CommoditiesDemystified Section B en

Section B
HOW COMMODITY
TRADING WORKS
Chapter 5 Chapter 8
Sourcing commodities: Blending commodities:
working with producers transformation in form
p.3 p.15
Chapter 6 Chapter 9
Transporting commodities: Delivering commodities:
transformation in space meeting customer specifications
p.5 p.23
Chapter 7
Storing commodities:
transformation in time
p.11
2 Section B. How Commodity Trading Works
Chapter Introduction
How Commodity Trading Works

INTRODUCTION
This guide sets out to present a thumbnail portrait reflected here. Deliberately and inevitably, we have
of commodities trading. The aim is to inform readers focused on energy, metals and minerals trading, and
about the specialist nature of the business and have made only passing reference to trading
the services it provides, as well as to dispel some of agricultural products.
the myths that have grown up around trading over We have tried as far as possible to capture factors
the years. that are generic to commodity trading firms and
It makes clear that this is at its core, a physical their basic functions and techniques.
and logistical business, and not the dematerialised, This section explores the nuts and bolts of the
speculative activity that is sometimes suggested. trading business and the links in the supply chain,
The Trafigura Group, one of the world’s largest from sourcing the commodities from producers,
independent commodity traders, with a focus on oil transporting them by land and sea, and storing them
and petroleum products and metals and minerals, in terminals, tanks and warehouses, to blending them
is at the centre of the narrative. to meet ever-varying customer specifications and
The company focus is designed to provide delivering them to the right places at the right time.
concrete case studies and illustrations. We do not
claim that this is a definitive guide to all facets of
the industry. Other firms than Trafigura will have
their own unique characteristics, which are not
Chapter 5. Sourcing commodities: working with producers
Chapter 5
SOURCING
COMMODITIES:
WORKING WITH
PRODUCERS
Trading firms aim to maximise the price differential between the price
they pay for (untransformed) commodities and the revenue they earn by
selling (transformed) commodities. Minimising the overall cost of
acquiring commodities is therefore a priority. They work with producers
to secure long-term, cost-effective supply.
Reducing overall cost Trading firms have to deliver shipments at their

Despite changed market dynamics, the majors* customer’s preferred location and they have to meet
still control a sizeable proportion of commodity grading criteria and quality thresholds. If they buy from
supply chains. They operate many of the largest producers in remote, inaccessible locations, transportation
mines and oilfields. They have long-term customers costs are likely to be high. If they buy from smaller mines,
with processes optimised to meet their output. They it is harder to achieve economies of scale. Traders often
use tried-and-tested trade routes and invest in work with producers to optimise or scale up production.
specialist logistics. It all helps to minimise the total
cost of delivery. Focusing on quality
Most independent traders do not own their own The pace of growth in Chinese demand has forced traders
sources of production. They search far and wide to to look further afield for supplies and quality has suffered.
identify and acquire low-cost, marketable product. The average copper content in ores has fallen from 2
To do that, they need boots on the percent to less than 0.6 percent over the last two decades.
Trading firms need
to factor in
ground – people who understand the With low-quality raw materials, smelters require more
shipment, local culture, who are able to adapt to concentrate to produce the same amount of copper. The
processing and its priorities. concentrate may include impurities, arsenic for instance,
scaling costs Independent traders can incur which need to be managed. It all adds to delivery costs.
significant costs when they bring new Process quality is equally important. There are
producers to market. It is not just about the headline high-quality deposits in Africa’s copperbelt, but trading
price. Lower cost producers may be smaller operations firms need to be careful where they source these.
with limited access to global markets. The trader has Some mines, especially in conflict areas, do not
the task of making their products globally competitive. conform to international health and safety standards.
*Mining majors: BHP Billiton, Glencore, Rio Tinto. Oil majors: BP, Chevron, Exxon Mobil, Shell, Total
Chapter 5. Sourcing commodities: working with producers
This matters for the trading firm. In a world that is Pre-payment agreements
moving towards increased transparency, suppliers that More typically the commodity trading firm makes a
source from mines with poor social, environmental and pre-payment for future supply. This arrangement is
production performance run a significant reputational risk. popular in many resource-rich but cash-poor
developing countries that might resist outright
Improving competitiveness and marketability foreign ownership of their natural resources.
Many trading firms develop specialist logistics to Commodity pre-payments are a useful substitute
support multiple, smaller producers. Trafigura is for the loans that emerging economies find
investing heavily in Colombian transport infrastructure. increasingly hard to get from international banks.
In Brazil, its state-of-the-art multimodal cargo For commodity traders making the pre-payment
terminal, a joint venture with Mubadala, has direct there is a risk that the commodity to be delivered
rail links to miners in the country’s iron ore quadrangle. will fall in value. However, there are mechanisms to
Traders can gain a sustained competitive deal with this. The producer can for instance agree
advantage by developing advanced logistics in to make up any fall in commodity value with a cash
countries where there are no viable alternatives. Their payment or extra supply of the commodity.
logistics networks can transform and transport Offtake agreements give producers security of
commodities at lower cost than their competitors. demand and commodity traders security of supply.
But these are long-term investments and they need Commodity traders are unlikely, in every case, to tie
to work in partnership with local communities. a specific volume of crude to a specific agreement
Firms will also provide technical or financial to supply one particular refinery, or dedicate copper
resources to help producers modernise and extend concentrate to serve a particular smelter. They
production. These are often linked to long-term wouldn’t be traders if they were to forego the
purchase arrangements, known as offtake opportunity of getting the best price for their offtake
agreements, where the trader agrees in advance to volumes. But the existence of some steady long-term
buy a minimum percentage of the mine’s output over supply coming into their commodity portfolios does
several years. allow traders to sign longer-term supply agreements
with refiners, smelters and processors.
Securing supply
There are many ways of securing supply, one of which
is ownership of oil and gas fields and mines. Common WAYS COMMODITY TRADING FIRMS SECURE
ownership of the raw material and of all the means RELIABLE LOW-COST SUPPLIES
to process, transport and market it can make sense.
There are several examples of upstream
integration. Glencore, after its merger with Xstrata,
has effectively become an integrated mining 1 Upstream integration
company. Mercuria has upstream oil and coal assets,
and Vitol owns upstream oil assets. Trafigura owns
mines in Spain and Peru.
However, a more usual way to secure
Offtake agreements supply is through long-term offtake 2 Joint ventures
and upstream agreements with producers. Sometimes
integration secure such agreements follow on from a spell
long-term supply
of asset ownership by the commodity
trading firm. Trafigura, for example,
Pre-payment and offtake
bought a Peruvian mine in 1997 and spent the 3 agreements
following 16 years improving efficiency and extending
its life. When it sold the mine in 2013 it signed an
agreement to take 100 percent of its output.
Commodity trading firms sometimes combine an
initial investment (perhaps in the form of a 4 Technical support
joint venture) with offtake agreements to get
supply flowing.
Chapter 6. Transporting commodities: transformation in space
Chapter 6
TRANSPORTING
COMMODITIES:
TRANSFORMATION
IN SPACE
Many producers are found in remote locations, often in emerging
economies. Traders need to deliver commodities to consumption centres
on the other side of the world. They can increase their profitability and
generate more physical arbitrage opportunities by lowering
transportation costs.
Developing infrastructure
Commodity trading firms rely on efficient logistics transport. These may be situated inland or at
to transport commodities cost-effectively. Where the coast and will usually take advantage of
the existing infrastructure is sub-optimal, there are automated processes that streamline transferral. For
strong commercial grounds for investing in midstream instance, small-scale miners in Brazil’s iron ore
assets – road, rail or river transportation linked to quadrangle transport their cargo on trucks to a local
modern ports and terminals – that increase the collection terminal at an inland railway station. The
efficiency of their supply chains. product is transferred directly onto rail freight
carriages. It then travels by rail to an Atlantic
Multimodal logistics terminal, where it is automatically unloaded onto a
Trading firms design multimodal logistics systems to conveyor belt. This conveys the product to a feeder
optimise economies of scale and reduce shipment system for a bulk dry freight tanker, which is berthed
costs. They select the most efficient and ready for export.
Multimodal logistics
transportation for each stage along the
networks optimise
transportation and supply chain to reduce the overall cost of
minimise transferral the delivered commodity. Multimodal
costs at each stage terminals optimise the transfer of
of the supply chain shipments between different modes of
Inland transportation
Getting product from one part of the world to
another brings many different modes of
transport into play. The main inland
modes of transportation include:
Trafigura reinvents logistics in Colombia

