May 28, 2003
The reporting of wholesale spot natural gas prices, whichIntelligence Press Inc. — more commonly known as Natural GasIntelligence or NGI — has been doing for nearly 20 years,has come under fire and extensive discussion in the wake of theflame-out of the merchant energy sector.
NGI has participated in some of these discussions and isaware of the suggestions which have been made to improve pricereporting. In recent months, addressing the reduction in trading andprice report submissions, NGI has informed market participantsof changes in its data collection in NGI’s Daily Gas Price Indexand NGI’s Bidweek Report. In this statement today we areoffering our readers, those who contribute to and use our pricinginformation, a comprehensive explanation of our position in thecontroversy that has developed over the function of price surveys.
At NGI, we have always been aware of the heavyresponsibility we carry as aggregators and purveyors of natural gasprice information and have worked hard at delivering a price reportthat is as complete and accurate as possible. It is not an easy job,but we have grown up with the gas market, learning its quirks andnuances as we went along.
Going forward we are very determined to protect the trust andresponsibility the price reporting function requires. While the factthat false data has been submitted to energy price publicationsappears to have come as a surprise to some, indexing publications havelong been aware of the threat to their indexes and have developedmethodologies to help guard against manipulation.
In the wake of the reports of false submissions and governmentinvestigations into the nature of price discovery that publicationsperform, there have been suggestions for changes, for governmentoversight, and even for the federal government to take over pricecollection and reporting.
In this period after the nationwide collapse of the speculativestock market bubble, we realize the investigation of our function isjust one part of the backlash that is affecting many companies,government agencies and financial institutions. We are concernedthat, particularly for major companies in the energy industry, thisbacklash – the desire to place blame and extract retribution – mayhave gone too far. It is seriously damaging the operation of thefundamental energy market and the ability of the industry to reliablyfuel the nation.
NGI’s part in this is small, but the price discoveryfunction is critical to the market, and we have taken the opportunityto examine our practices to look for ways to improve, and areproceeding on a number of fronts.
NGI Enlists Industry Cooperation
NGI has participated in the technical conference onpublished price surveys held by the Federal Energy RegulatoryCommission (FERC) and engaged in discussions with the Committee ofChief Risk Officers (CCRO), which has developed a policy of “BestPractices.”
We also have initiated action with the North American EnergyStandards Board (NAESB) to have that organization, with industry andpublisher participation, standardize and define the locational pricingpoints used by price index publishers. NAESB has given us indicationsthat, pending action by its board, it will be able to undertake thestandardization.
Most importantly, NGI is broadly distributing a solicitationfor companies which have not reported prices in the past or who havelet their price reporting lapse to make contributions to our surveysin the interests of a robust market measure. We also have appeared invarious forums to urge buyers and sellers to do less indexing to ourpublications’ prices and those of others, and more fixed pricetrading, particularly in the monthly baseload market.
While NGI has contributed to the efforts to address themanipulation problems of the past, and guard against their return inthe future, we are more concerned that the downsizing of the traders,the middle men in this market, has left a serious void of fixed pricetrading. Utilities and producers have always tended to index, leavingthe heavy lifting of fixed price trading to the marketers.
Most of those marketers are gone or with their credit reduced, havedownsized to the point where they make very little contribution to themonthly fixed price market. Their credit apparently is adequate tocover daily transactions and that market is more robust, but theirparticipation has declined precipitously in the monthly baseloadmarket, where the bulk of the gas is traded.
We are seeing regional marketers expanding to some degree to fillthe trading gap, and we are urging others to do at least some of theirtransactions at a negotiated fixed price. And, of course, report thetransactions to the pricing publications. NGI is circulating aletter to market participants and offering to sign a confidentialityagreement with those who will join our survey.
The CCRO has proposed a contract, the “Data Submission, Usage,and Confidentiality Agreement” (DSUCA) to be used as a model tobe signed by market participants in price surveys and the publishersdoing the surveys.We agree in principle with much of what the CCRO hasproposed. The CCRO, however, being a large committee with many membersto please, has created a rather lengthy (17 pages) and complexagreement, which could be discouraging to would-be participants andcause a delay in the process of revising and re-establishing reportingrelationships.
Proposed Confidentiality Agreement
NGI has created a one-page letterof understanding (LOU), which we believe covers the main tenantsrequired by publishers and participants in the survey process. Again,we understand we are dealing with many different companies withvarious degrees of legal concerns and are willing to discussalterations to the contract or substituting a company proposal,understanding that the main goals are to ensure confidentiality andtimely, accurate reporting.
