuffing.
Agent 86 (Schapiro) got on the case and the investigation is underway. One telling statement by Schapiro this week alluded to the algos that automate execution when she said that regulators need to decide whether they "are subject to appropriate rules and controls."
"An out-of-control algorithm not only can cause serious losses to the firm that uses it, it can also cause severe trading disruptions that harm market stability and shake investor confidence," Schapiro said in the statement. She added that the SEC will review market fragmentation and the role of dark pools of liquidity that fall outside the traditional market structure.
“High-frequency trading firms are subject to very little in the way of obligations,” Schapiro said at an event held by the Security Traders Association in Washington. “We will consider carefully whether these firms should be subject to an appropriate regulatory structure governing key aspects of their market behavior, including quoting and trading strategies.”
The SEC may also need to peer a little more closely into the market structure that preceded all of these issues. A third of TabbFORUM readers polled said that the Securities and Exchange Commission had something to do with the May 6 flash crash: 31% of respondents to the poll blamed the crash on Reg NMS. (Still, 29% said it was “something else." Cue Siegfried - the Vice President in charge of Public Relations and Terror at KAOS).
All of this investigating is good news, as long as moderation is the byword for resolution. If indeed your opinion is that HFT and algos are run by a shady KAOS-style cartel on Wall Street then the more controls the better. It is my opinion that KAOS-as-HFT is a figment of non-financial industry scaremongers, and that a lighter touch is needed.
CONTROL can best come out on top if it deploys the proper tools: pre-trade risk management and controls, real-time risk management, real-time market monitoring and surveillance. All of these will help to stop KAOS in its tracks before it has the chance to throw another bomb into the room (flash crash...get it?).

I knew about HFT. The SEC knew about HFT. The trading firms and exchanges and brokers knew about HFT. And everyone knew it was a bomb waiting for a detonator. I just wish I had written the book!

Banning crude by rail in North America

When a train loaded with crude oil from North Dakota rolled away from its night-time berth near the town of Lac-Megantic, Quebec, no one would have predicted the scope of its devastation.

The July 2013 derailment and explosion left 47 people dead, a town decimated and the fires took days to extinguish. Rail cars were piled up like charred sausages from the grill scraped off a plate into the rubbish bin; the burnt remains of a BBQ gone wrong.  

Regulators and the oil industry were astonished -- crude oil was not supposed to explode. But Lac-Megantic was only one example of American crude oil from North Dakota doing just that.