Following the collapse of the state-owned railway
company in 1990, Colombia’s rail network
disintegrated. It put immense strain on the
road system as the only viable means for
transporting cargo.
It led to a situation where transporting freight
500km overland by road from Bogotá to the
country’s main Pacific port at Buenaventura was
more expensive than shipping that same load the
15,500 kilometres by sea to China.
Trafigura has invested over $1 billion to help to
Trucks Rail Barge Fixed pipeline
develop the country’s strategic infrastructure and
Delivery by Low unit cost, Like rail, this is a Low unit cost,
reduce its reliance on an overloaded, inefficient
road is probably large-scale low unit cost but high capital
road network.
the most shipments. Rail transportation costs. Pipelines
Its ambitious plan is revolutionising
flexible also offers alternative ensure
Colombia’s logistics. Trafigura subsidiary Impala
mechanism, but high-speed where there is a continuous
Terminals is coordinating an operation to
individual delivery and the suitable river. supply and are
connect the Caribbean Sea to the country’s
shipments are ability to build This will also most suitable
hinterland by opening the 1,500-kilometre
not easily direct rail links require for traders with
Magdalena River to freighty traffic.
scalable. Trucks between substantial initial a steady flow of
With its multimodal logistics network in
are best producer and investment. consumer
Colombia, the trading firm can move product to
deployed to ports. It may Terminals and orders and
and from Colombia’s interior. A giant oil terminal at
manage require a high barge fleets are control of
Barrancabermeja on the Magdalena river is
complex routes initial needed. The substantial
exporting and importing crude and naphtha using
and difficult investment. ability to terminal
motorised pushers and barges.
terrain. arrange direct capacity.
Trafigura’s river transport system is helping
river-to-ship
Colombia to unblock the logjam that has
transfers at
constrained its economic development. In return,
seaports can be
the company gets access to a sizeable new market.
advantageous.
SHIP
OIL
SHAPES
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Overseas transportation Wet and gas freight

Just as commodity trading firms need onshore In certain markets there is a need for specialist
facilities to load, offload, store and blend cargoes, so carriers and here it can sometimes make sense for
they need ships to carry their cargoes across the traders to own their own shipping. LNG, LPG, propane
oceans. However, unlike terminals, commodity and butane are transported in refrigerated carriers
trading firms do not need to own their own vessels. to keep the gas as a supercooled liquid. Bitumen
Ships are interchangeable and port facilities are not. carriers are specially adapted to allow the cargo to
They may charter wet freight tankers to transport be heated so it doesn’t solidify. Having its own fleet
oil and petroleum products. Metals and minerals – of special purpose carriers helps a firm to avoid the
dry freight – are transported in bulk carriers. risk of chartering vessels in a narrow, illiquid market
There are two main ways of doing this: and means it is better able to keep commercially
• A time charter is like renting a car: you pay for the sensitive transactions confidential.
daily hire, fuel and any parking fees, while the cost
of maintenance, insurance and licensing is paid by Freight market dynamics
the rental company. Freight specialists aim to minimise transportation
• With a voyage charter, the charterer pays a metric costs, but supply and demand factors can greatly
tonne freight rate for the cargo to be carried from affect operational expenses for particular vessel
point A to point B. The ship’s owner or types. With voyage charters, they need to locate a
Trading firms use
time charterer pays fuel and port charges. vessel with the ability to load their cargo and berth
time charters and
voyage charters Time chartering is extremely flexible. at the required locations at the agreed times.
for overseas Time chartering a ship – for a month, a Time chartering provides more flexibility, but to
transportation year or more – gives the charterer full be cost-effective, these vessels need to be fully
as needed commercial control. He pays for fuel and utilised across the chartering period. Trading firms
port charges. At any time during that often have freight desks that make idle time-
period he can put it out for re-hire for individual chartered vessels available to third parties. Freight
voyages or indeed for another time charter. The traders aim to mitigate freight risk by hedging their
owner retains the technical responsibilities of future freight obligations using swaps or forward
crewing, insuring and maintaining the ship. freight agreements (FFAs). Bunker fuel, another major
Most trading firms supplement time charters cost of chartering, is also subject to market volatility.
with voyage charters to maximise their ability to Traders use bunker derivatives to hedge their future
take advantage of short-term and spot market trading fuel costs.
opportunities. Chartering terms are set out in Contracts of
Affreightment (COAs). These include Incoterms,
Shipping and chartering desks which specify rights and responsibilities. They also
Commodity trading firms normally operate shipping specify penalties, such as the demurrage fee payable
or freight desks. to the owner if the vessel takes longer than agreed
They act as service providers to the company’s to load and unload.
traders, getting them competitive freight rates and Newer, cleaner and more efficient vessels are
hedging freight rate risk. progressively replacing older ships in the current
They will often also trade a portfolio of shipping global fleet. Many regulators have reduced the
services for third-party customers, booking voyage maximum permissible sulphur content in bunker fuel
and time charter clients when they have unused in recent years in response to environmental concerns.
capacity, and pursuing freight arbitrage opportunities In the medium term, these dynamics may lead to a
for the company. shortfall in the supply of suitably located and
equipped vessels, with a consequent increase in
chartering costs.
Liquefied Natural Gas (LNG) markets Commercial arrangements limited sales to a defined
Gas, the greenest of the fossil fuels, is difficult to set of buyers (who in turn would often have
transport globally and that restricts its tradability. monopolistic franchise areas).
Russia, the most landlocked of major energy As more re-gasification capacity has come on-
producers, delivers most of its gas by pipeline. Pipeline stream, particularly on floating barges, international
gas generally goes straight from the producer to the LNG trading is opening up, taking on more of the
consumer, with no real role for intermediaries. characteristics of a standard commodity market. A
But pipelines are impractical where producers and small but growing share of international LNG trade
consumers are separated by sea. LNG transportation is taken by trading firms selling gas from a global
provides an effective solution. portfolio and benefiting from arbitrage opportunities
LNG works by cooling natural gas to minus 162 between the various regional import prices.
degrees centigrade. This liquefies the gas and shrinks An estimated 20 percent of LNG volumes is now
it to 1/600 th of its gaseous volume. The liquid traded on the spot market (though in this long-term
concentrate is transportable in purpose-built business, spot contracts can last up to four years)
refrigerated tankers. through aggregators and traders.
The technology was developed several decades The evolution of LNG markets demonstrates that
ago and began to be used commercially in the mid- a requirement for significant investment in long-term
1960s. Liquefaction and re-gasification capacity capital projects technology is no bar to the
developed rapidly until the 1980s, then stagnated development of effective traded markets. Craig
until the mid-1990s, but has picked up since. Pirrong has observed that “expensive, durable
Qatar is the global industry leader, but is now investments in specialised capital [projects] are
being joined by new exporters, chiefly Australia but completely compatible with spot market pricing
also the US and countries in east Africa. complemented by market risk transfer mechanisms.
Early LNG contracts were long-term arrangements, In essence, liquid markets create security of supply
locking producer and consumer into a virtual pipeline and security of demand3”.
that did not allow any intermediary trading.
3
Fifty Years of Global LNG, Craig Pirrong, 2014
Top ten exporters of gas

