John Arnold Closing Centaurus Energy Master Fund As Central Planning Slowly Kills Off Commodity Trading

Tyler Durden's picture

More troubles for the nat gas world, as flashing red headlines confirm the inexorable trend which started years ago with the departure of more and more hedge fund titans who no longer have an advantage in a world where only liquidity matters.

  • NATURAL GAS HEDGE FUND MANAGER JOHN ARNOLD TELLS INVESTORS HE IS CLOSING CENTAURUS ENERGY MASTER FUND - RTRS

Why is this not a surprise? Simple. As the FT reported earlier, take virtually everything you know about the nuances, the complexities, the intricacies of commodity trading... and shove it. But don't forget to thank the Chairman first, because the last bastion of "veteran advantage" in what used to be a rational trading arena, is now gone.

Once upon a time...

In the world of financial markets, few foreign exchange traders have had experience working in a bureau de change.

 

The same pattern applies for bond traders, who are unlikely to have experience of raising money directly on behalf of a company.

 

But this is not true in the world of financial commodities trading, where knowing the physical aspects of the business is regarded as an important, if not crucial asset.

 

Knowing how to analyse supply and demand and piecing together fragments of information gleaned from moving raw materials gives those with a physical trading background an edge, say analysts and hedge fund managers.

 

Indeed, most heads of commodities at the top investment banks started their careers trading physical commodities.

Then something funny happened:

Blythe Masters, the head of commodities at JPMorgan may be among a handful of those in top investment banking posts who have a pure derivatives background. However, some bankers and hedge fund managers suggest that she may be a vanguard, and that in 10 to 15 years many of the investment banks’ heads of commodities will not have experience in physical commodities trading – rather it will be in financial markets.

Why does this matter? Because it goes to the heart of the matter - no longer does supply and demand matter, no longer is anything like inventory, contango, backwardation, storage premium or all those concepts which mattered in a different physical-based world, even remotely relevant.

Because nobody cares any more about physical assets: everything is a rehypothecated copy of a rehypothecated copy of a rehypothecated copy...

As commodities are increasingly driven by factors other than supply and demand, people from a financial background are becoming more important,” says one head of commodities at a leading bank.

Which means that those left trading commodities are simply those who best know how to leverage beta, while completely ignoring alpha, of which CDS creator (aka nearly infinite leverage on an uncollateralized product) Blythe Masters, running JPM's commodity desk, being the supreme example:

To many in the commodities industry, such a comment is akin to blasphemy, but the number of financial traders in banks and hedge funds who don’t have physical commodities trading experience is rising. “You have funds who really don’t give a monkey’s [sic] about physical trading,” says one hedge fund manager who used to be at Cargill.

 

The increased correlation of commodities to other financial assets and the larger influence of macro factors has made supply and demand analysis less critical. The rise in the amount of available information has also meant that the edge the physical traders have over pure financial players is much smaller than it used to be.

 

We used enter into a physical transaction purely to get more information than everyone else,” says a former physical energy trader. “But the era when you lost money on the physical trade in order to make money on derivatives is probably over.”

 

And it is not just the nature of commodities trading that is driving the decline in financial traders without physical experience. The sheer number of pure physical traders trained by market leading companies are on the decline.

So to all those in the commodity space who think there are vast intricacies associated with being an industry veteran which leads one to being "better" at anticipating risk, predicting price movements, and everything else that makes a successful asset manager, sorry. You are now an extinct breed. The truth is with supply and demand irrelevant, something that has been the case for nearly a decade now, and the only thing that matters being how much liquidity "flow" comes from the central banks, it is time to unroot everything one has learned about pricing commodities, and strat from scratch. In fact, the TBAC said it best earlier.

"Anticipation of central bank behavior has become a significant driver of market sentiment."

Here we would replace "significant" with "only" and agree 100%.

As for those expecting a nat gas liquidation in the aftermath of Centaurus' fund closing: you are probably right... Unless of course some central bank eases overnight and floods the market with another trillion in new binary fiat which promptly has to be allocated to some hard asset.

Like nat gas, in the process setting off another massive short covering spree.

Some more from Reuters:

Legendary natural gas trader John Arnold is closing down his flagship Centaurus fund, a source said on Wednesday, as the former Enron wunderkind struggled to maintain outsized returns with prices near 10-year lows and regulations tightening.

 

The Centaurus Energy Master Fund is the biggest one that is open to outside investors, the source said. Arnold had a total of about $4 billion assets under management last year, although the source estimated that the Master Fund held around $2 billion.

