Oil

by Tom Bower

  The news soon emerged that Captain Joseph Hazelwood, in charge of the Exxon Valdez, had spent the previous afternoon drinking straight vodkas in a bar. Hazelwood had twice been convicted of drunk driving in New York, and Exxon knew he had been treated for alcoholism in 1985. Yet eyewitnesses among the crew would testify that he did not appear drunk, and that at the time of the accident the ship’s third mate was navigating. Nevertheless, the effect of the collision was made worse by the captain’s attempt to reverse the tanker off the reef, and by the failure to spray disinfectants over the oil. In a clash of testimony, Exxon would claim that the coast guards refused the company’s request to spray the surface, and some transcripts of telephone conversations showed that local officials didn’t know the location of the equipment and chemicals. In their defense, Alaska’s officials would assert that Exxon was only trying to mitigate the horrendous publicity targeted at the corporation after the federal authorities began reporting the destruction of wildlife as a result of the oil spillage. The damage was colossal. Fish over a large area were destroyed, and the carcasses of 36,000 migratory birds and 100 eagles were taken to a freezer as evidence of Exxon’s criminality. Television pictures of otters drowned in oil, dead seabirds and fish appeared to confirm the allegations by some of the 11,000 people employed by Exxon to clean the water and coastline that 85 percent of the dead birds had never been discovered.

  The public’s anger at Exxon was intensified by the news from New Jersey. On January 2, 1990, Exxon was accused of “stonewalling” an investigation about a spill of 567,000 gallons of heating oil from a pipe into the Arthur Kill channel, off Staten Island. Exxon admitted that its detection system had malfunctioned since 1978, but initially claimed that only 5,000 gallons of oil had leaked. Few were persuaded by a spokesman’s denial that the corporation was “sloppy.” The judicial process aggravated the anger felt toward Exxon. In Alaska, exactly one year after the Exxon Valdez spill, Captain Hazelwood was acquitted of navigating under the influence of alcohol and only convicted of a misdemeanor, namely the negligent discharge of oil. Two years later even that conviction would be overturned, and he emerged without any punishment whatsoever.

  Exxon’s progress through the courts was lengthier, but similarly controversial. Under the threat of a federal criminal trial starting in April 1991, Lawrence Rawl and Lee Raymond, his deputy, spent 57 days successfully negotiating a global settlement with Governor Walter Hickel of Alaska. Just before midnight on March 12, 1991, Exxon formally pleaded guilty to four federal misdemeanor charges and agreed to immediately pay a $100 million fine and a further $900 million over 10 years to settle civil claims. The following morning, politicians and environmentalists welcomed the agreement. By nightfall, the arrangement had been undone by Rawl’s candid revelation about Exxon’s concern for its shareholders. “The settlement,” he announced, “will have no noticeable effect on our earnings.” The worst legacy of the previous year, he confessed, had been the bad publicity. The settlement coincided with Exxon’s highest-ever quarterly profit of $2.2 billion. The previous quarter, the corporation’s profits had jumped 21 percent.

  Judge Russell Holland, a federal judge in Alaska, was outraged. “I’m afraid that these fines,” he said, “send the wrong message, suggesting that spills are a cost of doing business that can be absorbed… They do not adequately achieve deterrence.” The fine, he felt, needed to be unabsorbable. The eccentric Judge Holland, a lanky, bearded Republican and a member of the Petroleum Club, was unwilling to allow Exxon to pay and move on. His intervention divided Alaska’s politicians and ended Exxon’s agreement to pay extra compensation. In a bold gambit, Exxon withdrew its guilty plea and challenged the government to prove its case in front of a jury. Alaskans, especially fishermen, who had suffered serious losses, feared they might receive no compensation at all after the stakes were raised. Under Judge Holland’s direction, a jury ordered the corporation to pay $5 billion in punitive damages. A shocked Exxon appealed, launching a process that would only end in 2008.