Mexico
(pipeline and LNG combined) in 2016

Tu
(billion cubic metres) .33

rke
18
42.12
y4
n1
Source: World Oil and Gas Review 2017, ENI So

5.5
pa
uth
Ja
Ko
0
rea
47
.27
UK 49.09
Indonesi
Germany 101.64
Ne
the
Au 9.20
ce 4
rlan
a 35.58
st
92
ra Fran
9.
lia
ds
20
49
48.
ia
.77
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China 72.19
US
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Algeria 55.12
Qa
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US
Norway 1
.04
82
Top ten importers of gas

da
na
(pipeline and LNG combined) in 2016

Ca
15.44
(billion cubic metres)
Source: World Oil and Gas Review 2017, ENI

Bitumen markets
Not too long ago, the bitumen trade was regarded
as a regional business. The specialised ships required
to transport the product tended to be relatively small,
making it difficult to achieve the economies of scale
needed to make global trade worthwhile. In recent
years, however, this has started to change.
Bitumen shipping and trading go hand in hand,
because the ship is needed to make the trade. And
bitumen carriers are highly specialised, built with
containers that continually heat the bitumen at
150°C so it does not solidify.
Puma Energy’s bitumen carriers are some of the
largest in the world. Weighing in at 30,000 tonnes
each and 40 percent more fuel-efficient than their
traditional counterparts, these kinds of ships are
helping to globalise the market. They can transport
bitumen from the US Gulf to Australia and back again
without having to stop to refuel.
Budgets for road construction and maintenance
– which account for about 85 percent of bitumen
use globally – are largely tied to government spending.
Public investment has been lacking since the 2008
< TRANSPORTING GAS financial crisis in the developed world, but China and
countries in Africa are major growth markets.
GLOBAL LNG SHARE OF TRADED GAS
21.73% 22.67% 30.37% 31.94% 31.05% 30.74% 32.56% 31.45% 31.31%
78.27% 77.33% 69.63% 68.06% 68.95% 69.26% 67.44% 68.55% 68.69%
VESSEL
vs 2000 2005 2010 2011 2012 2013 2014 2015 2016
PIPELINE
Vessel
Pipeline
Source: World Oil and Gas Review 2017, ENI

Chapter 7. Storing commodities: transformation in time
Chapter 7
STORING COMMODITIES:
TRANSFORMATION
IN TIME
With inelastic supply and demand in commodity markets, supply and
demand shocks have the potential to create volatile market conditions.
Trading firms store commodities to help bridge this gap and keep
markets in balance. They own and control midstream infrastructure and
maintain large inventories at strategic locations around the globe.
Traders earn profits over time by reducing stocks when there is excess
demand and building up inventory when there is excess supply.
Why trading firms invest in A strike at a mine, political unrest, unseasonal

midstream infrastructure temperatures – supply and demand shocks
Commodity traders consider the full control of in commodity markets can have many different
midstream facilities that comes with outright causes, and they can occur at any time. What is
ownership vital to their trading business. All major more, both supply and demand are price inelastic.
commodity traders own midstream infrastructure, Producers cannot easily open or close mines or
including loading and offloading terminals at ports, wells; for consumers, commodities are typically
and storage and blending facilities, which are also seen as necessities.
usually at ports. These conditions can make for highly volatile
There are considerable positive synergies between markets. Commodity storage plays a vital
Traders want to
their core trading function and ownership of this kind economic role by helping to dampen
control fixed assets
of logistical infrastructure. volatility and bring markets back into to be able to move
balance. Market participants can offset commodities swiftly
Temporal specificity the effect of market shocks by adjusting when market
The economic concept of temporal specificity helps inventory levels. When demand exceeds conditions dictate
to explain why midstream infrastructure is supply they reduce storage levels. In
strategically important. oversupplied markets they can bolster underlying
demand by increasing inventories.
Trading firms facilitate the process. They earn Security and optionality
arbitrage profits by releasing or increasing inventories Control of midstream infrastructure also gives traders
while simultaneously creating offsetting positions in security of supply. This enhances their strategic
futures markets. flexibility and improves their ability to deliver globally
Trading firms gain a competitive advantage by at times that suit their customers.
maintaining inventories their own facilities. Arbitrage
opportunities are, by definition, transient. The cost Partnerships and trading relationships
of even a short delay in obtaining goods can be Infrastructure to make exports more competitive is
considerable. Firms that store their commodities in welcome in many economies, especially in those that
a facility they do not own or control risk not being do not have the resources or the expertise to do this
able to exploit such opportunities. themselves. This kind of investment unlocks new
To execute arbitrage successfully, traders need markets and opens doors to new suppliers.
instant access to their assets. Knowing this, facility Trafigura subsidiary Impala Terminals’ investment,
owners may try to charge premium rates by, for along with Mubadala, at Porto Sudeste in Brazil offers
example instituting delivery delays and enforcing an smaller independent iron ore miners an export outlet.
artificially high price for an ‘express’ service. Such It is also a platform for the company to develop new
hold-ups don’t occur if the firm executing the relationships in the region. Its river infrastructure
arbitrage also owns the storage facility. programme is strategically vital for Colombia. Its
As markets become more transparent, arbitrage involvement is generating goodwill in the country
opportunities are increasingly transient. The more and helping it forge crucial long-term partnerships
acute this temporal specificity becomes the greater with private and public sector concerns.
the incentive to invest in midstream infrastructure.
Traders do not face the same risks with floating Ownership and control
storage facilities. Most commodity traders own All of these factors help to explain the increased asset
terminals and storage facilities, but very few have intensity of trading firms in recent years. It also raises
their own bulk carriers or tanker fleets. The owners a question: if midstream infrastructure assets are so
of fixed logistic assets face little competition. There valuable, why do commodity trading firms sometimes
is little to stop them holding up delivery. However, choose to sell them?
bulk ships and tankers are mobile. If a ship owner It partly comes down to culture. Trading firms
tried to delay delivery the charterer would simply exist to service the need of producers and consumers
take their business to a competitor. as such they buy and sell opportunistically. That
extends to fixed assets, especially when there is a
Adding value though logistics capital gain that outweighs the trading advantage
As commodity producers have got better access to of holding onto the asset.
price information and become more sophisticated It is also strategic. Unlike Glencore and Noble, the
at marketing their products, the profit margin on four big private commodity trading firms, Vitol,
pure trading activities has declined. Trading firms Gunvor, Mercuria and Trafigura, cannot raise equity
increasingly need to add value by offering integrated finance on stock markets. They need regular capital
logistical services for their customers. They are better infusions to build up their balance sheets or make
equipped to do that if they invest in infrastructure. further infrastructure investments. Asset sales can
Global trading firms with substantial be an important cash-raising tool.
Trading firms
throughput are best placed. Trading firms And it is important to remember too that control
benefit more from
investing in
that control a substantial fraction of the does not necessarily require ownership. A good
midstream assets assets at a particular midstream facility illustration is Trafigura's construction, then partial sale,
where they have benefit from the advantages of scale. of an oil storage and export facility at Corpus Christi,
substantial Being able to deliver more efficiently gives Texas (see page 54). The company sold a majority stake
throughput them a competitive edge in the region. to a specialist operator in 2015, but before doing so it
made sure it retained the rights to all future production.
Contango and backwardation