 

After the fund suffered its first-ever annual loss in 2010, Arnold, who turned 37 last year, reduced its size because of diminishing market volatility and tough new limits on commodity speculators. He returned $1 billion of capital to investors last summer. The fund gained less than 10 percent in 2011.

 

Initially renowned as one of the youngest and best traders to emerge from Enron over a decade ago, Arnold went on to make his name as one of the most aggressive and successful hedge fund managers in the volatile natural gas markets, accumulating a $3 billion personal fortune, according to Forbes.

 

He is not the only commodity fund manager to opt out after one of the most industry's difficult years. Pierre Andurand and his partners said a month ago they would shut down BlueGold Capital, an oil-oriented fund, after a 35 percent slump in 2011.

Welcome to a world in which nothing matters except what a central bank does at any given instant.

Enjoy.

Arnold's farewell letter below:

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Peter K's picture

All too apparent in the FX market.

Mr Lennon Hendrix's picture

Anyone else having a problem logging onto chat?

ndotken's picture

Modern day commodity trading strategy:  Borrow from Fed at 0% ... leverage the hell out of everything ... when that fails, develop an exotic hairbrained derivative strategy to bet the farm ... then when you lose everything, steal your customer's funds ... go before Congress and say things were chaotic and you have no idea where the money is ... then thumb your nose at the entire world and say "fuck all ya's"

John Law Lives's picture

Also have Hank Paulson go before Congress and tell them the world will stop spinning if the TBTFs don't get another bailout.

Manthong's picture

And this makes commodity trading different than contemporary stock trading how? 

resurger's picture

fuck all that ... borrow at 0% and party party party ... hey mama! i want to party party ...

DaveyJones's picture

you forgot: use some of your client's stolen funds to bribe the corrupt excuse for public servants so when you go before congress you can both pretend anything but that motivated their public interest decision 

vast-dom's picture

sheer insanity! but at end of day it's not too easy to rehypothecate the rehypothecation on actual physical gallon of gas at the pump, or is it and to which degree of Nth?

King_of_simpletons's picture

My worry is what are all these banksters going to do once they are put out of business en-masse... They have been programmed to loot and they will be putting their beautiful mind at work one way or another. What will they loot next ?

mr1963's picture

Not the only reason. The CME just sent their interpretation of the new CFTC regs. There used to be 4 categories for margin, Member, Spec, Hedge and Omnibus. Member and Hedge books could be margined at maintenace levels, they changed the regs to be only Hedge books can be margined at maintenance. Members now have to be the equivelent of speculator margins. So, instead of 100% of the maintenance requirement, it's now 135%. The business will move to a place where they can get better leverage.

mr1963's picture

Not the only reason. The CME just sent their interpretation of the new CFTC regs. There used to be 4 categories for margin, Member, Spec, Hedge and Omnibus. Member and Hedge books could be margined at maintenace levels, they changed the regs to be only Hedge books can be margined at maintenance. Members now have to be the equivelent of speculator margins. So, instead of 100% of the maintenance requirement, it's now 135%. The business will move to a place where they can get better leverage.

Buck Johnson's picture

They can't compete with a market that is controlled and go against much of their forecasts and predictions.

barliman's picture

 

Natural gas ... it has become its own joke line.

I was talking with a doctor a few weeks back. He was wondering about taking a position in natural gas.

I suggested a few weeks in a Mexican prison would probably be more enjoyable.

No, he wasn't a proctologist.

barliman

hedgeless_horseman's picture

 

 

Equities, too...

Fri, 09/03/2010 - 11:41 | Link to Comment hedgeless_horseman

Fundamental analysis? Earnings? Technical analysis? Charts? We don't have a prayer when Ben has his finger on the button under the table.

You can take the ghosts of Graham, Dodd, Edwards, and McGee, as well as every CFA on the planet to manage a portfolio. I'll take one insider at 33 Liberty and my performance will wipe the men's room floor with your's.

Love your spirit, kid. Now get back to class.

http://www.zerohedge.com/article/ecri-declines-again-pass-below-double-dip-10-threshold-again#comment-562073

 

slaughterer's picture

UGAZ / DGAZ  ==>  love em.  With these proctology leveraged ETFs I don't need a hedge fund manager.  

Ben Burnyankme's picture

But, but inventory, storage premium etc... are still relevant in the manufacturing of FRNs , I mean toilet paper. No?

GeneMarchbanks's picture

'Welcome to a world in which nothing matters except what a central bank does at any given instant.'

Always been there. Only the perception has changed. The mythology no longer works.

Cone of Uncertainty's picture

This is what happens when we no longer have markets...people say fuck it and go Galt.