Basically, NGI’s proposed agreement states that NGIwill:
Data providers, under the LOU would pledge to:
A copy of NGI’s proposed agreement is available at https://intelligencepress.com/features/ngi_letterofunderstanding.pdf.We will be happy to discuss it and possible additions andsubtractions, since we are interested in getting the broadest possibleparticipation in our daily and monthly surveys. We know there is adebate raging in the industry over whether counterparty and buy-sellinformation should be included. Presumably, some day it will beresolved — or not. In the meantime we will not let that debate standin the way of getting the broadest participation in our surveys.
NGI is very strongly of the opinion that multiplesubmissions and price quotes from the largest, most varied number ofmarket participants is the primary factor in achieving accuratepublished prices. A robust sample is the strongest defense againstattempts to manipulate either the published prices or the underlyingmarket. Thin markets are more easily pushed and may not be reflectiveof underlying supply and demand. They therefore will not provide theproper signals for needed investment in infrastructure and to allocatesupply to its highest uses.
Bolstering the Market and Slowing the ‘Train Wreck’
Currently the natural gas market isfacing its stiffest challenge since trading began 20 years ago. Thosewho would reduce and control the competitive market have been lobbyingCongress, the Federal Energy Regulatory Commission and othergovernment agencies to install stiff reporting requirements to allowgovernment to track every move the market and its participantsmake.
With a shortage situation loomingprices have been going up, and market pressures could increase,depending on storage fill and the summer and winter weather. If theyescalate wildly, consumers will revolt and the political pressures tocap or control prices will surely increase. That type of action wouldsimply act to discourage drilling and decrease supply. One analysthas described the current situation as “watching a train wreckcoming.”
The natural gas industry and itslarge end user and utility customers need to do everything they can –NOW — to slow down that train. The higher prices are spurringproducers to increase drilling, but the accessible reserve base isdiminished and the lead time is the killer. Congress needs to actresponsibly to open promising areas to development if natural gassupply for the nation is to be sustained long term.
In the short term buyers and sellerscan do their part to help the market flourish by increasing theirparticipation in fixed price contracts and reporting transactions tothe pricing publications. More market participants increasing theirattention to the contracts they sign, and reporting data to thepublications will help iron out some of the wild gyrations that occurin a market under extreme pressure.
A true market requires input fromall sides to keep the prices in line. Some analysts have suggestedthat if those who actually produced and used the gas had been moreactive in the fixed price market, the broad price swings seen inrecent years might have been moderated. While indexing is convenient,it makes buyers and sellers “price takers” instead of”price makers.”
Regulators and legislators cancontribute to stability by encouraging a public understanding of theforces of supply, demand and conservation, opening up federal lands toincrease supply, and refraining from panicky screams of”manipulation” every time the price goesup.
State regulators can refrain fromusing a single measure of how close utilities come to the indexes todetermine whether utility purchases are reasonable, since thisencourages utilities to index much of their total load. Regulators, chargedwith protecting consumers’ interests, should encourage utilities toparticipate in the market to counter-balance those seeking higherprices.
Those who would replace the currentsystem of price surveys by publications should be aware of the longlead time and difficulties involved in developing a substitute for asystem that has been honed to fit the industry for 20 years. Possiblyin the future a new and better system could be developed. Those whohave proposed these systems should take time right now to gainindustry support and study closely the functionality of the measuresthey have proposed, to fine-tune them so they can be graduallyintroduced without an extensive systems shake-out period, once themarket has recovered.
Right now — heading into a critical period — is not the time todiscard the established system, as all of the major industry and enduser groups have recognized in advocating bolstering the existingsystems of published prices.
NGI, for its part, has beenworking with government and industry groups to explain the functioningof the natural gas market, to improve the price survey process andincrease the number of participants, as outlined above. In addition,we have attempted to guard against wide distortions inthe thin market, using secondary buy-sell information and ourexperience and knowledge of relationships, both historical and currentbasis reports, and physical market conditions when necessary. We havenoted when secondary information is used, and we are very muchlooking forward to a time when these measures will once again only beused for routine verification of questionable submissions.
Those devoted to strict statistical formulations have derided theuse of what they call “subjective judgment” by publishingcompanies. We would offer that one description for this”subjective judgment” is “expertise.” If thesewere elaborate surveys with unlimited time and total access to allinformation and the underlying markets were actively traded, youcertainly would eliminate so-called “subjective”judgments. As it is, we at NGI will continue to put ourexpertise and thorough knowledge of the market to good use.
Need for Baseload Fixed Price Trading
We are hoping we have come through the worst of the market andreporting contraction, which appeared to bottom out in November,2002. Participation has steadily improved (except for March bidweek)since then. However, we have noticed that the more volatile themarket is, the more buyers and sellers tend to index rather than trusttheir own judgment, which causes concern for the future. The irony inthe debate over the validity and lack of confidence in the publishedprice surveys has been that some of those who have been the mostcritical have been indexing more than ever.