A trader can buy a commodity for delivery on a date fall below the current spot price, is known as
in the future in one of two ways. He could either backwardation.
borrow money now to buy the commodity today, The period starting in mid-2014 was one of
and store it until the desired delivery date extreme volatility in crude. The oil price collapsed
(at which point he repays the borrowing) or he could from over $100 per barrel in June to less than $50
buy a commodity futures contract. at the end of the year. And the market moved into
Since these are different ways of achieving the a contango pricing structure.
same objective, their relative costs are connected. Traders were incentivised to buy physical oil
Prices in commodity spot and futures markets are in the spot market and increase storage levels.
linked by arbitrage. When one purchase method In doing this, they were also helping to balance
becomes relatively cheap, traders can arbitrage the supply and demand.
price differential. They buy in the cheaper market All the leading traders sought to make the most
while simultaneously selling in the more expensive of the situation by taking on additional storage
market. This adjusts supply and demand, and capacity. As most of the world's available on-land
therefore relative pricing, in the two markets. storage tanks filled up, some fixed long leases on
But there are also times when, for technical supertankers to store surplus oil on the high seas for
reasons, the markets can move apart. When futures periods of up to 15 months. This practice was last
prices drift higher than spot prices, markets move seen when oil demand collapsed during the 2008
into contango. The opposite situation, when futures financial crisis.
Impala Terminals Global storage for oil

Trafigura’s wholly owned logistics and and petroleum products
infrastructure industrial investment Impala Trafigura stores petroleum products on land and in
Terminals manages the group’s metals and floating storage at strategic facilities around the
minerals infrastructure assets. It designs, builds, globe at third-party owned terminals, and with its
owns and creates multimodal logistics chains that midstream and distribution partner Puma Energy.
link inland ports and deep sea terminals across Independent audits and regular due diligence
many countries globally. ensure that all storage facilities meet international
It has three main areas of operation – South best practice standards.
America, Africa and the US. Puma Energy manages close to 8 million m3 of
In Peru, it has expanded a warehousing and storage at modern facilities at over 45 countries
blending facility at Callao, the country’s main across the Americas, Europe, Africa, the Middle East
commercial port, into one of the country’s largest and Asia-Pacific. These are strategically placed at
sites for copper, zinc and lead concentrates. In global energy hubs and locations with strong
Colombia, it is helping to create multimodal (barge, multimodal transport links.
truck and rail) transportation across the country. Puma Energy handles many different products,
The Magdalena river project, once completed, including crude, fuel oil, clean refined products,
will handle 1.5m tonnes of cargo a year. In Brazil, bitumen, LPG and petrochemicals. Its high-volume
Impala’s $2bn joint venture investment with bulk-building and bulk-breaking services allow
Mubadala, the UAE sovereign wealth fund, to traders to split or combine products for resale. It
operate a new port facility at Porto Sudeste is also provides access to infrastructure with rail,
giving smaller independent miners a cheaper and truck, pipeline and discharging services.
more convenient outlet to world markets.
In Africa, Impala is getting copper concentrates
out of the central copper belt of the DRC and
Zambia by road and rail to the key southern African
ports for export.
In Louisiana, US, Impala has bought and
expanded the Burnside terminal. It is now the only
terminal on the Mississippi big enough to load coal,
bauxite and aluminium between barges and
ocean-going vessels, and in the future, directly to
and from rail cars.
The Brent futures curve moved from

backwardation in May 2014 to contango in
May 2015 to super-contango in November
2015 and back to contango in May 2016
BRENT CRUDE OIL SPOT PRICE: MAY 2014 - MAY 2016

120
100
80
$/barrel
60
40
20
0
May-14 May-15 Nov-15 May-16
Source: http://www.tradingeconomics.com/commodity/brent-crude-oil
BRENT FUTURES CURVES: MAY 2014 - MAY 2016
15
12
6
$ premium/discount to
Brent spot rate
0
1 10 20 30 36
-3
-6
-9
May-14
-12 May-15
Nov-15
-15 May-16
Months to delivery
Source: Trafigura research, 2016

Chapter 8. Blending commodities: transformation in form
Chapter 8
BLENDING
COMMODITIES:
TRANSFORMATION
IN FORM
Since commodity producers derive their product from the ground, its
quality and characteristics are variable. To be fit for purpose, physical
commodities need to be matched to customer specifications.
Traders and intermediaries bridge the quality gap by techniques to reduce the levels of arsenic,
blending commodities from multiple sources to make phosphorous and other unwanted materials in
products that match customer requirements. They shipments in return for a higher price. In iron ore and
earn profits by identifying and exploiting market coal markets, blending is primarily a mechanism for
inefficiencies in the price / quality relationships enhancing profitability.
between different shipments of a physical commodity. Traders need to be able to store products from
Suppliers provide products that at least meet the multiple sources at a strategic location where there
customer specification, but the complexity of the is the capability to blend at scale. They could in theory
refining process is such that to do this they will rent such facilities from third parties, but most prefer
sometimes present an over-specified product. Traders to control or own their own infrastructure. Transaction
and intermediaries use blending to optimise economics and the concept of temporal specificity
shipments so they can meet customer specifications shed light on the reason for this.
at a competitive price. Arbitrage opportunities are fleeting. If a change
in relative pricing between two grades of a commodity
Strategic infrastructure creates a blending opportunity the trader must be
In metals and minerals markets, traders often able to react swiftly to exploit that. If its product is
combine materials from two or more mines to create held in a third-party owned facility the trader's
commodities with the desired qualities synthetically. interests may not be prioritised. There is a risk that
In concentrates markets – copper in particular but the third party may even use the situation to extract
also zinc, lead and other metals – they use blending premium rates.
BLENDING PRODUCT TO CHINESE SPECIFICATION
BUY BLEND SELL

COPPER CONCENTRATE AT TERMINAL TO CHINESE SMELTER
FROM MINISTRO HALES
ARSENIC 7 ARSENIC
4% +
CONTENT 'CLEAN'
CONCENTRATE
UNITS
= CONTENT
0.5%
Blending in copper markets techniques such as oxidisation can reduce arsenic
Chinese copper consumption has grown markedly content, these are costly and they also affect copper
since 2000. In 2002, China had already overtaken levels. For instance, processing at Toromocho which
the US to become the world’s largest copper reduces arsenic from 1 percent to 0.7 percent, also
consumer. By 2014, it was consuming 8.7 million cuts the copper grade in the concentrate
metric tonnes of refined copper products, 40 percent from 26 percent to around 22 percent. Blending
of global demand. Another solution is to blend the concentrates
China processes increasing amounts of its copper concentrate. Mines producing arsenic- reduces toxicity
domestically; it accounts for over a third of global rich concentrate sell at a discount to
smelter production. But with few exploitable trading firms, like Trafigura, which also
reserves domestically, it has to source most of its have access to cleaner stocks. The traders then blend
copper overseas. the material with cleaner concentrates before selling
The quality of concentrate available has suffered on to smelters.
with the growth in demand. As existing mines get Low-quality concentrate requires larger inventories
depleted, smelters are more reliant on new, sometimes and more extensive processing. This is reflected in
arsenic-rich, sites for their concentrate. The the price. The premiums payable on cleaner
Toromocho mine in Peru, which came on stream in concentrates vary according to market conditions.
2014, and Codelco’s Ministro Hales project in
northern Chile, which began production in 2015, are Blending coal for power plants
significant new sources of copper supply. Both The rationale for blending coal is purely economic.
produce concentrate with high arsenic content: Trading firms source products from multiple locations
1 percent at Toromocho and around 4 percent at and blend to meet customer specifications in the
Ministro Hales. most cost-effective way possible. Utilities running
These new flows of arsenic-rich copper concentrate coal-fired power plants are important customers.
present fresh challenges for the industry. Concentrate Japanese and Korean plants have more exacting
containing arsenic poses health and safety risks for quality requirements. They typically negotiate long-
smelters and China insists on a maximum 0.5 percent term contracts, often direct with producers, to secure
arsenic content for imports. Although processing consistent quality product.
Power plants in China, which face less exacting Market forces dictate spreads between lumps and
environmental standards and stretching demand fines and for the different grades. Trading firms blend
conditions, are often more flexible about the grades accordingly to maximise their margins, aiming to
of coal they use. They are also active in spot markets source the most economic and supply the most
and prepared to deal with multiple suppliers. Global popular grades by adjusting combinations of lumps
trading firms sell direct or via intermediaries. They and fines. This is a scale business, which is most
blend coal from different sources to supply the right profitable for firms with access to blending terminals
quality product as cost-effectively as possible. and multiple sources of supply.
Most traders have cornerstone contracts with key
Iron ore and steel mills customers for the bulk of the ore they supply. They
The steel industry is a major source of demand for build up inventories comprising different grades and
coal and iron ore. Its market dynamics differ from types of ore to meet their requirements and will
the utility business in one key respect: demand is supplement this by trading on spot markets with
much more volatile. intermediaries and other steel mills.
Historically, steel mills maintained large iron ore
inventories, allowing them to respond rapidly to Crude oil benchmarks and characteristics
shifting demand conditions. But in recent years, as In its natural, unrefined state, crude oil ranges in
it has become more difficult for the steel mills to density and consistency, from a very thin, lightweight
obtain credit, inventories have shrunk from 40 to 10 fluid to a thick, semi-solid oil. There is tremendous
days. The mills increasingly rely on steel variation in colour, from golden yellow to very dark
Steel mills have
sales to generate cashflow and have black. The viscosity, toxicity and volatility (i.e.
outsourced storage outsourced storage to trading firms. tendency to evaporate) of oils determine how they
to trading firms Their lack of inventory contributes to can be used and transported.
a see-sawing iron ore price. Rather than Key measurements for crude include American
consuming iron ore and coal at a constant Petroleum Institute (API) gravity (inversely related
rate, the mills ramp up production when pricing is to density) and sulphur content (low sulphur grades,
advantageous and slow it down as steel demand falls. known as sweet, are less toxic).
Trading firms maintain large stocks and supply Grades are described by location and specified in
the mills according to need. They buy ore with detail. Benchmark grades are used as pricing indices
different purity levels from various suppliers and and for hedging.
blend it according to customer demand. With over 160 tradeable crude oil products, many
Iron ore can be supplied as lumps or in a fine- different refined products and numerous end-users
ground powder (fines) at various grades of purity. with highly specific requirements, blending
Mills pay a premium for high-quality lump ore as it opportunities abound in oil markets.
can be charged directly into the blast furnace. Fines
first have to be agglomerated into lumps, in a process
known as sintering, to prevent it smothering the
furnace. Lower grade ores must go through a series
of processes before they can be used to make pig
iron and ultimately steel.
THREE BENCHMARK CRUDES CRUDE OIL BENCHMARKS AND CHARACTERISTICS
4.0%
Sour
CHARACTERISTICS UNITS VALUES