  To the public outraged by Big Oil in the midst of the Iraq War, it appeared that the oil majors had learned nothing since an oil spill into the sea off Santa Barbara in 1969 that had terminated offshore drilling in California and paralyzed Chevron’s production in Point Arguello, off Santa Barbara, for three years. Negotiations to restart operations had finally been destroyed by the Exxon Valdez disaster and a contemporaneous oil spill off California. “These days,” admitted George Babikian, the president of Arco’s refining and marketing, “you mention oil company and people see some big, fat, greedy guy with a cigar and dirty fingernails counting his money. We don’t have a hell of a lot of credibility.” Big Oil’s unpopularity was not only born out of Raymond’s lack of obvious contrition in the aftermath of the Alaskan court’s $5 billion award. Exxon was already vulnerable after a nasty battle between the oil companies and Chuck Hamel.

  Hamel, a successful oil broker, had been ruined during the early 1980s after his customers found water contaminating the oil he supplied from Alaska. In 1985 he produced evidence that, he said, proved that the oil companies had deliberately added water to the crude, and sought compensation from Exxon and BP, two of the seven co-owners of the Alyeska pipeline. “I decided to expose the dishonesty of the oil industry,” he later told a congressional committee. During his research, Hamel discovered that “the oil industry was turning Alaska into an environmental disaster.” Employees of Alyeska, the owners of Alaska’s pipeline, had provided him with internal documents proving the company’s violation of environmental laws. “We are living in a conspiracy of silence,” he pronounced, “waiting for an environmental disaster to happen.” Over the years, he said, the pollution of the sea, earth and atmosphere around the terminal at Fort William Sound had been concealed by Alyeska’s fabricated records, a charge Alyeska strenuously denied. “The oil industry isn’t putting out anything but poison and lies,” Hamel insisted.

  Alarmed by Hamel’s allegations, the oil companies discovered that their rebuttal, discrediting him as vengeful and insane, had encouraged Alyeska’s employees to secretly supply him with more damaging information. Worse, Hamel’s campaign coincided with the Exxon Valdez spill. “That goddamned, insane son of a bitch,” Rawl was reported to have cursed. Fearful of Hamel’s enhanced credibility, Exxon, BP and Arco hired Wackenhut, a firm of investigators based in Florida, to covertly identify the employees supplying the embarrassing information to him. Posing as an environmental lobbyist, Wackenhut’s director of special investigations befriended Hamel, entered his home, unearthed his long-distance telephone records and secretly recorded his conversations. In September 1990, long after Hamel’s sources had been identified, the undercover operation was exposed. Summoned to appear before a congressional committee on November 6, 1991, the directors of Exxon, BP and Arco were castigated by outraged politicians for corporate skulduggery.

  Hamel was not assuaged. By then he had a third grievance against Exxon. Hamel had owned a lease at Point McIntyre, a stretch of land on Alaska’s oil-rich North Slope. With apparent sincerity, Exxon’s representatives had persuaded him that no oil reserves lay under this land, and, convinced by their tests and representations, he sold his lease to Exxon for a low price. Several weeks later the corporation announced the discovery of oil under the same land, and soon after, a rig began producing 158,000 barrels a day from it. Hamel sued Exxon. In 1996 he would agree to a settlement for compensation, though for far less than he expected.

  Throughout these events, Lee Raymond betrayed no hint of concern about the Alaskans or Hamel. He appeared not to have thought about the potentially serious consequences for Exxon’s future in Alaska. Yet the oil companies had pursued Hamel out of fear that his revelations of environmental damage would undermine their chance of drilling in the Arctic National Wildlife Refuge. Surveys by Arco’s geologists suggested that 1,000 feet beneath the permafrost was an oil reservoir as big as any in the Middle East. Until then the passage of a bill through Congress to al
low drilling had seemed assured. The Exxon Valdez spill challenged the entire project, and on November 1, 1991, the bill was rejected. “We have drawn a line in the tundra,” declared Senator Joseph Lieberman, leading the opposition. Unexpectedly, the public outcry had also persuaded President Bush to terminate the proposed drilling off the Florida Keys and to buy back the offshore leases sold for $108 million to the oil companies in 1984. $200 million had already been spent on exploration to locate at least 10 billion barrels of oil, but that was ignored. Few outside the oil industry were impressed by the American Petroleum Institute’s plea on behalf of “the free market” in the weeks after the Gulf War ended in February 1991. The hostility toward the oil majors was reinforced by their admission that profits in the fourth quarter of 1990 had increased by 77 percent, making them easy targets for vote-hungry congressmen. Politicians suspicious about the oil industry’s manipulation of the market led the protests. Laws to control the corporations, limit fuel consumption and encourage fuel-efficient smaller cars poured out of Washington. Browbeaten, the editor of Oil & Gas commented, “Lawmakers are driven to tell otherwise free people how to behave.”