NGI continues to encourage market participants to do as manyfixed price trades as possible and report them in the pricesurveys. NGI also includes physical basis trades, and thosesubmissions should be identified as such. If you do not currentlyparticipate in the surveys and would like to, call Mark Curran at503-235-1174 or Dexter Steis at 703-318-8848. You also may contactEditor/Publisher Ellen Beswick to discuss our price surveypolicy. Curran and Beswick have addressed meetings at FERC andindustry forums and are available to talk to other groups. Informationabout our veteran staff is available at https://intelligencepress.com/whoweare.html.
We also encourage companies not to put restrictions on theirtraders talking to our price reporters about market conditions andprices they have seen. It is important for us to keep in closecontact with the market, and access to traders is crucial.
NGI’s price survey methodology for the delivered to pipelinespot prices published by NGI’s Daily Gas Price Index andNGI’s Weekly Gas Price Index is available to anyone on ourwebsite at https://intelligencepress.com/methodology.html.It includes a description of our large and varied source base, ourpledge of confidentiality, specifics as to type and timing of priceinformation we use, our method of volume weighting price submissionsto create an average and a description of outliers that may beexcluded.
The final judges of our product are those who have continued to useit over the last 20 years. Market participants are aware of what isgoing on in the market and have in the past ceased using prices frompublications which they believed did not consistently reflect thatmarket. Unlike the power market, the natural gas market has developedover long years into an efficient and competitive market. Likewise theprice reporting on natural gas by NGI and Platts havecome to be accepted as a reasonably accurate reflection of thatmarket.
Additional evidence of that can be seen by examining trades on thenew Intercontinental Exchange. A substantial number of the trades areindexed to Platts or Natural Gas Intelligence. Indexespublished in Natural Gas Week also are used at certainpoints. The New York Mercantile Exchange uses Platts’ andNGI’s published indices at different locations to settle someover the counter trades.
Here, it is important to note just what price reporting bypublications is and what it is not. It is not a mandatory survey thatcollects data on every transaction and has an extended time period forreviewing all the data points.
Publishers’ Surveys Useful in Fast-Paced Market
It is what the market requires, however: a snapshot that collectsas much information as possible on a voluntary basis on where themarket is at the time and publishes it quickly so that marketparticipants can react. The market requires this fast feedback inorder to work efficiently and accepts as a trade-off that thepublished prices are not the result of perfect mathematicalcalculations of all trading that occurs.
Journalistic organizations typically have been the collectors andpublishers of market price information for several reasons: (1) theyare unbiased and hold no interests in the commodities traded; (2) theywork smart and fast and have ironclad deadlines; (3) they can promiseconfidentiality of competitive information under most circumstancesbecause of press protections written into the First Amendment to theConstitution. Prices of many commodities are tracked by journalisticorganizations. As an example, American Metal Markets has beenpublishing prices for steel and other metals since the 1880s.
Because the science of price reporting is inexact it functions bestif there are competing sources of market information – from otherpublications, from Nymex and other exchanges. This keeps all of ourfeet to the fire to put our best efforts into the enterprise. Notedpetroleum industry analyst Phillip Verleger has endorsedpublished price indices, saying “You need at least two, maybe three or maybe fouraggressively competitive press organizations” tracking the market. You couldinclude the expanding trading exchanges as providing some of that competition.
Now — with shortages pending and a very thin fixed price market –is not the time to discard the pricing publications, or what is leftof the natural gas market-making and price discovery apparatus. Anyorganization or government agency attempting to measure the marketright now would face the same major problem currently faced by thepricing publications, and without the years of market experience tohelp deal with it.
In the last six months we at NGI have seen a marked increase in thequality of the data that we receive in our price surveys; mostcompanies are reporting transaction level data from their mid or backoffices on a consistent basis in electronic format with a number ofcompanies also providing counterparty and buy sell information. Whilemore needs to be done many of our concerns about spurious data havebeen alleviated.
The problems we face in today’s market are not withthe quality or truthfulness of the information we collect butrather the lack of trading activity in the markets we cover and thequantity of information available. Buyers, sellers and regulatorsshould be focusing on rebuilding the market, contributing input byabandoning indexing at least for some of their transactions, doingmore fixed price trading, and reporting transaction data to thepricing publications whose indexes so many depend on.
At this juncturewe feel that those concerned with published prices should focus onincreasing participation in the confidential surveys of the newsorganizations as well as aspects of policy that serve to increaseparticipation and activity in fixed price trading of naturalgas.
Right now, the problem is not the bean-counters, it’s the lack ofbeans.
Ellen Beswick Mark Curran
Editor/Publisher Price Editor
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