3.5% Gravity ºAPI >31.1 = light
22.3-31.1 = medium
3.0% 10-22.3 = heavy
Dubai
<10 = extra-heavy
Sulphur content
API gravity 31,

2.5% sulphur 2%
Sulphur WT % <.5% of mass = sweet
2.0% >1% of mass = sour
Brent West Texas Kinematic viscosity CST Varies from light-liquid to
1.5% API gravity 38.06, Intermediate at 40º C tar-like, nearly solid
sulphur 0.37% API gravity 39.06,
1.0% sulphur 0.24% Vanadium ppm Useful for classification
Neutralisation Mg Measure of acidity
0.5%
number KOH/gr
Sweet
0.0% Pour point ºC Temperature at which a

10 20 30 40 50
liquid becomes semi-solid
Heavy API Gravity Light
and loses its flow
characteristics
Source: Industry reports
MAIN PETROLEUM PRODUCTS BY DISTILLATION TEMPERATURE
32.2° C - 104.4° C - 157.2° C - 232.2° C - 343.3° C -

< 32.2° C 426.6°+ C
104.4° C 157.2° C 232.2° C 343.3° C 426.6° C
Liquefied Gasoline Jet Fuel Diesel fuel Heavy fuel oil Bitumen Other
Petroleum Gas Regular gasoline Jet A1 Home-heating Normal (4%) Naphthas products
Propane (petrochemicals) Kerosene
Premium gasoline fuel Low sulphur
Special gasolines
Butane Unleaded content (2%) Light marine
Premium Very low sulphur White spirit Diesel
content (1%) Aviation gasoline Special fuel oils
Coke
Lubricant base
stocks
Paraffins - waxes
Source: US Energy Information Administration and IFP
Blending oil products Refiners and optimisation