  Oil company executives and traders retreated from the argument. The Western economies were going into a recession, and the oil industry was in turmoil. Washington’s hostility to Big Oil had hastened the industry’s decline since the 1986 price collapse. Taxes and regulations were discriminating against small producers. Despite new discoveries in the Gulf of Mexico, Texas and Alaska, imports had surged in January 1990 to 54 percent, the highest in American history. Ninety thousand wells across America were still mothballed, dismantled and closed, leaving under 500,000 operating. Every year since 1986 domestic production had fallen by between 2.5 percent and 6.5 percent, and was now below seven million barrels a day. The domestic industry could have been expanded to produce nine million barrels a day, but it felt battered, especially by Senator Barbara Boxer of California’s conservation campaign. The crisis gave the oil companies a chance to use the extra profits to invest. Instead, their profits were attacked. “We are now relying on military force rather than energy policy for our energy security,” observed Senator Frank Murkowski of Alaska, unsuccessfully seeking more exploration in his state. “Americans will find it unacceptable to put American lives at risk because we have not made the hard choices to formulate a policy.”

  In the aftermath of Iraq’s defeat, the industry’s plight worsened. Most traders had expected prices to rise. Over 600 wells were blazing in Kuwait, whose oilfields were strewn with booby traps, unexploded bombs, land mines and huge lakes of crude oil. Yet demand was slipping just as record amounts of oil were being produced. Venezuela and Iran had increased production to earn more money at a time when oil stocks in the terminals were at their highest levels since 1982. Western fears of oil prices soaring above $50 a barrel had been replaced by Saudi Arabia’s concern that overproduction of four million barrels a day would cause a slump in price. The price in December 1991 was $17, then rose to $30, but fell by the end of January 1992 to $16. In July it was below $16 and still falling. OPEC’s overproduction and Iraqi supplies returning to the market aroused Saudi fears of $10 oil. Amid a mini-recession, the oil majors slashed their exploration budgets, decommissioned rigs and, in America, reduced crude production to 6.9 million barrels a day, the lowest in 35 years. In Prudhoe Bay, Alaska, Arco plugged a well that had been operating since December 1970. The site was marked by a Christmas tree. Following Russia, the nationalistic governments in Mexico, Brazil, Peru and Ecuador considered welcoming the return of the oil majors and the privatization of their oilfields to cure their budget deficits. By the end of 1993, oil was $15, a three-year low.

  Injured, Andy Hall sold Phibro’s two refineries. Pacing his office in Greenwich, Connecticut, he gradually shied away from squeezing his rivals, playing long instead. His withdrawal coincided with Laney Littlejohn desperately seeking to control oil prices and Morgan Stanley opening trading desks in Tokyo, Singapore, London, Houston, Denver and Calgary. Monitoring 24-hour trading from their New York headquarters, John Shapiro and Neal Shear understood that expansion brought greater influence over prices. New regulations to protect the environment and force the companies to manufacture cleaner fuels had created a shortage of tankers and pipelines and a scarcity of some oil products. Shapiro secured finance to construct new storage tanks — eventually the bank would have the capacity to store 40 million barrels of fuel — and in 1998 the charter of a tanker, the first of a fleet of 100 ships sailing among 40 locations. Transporting crude and its products from the cheapest to the most expensive markets became integral to the bank’s operation. Speculation and profit from the world’s lifeblood had become uncontrolled.

  In the wake of the Gulf War, the chance of making huge profits from the volatility of the oil price had attracted Arthur Benson, the head of the “energy group” in Metallgesellschaft, one of Germany’s leading industrial conglomerates. Benson was renowned for having made millions of dollars masterminding a “backwardation” strategy in the jet fuel market in 1991. “Backwardation” is when the “spot” or existing price is higher than the future or forward price. The opposite is “contango,” when the “spot” price is lower than the future price. Predicting the shifts between “backwardation” and “contango” was the making and breaking of traders. Benson’s “backwardation” success in 1991 emboldened his belief the following year that oil prices would continue to be in “backwardation.”

