Trading in turbulent market helps BP and Shell secure huge profits

British oil giants BP and Shell announced huge quarterly profits this month, sparking calls for a windfall tax to ease the burden of bills on struggling families. Tesco chairman, John Allan, this week argued there was an “overwhelming case” for a one-off levy on North Sea extractors. While the focus was on their oil production businesses, both “supermajors” have benefited from a huge boom in trading revenues.

BP and Shell do not simply produce and sell oil, they employ thousands of traders whose job it is to buy and sell oil produced by other companies. They profit from speculating on swings in the oil price, and the choppier the market, the higher the potential earnings.

The pandemic and the war in Ukraine have caused markets to whipsaw, creating ideal conditions for those betting on price movements. Petrol prices at the pumps are at record highs, up 16% this year on top of a 50% surge in 2021. Wholesale gas prices are up near 400% since the invasion of Ukraine. The volatility has made hydrocarbons popular with institutions and bedroom day traders alike. More than 100m barrels a day of oil and other petroleum products are traded.

For many years oil trading was a small offshoot of the bulging multinationals, now it represents a vital profit engine, the well-groomed cousin of the dirty, hard-hatted world of riggers and drillers.

In London, oil traders typically earn about £102,000 a year but can snare large bonuses based on their performance. Last year, Vitol’s Top 350 staff shared a £2.1bn bonus pool – equivalent to £6m per person.

Although the sector is dominated by commodities specialists Vitol, Trafigura and Glencore, extractors are a huge presence.

But there is no transparency. BP and Shell do not split out the numbers for their trading divisions, meaning those looking for answers have to make do with estimates.

In its bumper first quarter results, BP trumpeted “exceptional” trading, outstripping last year. The firm employs about 3,000 people across its vast trading floors in London, Houston, Chicago and Singapore. Analysts at Alliance Bernstein estimate that BP notched up $1.3bn in gas trading profits between the start of the year and the end of March, and $1.1bn for liquids trading – a total of $2.3bn, just over a third of its $6.2bn in profits in the first quarter.

Shell’s trading profits are harder to estimate, but the division containing its trading business, which also includes exploration and extraction, saw adjusted earnings jump to $6.3bn in the first quarter from $3.4bn in the same period a year earlier. Shell makes as much as $4bn a year from trading oil and gas, while BP notches up $2bn to $3bn, Bloomberg reported last year, citing sources close to the companies.

Sinead Gorman, chief financial officer of Shell, told the Guardian: “Our trading business has done very well – it of course has the benefit of being linked very strongly to our underlying assets,” she said.

The specialists are expected to do well this year. Glencore raked in $3.7bn from its trading arm last year and is on course to easily beat its long-term guidance range of $2.2bn to $3.2bn this year. It would be the third consecutive year the FTSE 100 firm has beaten forecasts, on the kind of form which earned it the nickname ‘The Millionaire Factory’ before its float which enriched an army of executives a decade ago. Vitol, the world’s biggest independent oil trader, made a record net profit of just over $4bn last year, while rivals Trafigura, Mercuria and Guvnor also boasted of bumper earnings.

It’s a sector built around financial instruments. Oil companies can agree immediate ‘spot’ prices or ‘futures’ contracts, in which set prices for set amounts of certain oil are agreed upon in advance. Companies will often lock in cheap oil and then hedge against the price heading in the other direction.

Traders do not necessarily need to take delivery of the physical oil under a futures contract, and can settle in cash if it is no longer needed. In fact, it is estimated about 13 times the physical amount of oil is traded through purely financial contracts. This means the price paid at the pump in Britain is as much to do with trading conducted on exchanges in the US as the amount of oil arriving into ports.

Another common set of instruments are ‘call’ and ‘put’ options, which allow traders to bet on making a profit if prices exceed or fall below a certain price.

“You may take a view on the difference in price between Russia and non-Russian oil. Then you speculate that, if sanctions come in, the Russian oil will fall in value and others will rise – so you can trade the difference,” says Bill*, who ran a joint venture with one of the world’s biggest commodities traders.

“We are driven by greed and fear. If something is going up in price knowing when the right time to sell is crucial, you need to recognise that,” he adds.

But it’s a profession which comes with significant risk. In the early 2000s, Bill was encouraged to travel down from the Port of Grimsby to London to meet a group of US executives making waves in the energy market. “I walked through a huge floor of sharp-suited traders in Canary Wharf. They explained how they were trading the markets and, at the end of the meeting, I thought: ‘either I’m thick or these guys are charlatans’,” he recounts. The business was Enron. It would soon implode in one of the biggest accounting scandals in corporate history.

Enron’s collapse has become a cautionary tale about the dangers of arrogant management and complex accounting. It has also fed into the image of an industry with independent players willing to take the risky – but potentially rewarding – bets made by Wall Street investment bankers.

This was underscored when little-known outfit Vega Capital made a reported £400m on the collapse in the oil price in 2020. The 12 traders, dubbed “the Essex boys” have since been accused in US courts of manipulating markets and violating antitrust laws. They have moved to have the lawsuit thrown out.

In The World For Sale: Money, Power, and the Traders Who Barter the Earth’s Resources, written by two Bloomberg energy specialists, BP sources claim the company made $150m to $200m in a single trade in 2016. Former chief executive Bob Dudley secretly sanctioned the decision made by a management team – because the trade was too large for an individual to be held responsible – to bet Brent crude would finally improve after a sustained fall. It proved a watershed moment for BP’s traders, who profited as oil bounced back.

Without a swift end to the war, 2022 could prove equally seismic for traders.

*name has been changed