There is no set mechanism for blending. Traders own Plants are constantly optimising their throughput
or lease storage or pipeline capacity. They work with processes based on feedstock costs, most profitable
partners, including the refiners themselves, to modify yields, operational issues and availability. In the US,
the gasoline blend so that it corresponds closely to it is common for plants to blend shale oil with heavy
pockets of demand. They may sell components for crude barrels. In the Far East, plants optimise their
the fuel to the end-user themselves. inputs by blending fuel oils with crude when fuel oil
Traders often make synthetic grades gets very cheap. Traders are continually looking to
Traders blend crudes of crude by blending sourced grades. In identify shortages in particular components at
to make synthetic the Mediterranean, the segregation of specific locations so they can source and sell these
grades for their Basrah crude into light and heavy blends to the refiners.
customers They blend
has resulted in traders blending heavy Blending is widely used to transform residual fuel
Basrah with light crude oils to arrive at a residual fuel streams that come out of streams to make
proxy for the Urals grade. In Louisiana, with precious refinery units into products for end-users. viable products
little virgin Light Louisiana Sweet (LLS) crude Supplies coming from refineries vary in for end-users
remaining, but with many local plants set up to take quality due to differences in refining unit
it, traders have been blending crudes sourced configuration and feedstock choices. Fuels have to
elsewhere to make cocktails for the refiners. While meet different regulatory standards depending on
most blending takes place at energy hubs that enjoy the use of the product (the quality requirements for
strong connectivity with energy transportation fuel used for vessels, for instance, differ from those
routes – a typical hub would be near leasable tankage at power plants) and they vary across regions.
and have ocean trade routes accessible – blending Blending is often the cheapest way to bridge the gap
happens at every stage in the supply chain. It occurs between demand and supply.
at the refiner, at terminals near the plant, at terminals
near points of consumption and at various points The rise of the super refineries
along the way. The rise of the super refinery is changing the dynamics
Sometimes traders do the blending themselves. of international oil trading.
For example, the trader may be able to buy discounted Refinery operations are increasingly consolidating
barrels from a refiner who is producing too much into regional mega-hubs. The world’s twenty largest
summer-grade gasoline as winter approaches. By (often newly-built) super refineries today are located
adding in butane he can create a more cost-effective in Asia (nine), the US (five), the Middle East (four),
fuel that meets the winter-grade specification. Latin America (one) and Europe (one).
On other occasions, knowledge of blending Super refineries benefit from economies of scale.
requirements informs trading opportunities. Heavy They have the capacity to meet growing demand needs
and extra-heavy crudes need to be blended with and the flexibility to handle up to 50 types of crude oil.
light crudes to reduce viscosity and improve Smaller refineries across the developed world
pipeline transmission. This is typically done at source – which historically refined its crude locally –
by the producer. are closing in many countries, including in
This happens in Canada and also in Colombia and Australia, Canada and the UK. Former refineries
in Venezuela, where state-run producer PDVSA is are being repurposed. Puma Energy, for example,
keen to export its diluted crude oil (DCO). To do that recently acquired a refinery in the UK, which it has
it needs to obtain naphtha and light crude that can converted into a terminal and storage facility for
serve as diluent. This is a costly and logistically refined products.
complex exercise, but it is willing to engage in this Modern refineries are better equipped Super refineries have
trading to get its supplies to major market centres. to produce a wider range of refined more throughput,
Traders and intermediaries get to participate in the products as well as meeting more accept more types
of feedstock and
supply of the diluent. stringent environmental requirements, for
make more
Similarly, downstream, with ethanol and instance on sulphur. Local oil markets diverse products
biodiesel, two mandatory fuel mix products for US today need to be connected to these
gasoline and diesel products, distributors do the global super refineries. But with fewer refineries
blending. Traders get to participate by selling them available they can be thousands of miles away from
the required renewables. the ultimate market for the refined product.
Products need to be shipped reliably and safely to develop a product that meets the specification
over large distances. Efficient hub-and-spoke refinery more precisely and therefore more cost-effectively.
network and global operations offer great flexibility,
and are highly responsive to changes in demand, Balkanisation and US gasoline markets
supply shocks and other market adjustments. Most of us don’t think twice about the fuel we put
Transportation and storage are increasingly into our cars, but the convenience of the local service
pivotal in today’s global oil market, but blending still station and the ubiquity of this seemingly simple
plays an important role. With the emergence of the product belie the complexity of the markets and
super refineries, more blending opportunities have processes required to deliver it.
opened up as plants gain the ability to accept a wider It is a common misconception to think of gasoline
range of input. simply as an oil product derived from crude oil
through the refining process. While straight-run
The great gasoline giveaway gasoline, also called naphtha, is distilled directly from
Refiners try to manipulate ingredients to meet crude, gasoline as a product is far more complex.
market specifications, but they cannot always achieve The product specification varies according to where
this precisely. Depending on the ingredients available it is consumed, by whom and for what purpose. At the
and the processes they employ they may arrive at top level, refiners make at least two versions. Regular
an over- or under-specified blend. For the refiner, it gasoline is blended for standard vehicles. Premium
may make economic sense to deliver an over- grade gasoline is blended for high-performance
specified blend. It could be that there is a shortage vehicles with high-compression engines that require
of raw materials or perhaps the complexity of high-octane fuel to operate at peak efficiency.
optimisation outweighs its economic benefits. In the US there is a proliferation of standards.
Even so, these are market inefficiencies and they Several states have regional regulatory requirements.
create profitable opportunities for traders and other The Environmental Protection Agency (EPA) enforces
intermediaries. In oil trading parlance these sub- strict environmental controls. Unique fuel regulations
optimal blends are known as "giveaways". By have created gasoline zones across the country where
modifying such blends with other ingredients traders only certain fuels can be sold. This balkanisation of
are able to supply products that meet the US fuel supply has made it more expensive to
Gasoline giveaways market specifications more precisely and produce and deliver fuel, but it also
are profitable for more cost-effectively. creates trading opportunities. There are different
traders Giveaways erode refiner margins. Gasoline is a blend of 15 to 20 different fuels in different US
A 150,000 barrels-per-day refinery may components. The aim is to produce a states at different
times of the year
forego anything up to $30 million annually clean-burning, energy-efficient, cost-
in giveaways on gasoline, distillate and heavy oil sales. effective grade with low toxicity levels.
For gasoline blending, refiners often focus on Achieving the right combination is a complex
minimising octane giveaways. Other dimensions of process. Often, adding one ingredient strengthens
giveaways can be more complex to manage. one attribute at the expense of other
Volatility in fuel fluctuates according to altitude desired characteristics.
and ambient temperature. Far more than in, say, Butane for instance is a relatively cheap fuel with
Europe, the US caters for these fluctuations by good burning properties. Gasoline with more butane
allowing states or regions to specify particular blends is cheaper to produce and has higher octane levels,
to reflect climatic differences; not only seasonal, but but butane’s high Reid vapour pressure (RVP) makes
also geographic, such as between the low-lying sub- it prone to rapid evaporation. That limits the extent
tropical Gulf, the high plains near the Rockies, and to which it can be incorporated into blends.
California's Mediterrean-type climate. A refiner Volatility – a gasoline’s tendency to vaporise – is
producing gasoline for multiple US states may have the key gasoline characteristic for good driveability.
to make blends with several different volatilities and Liquids and solids don’t burn; vapours do. Gasoline
change the volatility from month to month. has to vaporise before it can ignite in an engine’s
Not surprisingly, given the amount of capital combustion chamber. In cold conditions, gasoline
involved, optimisation is going on all the time. It is that vaporises easily helps a cold engine start quickly
not always a case of the traders physically combining and warm up smoothly. Warm-weather gasoline is
elements themselves but the aim is always the same: blended to vaporise less easily to prevent fuel
handling problems and control evaporative emissions

Opportunity and optionality at Corpus Christi
that contribute to air pollution.
In 2011, Trafigura identified an opportunity at
Refiners therefore produce blends with lower Corpus Christi in Texas to provide a faster, cheaper
RVPs for use in warmer regions. Gasolines with higher outlet than the often congested port of Houston
RVPs are more suitable for colder climates. for the output of the Eagle Ford shale formation. In
The US maintains different RVP standards for seizing the opportunity, Trafigura transformed its
summer and winter to reflect temperature-related role in the US energy markets from importing
African crude to handling sizeable quantities of
changes in performance.
domestic crude and exporting naphtha and LPG.
Summer-grade gasoline typically contains just Trafigura bought out Texas Dock and Rail which
2 percent butane. It costs refiners several cents more had a ready-made deep water dock that could
per gallon to produce than the winter-grade gasoline, accommodate big tankers as well as a tank farm.
which may contain up to 3.5 percent butane. The latter particularly needed expanding as the
As the science has developed, new environmental highly variable output of Eagle Ford called for a
terminal with blending facilities. Over the next
standards have emerged. In the 1980s, scientists
three years, Trafigura invested in a pipeline system
discovered that adding certain oxygenate
from Eagle Ford to Corpus Christi, and planned
compounds, including methyl tertiary butyl ether two ‘splitter’ mini-refineries, producing refined
(MTBE) and ethanol, made gasoline an easier-to- product for export.
burn product with reduced polluting output. MTBE Control of this infrastructure gives Trafigura a
has since been withdrawn, because of other polluting lot of optionality. It can choose to send crude to its
effects, but ethanol is widely used. This oxygenated splitters and then export the product. It can sell
crude into foreign markets. It can also sell it
blend is known as reformulated gasoline (RFG).
regionally to be blended with Light Louisiana Sweet.
Environmental legislation in the US requires all And it can export naphtha to Asia, Latin America
gasoline to be blended with ethanol or some other non- and Europe where this is a popular feedstock.
fossil component before it can be sold to customers. This optionality – beloved of commodity
The Environmental Protection Agency (EPA) has set a traders because it enables them to make
5.9 percent legal minimum level of ethanol. Some states opportunistic arbitrage trades – was preserved
in 2014 when Trafigura sold 80 percent of its
have imposed a 10 percent legal minimum. Reformulated
Corpus Christi operation to Buckeye Partners for
gasoline is now mandatory in many parts of the US, $860 million. Trafigura retained a 20 percent
particularly in urban areas prone to smog. stake and commercial rights to 100 percent
But ethanol has a problem: it attracts water. When of the throughput.
gasoline mixed with ethanol is pushed through steel
pipelines or plumbing at oil refineries they become
much more prone to corrosion. For this reason,
ethanol blending normally happens at or
Refiners make BOBs near the point of consumption.
that are ready for US refiners therefore produce a type
blending of gasoline ready for blending with ethanol
on delivery. CBOB (Conventional
blendstock for oxygenated blending) and RBOB
(reformulated blendstock) are the two base gasoline
stocks. On the adjacent map, all of the colour-coded
areas require different formulations based on RBOB.
The white areas use CBOB as the base stock. Other
BOBs include EuroBOB (refined in Europe for use on
the US east coast) and CARBOB (a special RBOB
formula mandated by the state of California).
The complex nature of the US market creates
many opportunities for gasoline traders. Operating
profitably in these markets requires a multi-
disciplinary approach. A successful gasoline trader is
part-chemist, part-distributor, part-salesperson and
part-logistics expert.
US GASOLINE REQUIREMENTS VARY BOTH REGIONALLY AND SEASONALLY
California
Oxygenated Fuels
CA RFG
CA OXY RFG
AZ CBG
Oxy Fuels/7.8 Summer RVP
Oxy Fuels/7.0 Summer RVP
Conventional
vCHI/MIL RFG w/Ethanol
N RFG w/Ethanol
S RFG w/Ethanol
7.0 Summer RVP
7.8 Summer RVP
7.8 Summer RVP No 1 psi EtOH Allowance
Conv, No 1 psi EtOH Allowance
Source: ExxonMobil, June, 2015.