ACP's picture

This is probably the most important article in a while. Bernanke (and the Central Criminals) are destroying pretty much everything everyone has worked for their entire lives.

vast-dom's picture

agreed. scary shit.

rlouis's picture

The longer it goes on, more markets will look like residential real estate: totally ##cked up. The people who know how to make real product and move it at value will be gone.  This could be a lot worse than price destruction in Weimar.

alexwest's picture

#s the former Enron wunderkind struggled to maintain

isnt he supposed to be jailed for Enron trading in California?

PLEASE,, I BEG TO DIFFER..

what fuck gov/central banks have to do w/ trading in natural gas?
i'd say its quite opposite.. NOW NAT GAS TRADES PURELY ON demand/supply..

in short time USA became producer #1, LNG is coming big time , USA is gonna export lots of it.. so far supply is way wasy bigger of demand.. price is multi year low...

COMPARE W/ OIL TRADING.. or gold.. it is where we see invisible hand of govetment

as usual IDIOTIC POST
alx

lizzy36's picture

If you are such a genius and the post is so idiotic, why haven't you made $4 billion (arnolds net worth) on trading or exporting all that LNG?

junkyardjack's picture

You got dumped because your message does not back Ron Paul.  

Yes the Nat Gas price in the US is all supply, if it was driven by the fed prices would be running up. How are they printing money and causing the gas prices to drop?  The US has an abundant supply of Nat Gas and companies are over producing it so prices are dropping, they are trapped in a vicious cycle where the low prices are causing them to need to pump more to get the same total cash which creates even higher supply and pushes prices down further.  When these companies go out of business and the price drops so far that wells that are profitable now no longer are profitable then the supply will go down, or if they figure out a profitable way to export it like they do with oil when its cheaper in the US than the rest of the world so that demand rises then prices will come back up.  

Mikehy's picture

not quite true. The LPG's are a by product of the shale oil that we are producing. The costs of the gasses is incidental to if people are going to drill or not, its all about the crude barrels that they are taking out if the ground. Those crude (liquid) barrels are very profitable, and will be more so once the infrastructure is in place to support them.

John Self's picture

It was the power desk at Enron (and, mind you, nearly every other major energy company) that got in trouble for their activities in the California markets.  Arnold sat on the nat gas desk.

Tyler Durden's picture

Since it is likely beyond you to put two and two together, here is the explanation for the natgas "special case":

A key reason for the oversupply in natgas is because overlevered near-monopoly companies like CHK, already beyond distressed, which in any other rational parallel universe would have shut down or massively downsized, are able to find cheap financing which in turn allows them to perpetuate their livelihood and extend their money losing operation, to the detriment of price discovery absent central planning, as we discussed in our post on CHK, and why the company will likely have a far longer life than most expect... of course to the detriment of many other smaller companies who do not get the benefit of CHK's "crony capitalist" scale which to bankers is nothing but a source of investment banking refi fees every 3 years when its High Yield-based cap structure has to be refinanced. In the meantime those smaller companies will eventually go out of business because they are unable to deal with the new central planning normal.

This means that the price of the extracted commodity, in this case gas, is far lower than fair value, since the artificially subsidized supply (courtesy of ZIRP) pushes down on equilibrium demand.

The only reason for this is that there is so much other people's money floating around, in this case sourced from the Fed, that buysiders have no choice but to invest it in damaged companies like CHK for the simple reason of chasing yield.

Hopefully even you can understand this.

Cdad's picture

The truth is with supply and demand irrelevant, something that has been the case for nearly a decade now

Tyler,

As if it existed to confirm the above sentence, the US Energy Information Administration has checked in with Feb gasoline delivery numbers.  Note the gigantic bounce back :)

http://www.eia.gov/dnav/pet/hist/LeafHandler.ashx?n=PET&s=A103600001&f=M

tmosley's picture

This is a good explanation of what is going on with NG.  I have been laboring under the assumption that it was so low because it is difficult to export, and is limited to sale in a collapsed North American market.  I hadn't considered the effect of ZIRP on the cost of capital for these projects.

rjiver33's picture

I can't argue with CHK per se but a key reason for low nat gas prices is that many companies are chasing liquids rich (ngl/condensate) plays.  The economics are driven by the liquids component, which in the case of condensate (C5+) tracks light oil.  Wells in these plays can yield anywhere from 20-80 bbls/mmcf.  So even if gas goes to 1cent per mcf/GJ/mmbtu/whatever these wells will still produce and remain economic. The downward pressure on prices will continue until something gives with the NGLs imo. 