  The crucial event was OPEC’s meeting in Geneva in September 1992. Benson noted that some producers, including Iran and Ecuador, wanted to restrict supplies to force prices up. Saudi Arabia rejected the suggestion, and the meeting ended in disarray. Believing that prices would rise, Benson sold derivatives involving 160 million barrels of gasoline and heating oil, roughly 85 times the daily output of Kuwait. Metallgesellschaft’s risk was considerable, but Benson, believing that the company had sufficient finance to absorb the risk, calculated that it would profit whether prices increased or decreased. His belief that he was “hedging” the risk was mistaken, and Metallgesellschaft did not in fact have sufficient money to cover its trades, especially once oil prices fell further than he had anticipated. Instead of cutting his losses, Benson continued to buy oil derivatives. He was no longer hedging, but speculating that the “contango” would return to “backwardation.” But the market remained in “deep contango.” By September 1993, dubbed “a cowboy without cattle,” Benson was ordered to unwind his positions, losing about $1.4 billion. Those who profited from Benson’s folly were those traders who had bet against him. Among them was Castle Energy, a refining company that had sold Metallgesellschaft gasoline and heating oil for future delivery at the higher prices, on the assumption that prices would in fact fall. Their wisdom was Benson’s disaster. He was fired, and Metallgesellschaft was ruined. Speculating about oil prices, insiders acknowledged, was not suited to amateurs.

  The involvement of bankers and big traders complicated the pricing of Saudi oil for Laney Littlejohn. Regularly, Littlejohn was told by Jorge Montepeque that his pricing mechanism was being manipulated. “We’re watching Japanese traders squeeze the market in Dubai,” Montepeque declared. “Everyone’s manipulating in Dubai. It’s full of daisy chains.” Aramco or Shell could have terminated the squeezes by releasing more oil in the region, but refused. Montepeque suspected their motives. Littlejohn was unimpressed. “Platts’s prices are goofy,” he complained, “because Platts’s assessor is goofy.”

  As self-appointed policeman, Montepeque’s ambition was to impose regulation and remove corruption from a trade crossing every national frontier 24 hours every day. “I’m a driver to bring up standards,” he told traders. His cure in 1992 was to introduce “Platts Global Alert,” an online system of bidding on the Platts screen in Singapore, starting at 4 p.m., for just 30 minutes. Within that restricted window, known as “market on close,” traders could post the price they had bid or offered for a fuel. Montepeque chose that r
estricted dealing time in order to prevent dealers manipulating the price during the day, but compelling subscribers to use a screen also earned huge profits for McGraw-Hill. In that structured environment, Platts was not an exchange but a marketplace. “I’m bringing core transparency to the market and making the community more trustworthy,” he announced. Littlejohn and others criticized Montepeque for creating more problems than he solved in order to generate profits for Platts. Thirty minutes at the end of the day, Montepeque was told, did not reflect a whole day’s activity. “I like to trade market risk,” said Charlie Tuke, “not what someone tries out at the end of the day.”

  As Littlejohn predicted, some traders invented new ruses. Artificially low or high prices were listed in the Platts window to establish the threshold of a dishonest trade. In a practice called “all-day capture” or “shower deals,” a trader who was contracted to buy, say, six tankers of oil with four million barrels would sell 600,000 barrels at a low price into the Platts window to depress the published price early in the morning while showering in his bathroom. By fixing Platts’s market until the end of the day, he hoped to manipulate a low price for the six tankers he was contracted to purchase the following day. Other dealers conspired together to “wash trade” — one publishing a price on the Platts screen for the sale of a cargo of oil to the other and agreeing to buy it back privately at a lower price. Their purpose was to set an artificially high price for a contract with a third trader; a variation is called “buying through the offer” or “selling through the bid” to set an artificially high or low price. Aggressive traders were also posting phony artificial deals in the screen window to increase their bonus payments from unsuspecting employers. The complications were compounded because Glencore and its major competitor Vitol, founded in 1966 by Dutch trader Hank Vietor and his son, were no longer mere traders but, like Morgan Stanley, had become owners of refineries, pipelines and storage tanks in Rotterdam and other ports. Occasionally Vitol controlled more oil afloat than any rival, albeit at most 1 percent of the total. The published price of oil products on Platts was critical to Vitol’s profits because it could leverage — that is, earn profits — by speculating between crude and product prices. It could also trade the difference between paper and physical oil, using its ownership of crude in storage tanks to cover any position.