This map is not intended to provide legal advice or to be used as guidance for state and / or federal fuel requirements, including but not limited
to oxy fuel or RFG compliance requirements. ExxonMobil makes no representations or warranties, express or otherwise, as to the accuracy or
completeness of this map.
Chapter 9. Delivering commodities: meeting customer specifications
Chapter 9
DELIVERING
COMMODITIES:
MEETING CUSTOMER
SPECIFICATIONS
As markets become more efficient, commodity trading is evolving
into a low-margin service business. Increasingly, traders make their
living by providing a solidly reliable logistics service between producer
and consumer.
There is growing emphasis on service in the company, for instance, it needs to deliver its cargo
commodity industry. With more intense competition in the right volumes, at the right quality, at the agreed
and better information, markets are more transparent, time and at the agreed place. Should it fail to deliver,
margins thinner and arbitrage opportunities more there is a high price for the end-user, with the risk of
fleeting. The most successful trading firms are power outages and even popular unrest.
focusing on producer and end-user priorities. This is a low-margin business. Trading firms
In an industry governed by economies of scale typically earn 3 percent or less on a given transaction.
and close trading relationships, there is space for Given the cost of transportation, insurance and the
niche players that cater to specialist markets and operational risks they take on, this is by no means
regions, and for larger global trading firms that excessive. The trading firms that deliver service
can afford to invest in logistics and infrastructure most efficiently will gain a competitive advantage.
that benefit their customers. Market conditions The trading firm’s role is far broader
Trading firms rely on
are much more challenging for medium-sized than that of a mere broker. It justifies its high-quality
trading firms. involvement by the high level of service operations to
The customers for commodity trading it provides to commodity producer and execute
Key tenets for firms are often strategic organisations in consumer alike. Ensuring execution transactions
successful delivery
their respective economies, such as progresses smoothly and within profitably
government agencies, energy-intensive budgeted parameters is therefore
manufacturers and utilities. Any disruption in their critical to business profitability.
supply chains can have far-reaching consequences. Like any other multinational business, commodity
Reliability is fundamental. If a trading firm wants traders may be operating in places that are blighted
to forge strong trading relationships, it has to be able by geopolitical division, subject to international
to deliver commodities on spec and on time, every political sanctions, and prone to corruption and
time. If it is supplying coal to a power generating money laundering.
While most commodity consumers are in All documentation needs to be accurate and up
industrialised nations and emerging economies, to date. The firm’s trade finance department ensures
mines and wells are scattered across the globe. They that the documents accompanying a letter of credit
are usually located away from major urban areas, are in order. Before the ship carrying its cargo can
often in developing economies. Trading firms may embark its master needs to sign a bill of lading, a
need to create, supplement or enhance local standard form document that confirms the title
infrastructure to make transportation affordable. holder of a cargo shipment and obliges the carrier to
Commodity trades span the globe. They can release it to them on arrival at the destination port.
involve counterparties that may not know each other, Insurance provision needs to be in place.
let alone trust each other. One way that trading firms It takes great care and skill to execute deals
add value is by building up trusting relationships with precisely, managing continuing operational risks
their counterparties. They set up detailed protocols while preserving corporate reputations. Companies
for trading and delivery to minimise risk and maximise not disciplined enough to fulfil their various
certainty. These need to be followed to the letter. obligations and responsibilities may find themselves
Large trading firms manage significant numbers taking on large risk exposures quite unintentionally.
of transactions. They must consider all aspects of As competition has intensified, alliances
They strengthen
operational risk, put systems in place, take out between trading firms and other market supply chains by
insurance and audit the delivery process. A company participants – based on shared interests, supporting their
like Trafigura takes on more than 2,000 ship voyages complementary capabilities and mutual customers
a year. The sheer volume of activity makes it hard to benefit – have become increasingly common.
monitor each and every risk on a given flow of For consumers, long-term arrangements increase
business without a clear system and well-understood, certainty and reduce volatility. The trading firms gain
carefully thought through procedures. from having consistency of supply.
Commodity trading firms employ a
They appoint WAYS COMMODITY TRADING FIRMS SECURE
specialists and
relatively small number of people to
handle numerous high-volume, high- RELIABLE CONSUMPTION OUTLETS
independent
inspectors to value transactions. They put protocols in
manage processes place to supervise and monitor processes
on the ground so they can identify and pre-empt any
problems or issues that may arise. 1 Downstream integration
Once the trader concludes the deal,
he hands the execution to an operator. The operator
coordinates logistics to make sure all the right
resources are in place for the right dates. That means
working with the contracts department and the 2 Joint ventures
shipping department, appointing inspectors to
measure the quantity and quality of what’s in the
tanker, appointing vessel brokers and agents, dealing
with those responsible for loading and discharge, the
terminal operator and, of course, maintaining 3 Financial support
relations with the customer. The operator also has
to keep the deals desk up to date with any information
that could affect hedging strategy or the profitability
of the trade.
Operations teams focus in depth on cargo 4 Technical support
certification. They assess whether the quantity and
quality of the cargo needs to be certified by an
independent inspector. This may be specified as a
requirement in an accompanying letter of credit.
Trading firms will normally appoint agents to act as 5 Long-term supply contracts
their representatives, certify cargo and manage
delivery of shipments.
Top ten copper smelter In 2017, world copper smelter in 2017 as smelter production in
producers in 2017 production reached over China expanded rapidly. Primary
19 million tonnes. Asia’s share smelters use mine concentrates
of world copper smelter output as their main source of feed.
more than doubled from Secondary copper smelters use
27 percent in 1990 to 56 percent copper scrap as their feed.
USA China
and
Pol
% 2.71% 37.91%
y 75
rm
an 2.
4%
Ge
3.0
3. orea
%
K
18
S.
bia
%
Zam
4.07
4.42%
India
%
4.47
sia
Rus
7.
26
%
Ch
ile
7.8 8 %
Ja pa n
Source: Wood Mackenzie 2018