Not a good time to be in anything gas related (with the exception of say a utility).

JimmyTheHand's picture

Supply and demand in the commodity markets doesn't matter anymore?  HAHAHAHAHAH.....

Zola's picture

Dont worry, physical will make itself heard once again ... SHORTAGES... Idiot politicians once again.

loveyajimbo's picture

Gensler at the CFTC should be drug through the desert and then beaten, buggered and box-car'd.  he is an asshole of the first water, a crook, a liar... a heeb.

EmileLargo's picture

Arnold is already worth a few billion. Let him retire and enjoy his money. We work to live, not the other way round. 

Thisson's picture

I suspect BlueGold is being closed because it's become apparant that the US is *not* going to adopt cap and trade anytime soon. 

lizzy36's picture

Funny thing is natural gas is only commodity left that actually does trade supply/demand because of storage constraints.

But CFTC position limits were going to be a bitch for Hunter, despite the fact that he wanted to build his own salt cavern(s).

And lack of volatility in a commodity that once enjoyed a reputation for making and breaking millionaires in the space of a week, is very fustrating to most nattie traders.

John Arnold was a best in breed trader. Among many that have hung it up in frustration over the market becoming one more tool of the Central Bank and the Government.

John Self's picture

... wondering whether the reference to "Hunter" is a synapse misfire arising out of some association you place between Arnold and Brian Hunter...

lizzy36's picture

OMG that is completely FREUDIAN....and so funny. 

Thank you!

Desert Irish's picture

Lack of volatility!!! where were you the last 4 days.

lizzy36's picture

One would assume that when the largest HF in the space is closing out positions ahead of closing down, that the 25% run up has been explained.

Ironic way for John Arnold to go out.

Tyler Durden's picture

As pointed out above:

A key reason for the oversupply in natgas is because overlevered near-monopoly companies like CHK, already beyond distressed, which in any other rational parallel universe would have shut down or massively downsized, are able to find cheap financing which in turn allows them to perpetuate their livelihood and extend their money losing operation, to the detriment of price discovery absent central planning, as we discussed in our post on CHK, and why the company will likely have a far longer life than most expect... of course to the detriment of many other smaller companies who do not get the benefit of CHK's "crony capitalist" scale which to bankers is nothing but a source of investment banking refi fees every 3 years when its High Yield-based cap structure has to be refinanced. In the meantime those smaller companies will eventually go out of business because they are unable to deal with the new central planning normal.

This means that the price of the extracted commodity, in this case gas, is far lower than fair value, since the artificially subsidized supply (courtesy of ZIRP) pushes down on equilibrium demand.

The only reason for this is that there is so much other people's money floating around, in this case sourced from the Fed, that buysiders have no choice but to invest it in damaged companies like CHK for the simple reason of chasing yield.

midgetrannyporn's picture

CHK link broken.

 

btw, imo this argument is bordering on silly. It sounds like you are blaming zirp/tbtf for the oversupply which is still a supply/demand thing so both points are valid.

Tyler Durden's picture

The point is that under central planning and ZIRP there is no market clearing supply/demand, and that courtesy of the Fed price extremes can not be corrected by the market as zero cost money is always a primary driver in the marginal direction.

midgetrannyporn's picture

That reminds me of the old joke about the farmer who won the lottery. Asked what he would do with the money he said he would keep farming until it was all gone. LULZ

the grateful unemployed's picture

the fund managers at UNG had to go to swaps to track their positions, the exchange wouldn't allow their ETF to trade in size. while the consumer isn't getting much lift from low NG prices, transit companies, trash companies and schools are all converting. there is massive savings going to the public sector. but let's accept that this is the inevitable consequence of ZIRP and not the end game. why doesn't this work with crude oil?

but we have to be willing to accept the reality that if NG was widely available to drivers, the price would increase accordingly, people won't pay for something until its available, and your point applies as well to stock issuance, which according to supply demand equation, is dilutive, but in reality usually enhances the value of the stock as institutional buying enters where retail had been providing most of the volume. 

and lets put blame on POTUS who loves his electric cars (and solar) companies who kick back their subsidies in the form of campaign contributions. corruption plain and simple, or central planning. was al capone a central planner?

OpenThePodBayDoorHAL's picture

Anyone who still believes that the Fed's price-fixing the price of credit is harmless and good needs to wake up. Today Volcker would not be allowed to do what he did, take away the punchbowl. Instead we have one distortion after another. End the Fed.

I am a Man I am Forty's picture

Is the real TD finally back, wheredja go????????????