Trading is a volume business. By locking in long-

Puma Energy
term trading patterns they are better able to invest
Puma Energy is Trafigura’s industrial go-between in
in infrastructure, improve economies of scale and the oil sector. Founded in 1997, it has grown from
gain competitive advantage. modest roots retailing petrol in Argentina into one
But they cannot achieve this simply by providing of the largest independent global downstream
goods at the lowest price. They have to engage companies, operating over 48 countries.
with customer problems and demonstrate how they Trafigura took majority control in 2000 and
made it the vehicle for acquiring fixed assets in the
add value.
oil sector. In order to assist Puma Energy’s growth,
As arbitrage becomes more fleeting, there Trafigura has subsequently opened up the capital to
are greater incentives to acquire assets and outside investors, and in 2017 held 49.6 percent of
integrate downstream. the company's shares.
Developing new marketing outlets is a core part of Puma Energy provides logistics and services to
the trading firm’s business model. They pursue various third parties as well as Trafigura from its midstream
assets, such as bulk storage depots and offshore
strategies to strengthen consistency of supply.
mooring systems.
They provide technical expertise and infrastructure
In its downstream business supplying petrol
support. For instance, where utility companies are stations, mining companies, airlines, shipping
migrating from coal to cleaner fuels, trading firms companies and so on, Trafigura is Puma Energy’s
work with them to adapt their facilities to new fuel preferred source of supply.
types. In LNG markets, trading firms are working It has storage facilities in the major hubs of
with consumers to internationalise the gas business Singapore and Rotterdam-Antwerp. But it has
focused its growth in countries from where the oil
by encouraging take-up of FSRUs (floating storage
majors have retreated, where markets are opening
and re-gasification units). up and where oil demand remains strong.
In other cases, financial support can help forge closer It invests in territories where there is a logistical
links. In 2015, Trafigura took a minority stake in Nyrstar, bottleneck in the market. In Namibia, for example,
Europe’s largest zinc mine and smelter group. The two it bought up BP’s downstream business then rebuilt
companies announced that Trafigura would its outdated storage facility. In Australia, it has
They extend supply bought a large network of retail service stations
market its zinc concentrate to Nyrstar’s
chains by acquiring and is building new terminals to accommodate big
smelting business. Trafigura also acquired ships from international hub ports.
downstream assets
rights to Nyrstar’s zinc output via a
$150 million prepayment deal.
A notable development in energy markets in
recent years is the integration of some large
trading firms into downstream distribution in
emerging markets.
There is a strong economic case for the integration
of midstream and downstream functions in emerging
markets. These markets are typically relatively small
with underdeveloped infrastructure requiring
additional investment. In many cases they were
previously controlled by vertically integrated oil
majors. When the majors exited these markets to
focus on their upstream activities, trading firms,
which can supply downstream markets in emerging
economies very efficiently, were natural buyers.
Puma Energy, originally a wholly owned subsidiary
of Trafigura, has acquired significant midstream and
downstream capacity. It owns and operates fuel
storage and marketing businesses over 45 countries.
Trafigura retains a substantial minority interest in
the business and remains its most important fuel
supplier, as it is in turn Trafigura's largest customer
(see adjacent box).
Executing
the trade:
operations
in action
Structuring and maintaining an 3
efficient operating model is at the
2
heart of profitable commodity
trading. The operations team of
any commodity trader has an
important role in helping to define
and refine protocols that allow
the trading firm minimise risk
and reduce costs. 1
1 Loading and discharge weather systems affect shipping tasks, supervise loading and
Managing efficient
speeds, fuel consumption and unloading of cargo, and are
execution Every day a vessel remains in dock
trade routes. Charterers that responsible for arranging pilot
In commodity trading firms, or at sea waiting to load or
exceed the agreed rental period and tug-boat services.
the trading operation is at the discharge results in both
must pay a demurrage fee. The
hub of the company. It opportunity costs and actual costs 4 Appointing inspectors
operations team monitors
controls the commodity for the trading firm. The contract
demurrage risks and notifies Both the volume and the quality
inventory and has overall between the charterer and the
trading teams when schedules of commodity shipments can
responsibility for managing shipowner specifies agreed time
come under pressure. change while in transit.
the supply chain activities for loading and unloading
Sometimes, this is anticipated
required to transform (laytime). The operations team 3 Vessel brokers and agents – with crude oil shipments for
transactions into profit for the needs to coordinate chartering
Global trading firms undertake instance, there is always some
company and value for its dates, arrival and loading, and
numerous high-volume, high-value residue left in the tanker. In other
customers. From the moment destination and discharge
transactions involving thousands cases, the cargo may have been
the deal is closed until schedules to minimise lost time.
of journeys each year. They liaise stored incorrectly, its chemical
ultimate delivery, the
2 Demurrage with brokers to charter vessels. properties may have changed, or
operations team is responsible
They use agents to manage there is a discrepancy in volumes
for execution of the myriad Trading in the physical world
logistics and represent their loaded and unloaded at various
processes required to achieve doesn’t always go according to
interests while their ships are in stages. To prevent the expense and
this objective. plan. Ships develop faults, and
port. They oversee administrative disruption of disagreements
4
7
between buyers, sellers and warehousing rental and chartering separate insurance programmes best strategy to recover value on
logistics providers, trading firms costs as well as for the material for property, liability, political distressed cargo?
appoint independent inspectors to itself via suppliers and receivers. risk and trade credit general
certify the quality and the Financing arrangements are put in insurance. The shipper may cover 8 Auditing
quantity of cargo. place (e.g. letter of credit) and if a specific cargo with its own Most operations go to plan but
applicable an operator tracks and policy. If not, the trading firm where this does not happen it is
5 Accounting for controls the pricings of cargo may take out special marine the job of the operations team to
physical flows and allocates them to shipments policies to cover shipment. work out who is at fault and
Profit and loss (P&L) can be for invoicing purposes, while establish how best to recoup
affected by many known or monitoring exposures. There 7 Troubleshooting money for the firm. With a
unknown factors. Effective and will also be unknown or Most transactions work like complex supply chain, issues can
vigilant contract management is unpredictable factors, such as clockwork, but when things get arise during storage, blending and
mandatory. The operations team force majeure by a supplier, bad more complex the operations transportation. The operations
will keep the trading back office weather or engine failure, which team has to negotiate the best team will reconcile volumes and
up to date with the latest news may result in P&L impact. remedial action. Who is at fault if qualities at every stage in the
while monitoring the life cycle a correctly loaded cargo arrives process to pinpoint discrepancies.
of the trade. This includes 6 Insurance off-spec or the quantities can't be
tracking payments and receipts The operations team checks that reconciled? Does the trader sue Play the video online
for known costs such as port fees, insurance provides adequate the inspector, claim insurance or www.downloads.
agency fees, inspection costs, coverage. Trading firms maintain accept the loss? And what is the commoditiesdemystified.info

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Section B

How Commodity Trading Works

Reducing overall cost Trading firms have to deliver shipments at their

Trafigura reinvents logistics in Colombia

Overseas transportation Wet and gas freight

Top ten exporters of gas

(pipeline and LNG combined) in 2016

(billion cubic metres) .33

Source: World Oil and Gas Review 2017, ENI So

Top ten importers of gas

(pipeline and LNG combined) in 2016

(billion cubic metres)

Source: World Oil and Gas Review 2017, ENI

GLOBAL LNG SHARE OF TRADED GAS

21.73% 22.67% 30.37% 31.94% 31.05% 30.74% 32.56% 31.45% 31.31%

78.27% 77.33% 69.63% 68.06% 68.95% 69.26% 67.44% 68.55% 68.69%

Source: World Oil and Gas Review 2017, ENI

Why trading firms invest in A strike at a mine, political unrest, unseasonal

Contango and backwardation

Impala Terminals Global storage for oil

The Brent futures curve moved from

BRENT CRUDE OIL SPOT PRICE: MAY 2014 - MAY 2016

BRENT FUTURES CURVES: MAY 2014 - MAY 2016

Source: Trafigura research, 2016

BLENDING PRODUCT TO CHINESE SPECIFICATION

BUY BLEND SELL

THREE BENCHMARK CRUDES CRUDE OIL BENCHMARKS AND CHARACTERISTICS

CHARACTERISTICS UNITS VALUES

API gravity 31,

0.0% Pour point ºC Temperature at which a

MAIN PETROLEUM PRODUCTS BY DISTILLATION TEMPERATURE

32.2° C - 104.4° C - 157.2° C - 232.2° C - 343.3° C -

Blending oil products Refiners and optimisation

handling problems and control evaporative emissions

US GASOLINE REQUIREMENTS VARY BOTH REGIONALLY AND SEASONALLY

Oxy Fuels/7.8 Summer RVP

Oxy Fuels/7.0 Summer RVP

vCHI/MIL RFG w/Ethanol

7.0 Summer RVP

7.8 Summer RVP

7.8 Summer RVP No 1 psi EtOH Allowance

Conv, No 1 psi EtOH Allowance

Source: ExxonMobil, June, 2015.

Source: Wood Mackenzie 2018

Trading is a volume business. By locking in long-

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